Few subjects seem to generate as much heat from financial advisors as the merit (or lack thereof) of cash value life insurance.
Few dispute that low-cost term insurance is optimal for younger people who need coverage for the short-term. However, term insurance can eventually become unaffordable, placing strain on the ability to make retirement income last.
For clients who want insurance for life, cash value insurance is a viable (and often the only) option.
For these clients, in addition to providing insurance payable on death, cash value insurance is a safety net against unexpected expenses, including medical bills.
This article explains the benefits of term vs. cash value insurance, and discusses when each one should be considered.
The use of cash value insurance in MAP
In Middle America’s Plan (MAP) we appear to flout these basic principles. We advocate the purchase of a Limited-Pay Whole Life policy for those aged 25-45. This recommendation has caused some confusion.
Many advisors group all cash value policies into one negative pile. There are various different cash value policies including Fixed, Indexed, and Variable Universal Life. These policies are structured much differently than a traditional whole life product, and often carry fees which can be subject to change. These types of policies are also more complicated, and don’t fit the unique purpose of MAP.
The type of policy we recommend in MAP has a very focused purpose. It’s to provide sufficient income from accumulated cash value built up in the policy so the policyholder can defer taking Social Security benefits until age 70.
We recommend it be used in this way only, for our targeted demographic: Middle class Americans earning between $50,000 and $100,000 a year.
These policies guarantee tax-deferred cash value accumulation and a guaranteed level death benefit. Premiums are level and are guaranteed never to increase (with rare exceptions, generally not applicable when the policy is issued by a highly rated, reputable insurance company). The policy can’t be cancelled as long as premiums are paid.
The premium-paying period is shorter than most other policies, and cash value accumulates much faster. Once the premium payment period ends, no additional premiums are required to keep the policy in force and its value will continue to increase.
Limited-Pay Whole Life policies come in a variety of forms: 10 Pay, 20 Pay, Paid-up at 65, etc. The premiums for each design are adjusted accordingly.
With MAP, we customize premiums to end at age 60, when most members of the middle class will begin to feel financial pressure, often causing them to elect Social Security benefits at age 62, with tragic consequences.
The use of this specialized policy, for this purpose, and with this targeted demographic, works seamlessly. That’s why MAP is a game-changer for those who want a guaranteed income stream in retirement of a minimum of 70% of their pre-retirement income, without primary reliance on the stock market.
The return on cash value can compete with fixed income securities
We estimate the internal rate of return on this type of whole life policy to be in the 3-4% range, if held past age 60 Most whole life policies in the market are participating, which means the owner of the policy can receive annual dividend payments. These dividends can further boost the returns. Dividends are generally driven by mortality, expenses, and the earned rate on the insurance company’s investment portfolio.
MAP isn’t right for everyone. Neither is cash value life insurance. But understanding when both come together to provide an elegant retirement solution for your clients is critical to adding value to your clients.
This article in Financial Advisor Magazine may change some of your negative views of cash value life insurance.
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