InsuranceYak.com

January 08, 2008 1 Comment

Thanks to Aaron C. Pinkston of Council Financial  for another guest post. 

When I was first introduced to the world of insurance, my supervisors at a large, well-respected insurance company encouraged us to sell life insurance as part of someone’s retirement plan.  The pitch is usually something about tax-deferred savings and potentially tax-free distributions from the life policy. 

Insurance agents who sell this strategy can range from mild - “only consider this if you have maxed out all of your qualified contributions” - to extreme - “this is such a great plan, you would be foolish to hide money away in your 401(k) or Roth IRA”.

This strategy hinges on the tax advantages of life insurance.  The real trick is handling those distributions correctly.  This requires keeping your policy active during your entire life, even while you are pulling money out.

There are two basic types of life insurance policies that are used to execute this potentially tax-free retirement plan: universal life and whole life.

Universal Life-Based Plans 

This type of policy is becoming increasingly popular.  One reason is that it is easy for agents to point to percentage rates which may be credited to your account.  Very often there is a minimum interest rate, which is great because you are assured of having that amount credited to your account, even in the worst of times. 

The problem is that while most universal life policies proudly mark the interest rate, the deductions coming out of your account for mortality and administration are not as easy to find.  These numbers are usually not shown on the illustration. 

Find the definitions or footnotes that explain the difference between the guaranteed and current (non-guaranteed) columns so you see it in writing.  If there is a difference in the mortality and administration deductions, companies can typically change these internal costs at anytime for any reason.  If you or the agent is focusing on the percentage rate credited to the cash value, you are probably missing half the story.

You may be comfortable with interest rates going up and down - that seems familiar.  How do you feel about an insurance company changing its internal costs for any reason?  Will you feel the same way about this insurance company 15 or 30 years from now when you are ready to retire?  What if you have taken a loan and THEN the company decides to increase its cost of insurance?   

Whole Life-Based Plans 

Unlike universal life-based policies, whole life-based policies have fixed insurance costs.  They also perform comparatively well when you look at the guaranteed cash value.  This does not mean, however, there are no potential pitfalls.

With whole life, the difference between the guaranteed and non-guaranteed columns is a reflection of the dividend.  Read the illustration just to be sure.  You want to find it in writing. 

A dividend cannot be guaranteed in any way and past performance is not an indicator of the future.  You will find a similar statement in your sales illustration (usually on every page) because it is important.  A dividend may be higher, lower, or non-existent year to year.  The company controls the dividend, not the individual policy holder.

A dividend percentage is not the same as an interest rate because a dividend represents an overcharge of premium that the company did not need that year.  What happens to your retirement plan if your dividend goes down 3% next year?  What happens if the company stops issuing a dividend in 20 or 40 years?  What happens if the mutual company decides to become a stock company as so many have? 

Conclusion 

The popular financial media usually finds fault in using life insurance as a retirement tool by stating investments and insurance should be kept separate, perhaps because of cost.  This argument is too simplistic. 

However, this strategy requires handling a conservative asset in an aggressive manner.  Using universal life and whole life in this manner pose additional risks that the average investor is not exposed to.  Your retirement fund is at the mercy of business decisions made by one company.  Should you trust the performance of your retirement plan to one company?  You might be wise to seek advice outside the insurance industry or to talk with someone in the insurance field who has a different perspective. 

Any time or money spent during the decision process will most likely be small compared to any pitfalls or costs you may have avoided.  When a plan should last the rest of your life, a well-informed decision is better than a quick one.

Aaron C. Pinkston
Director of Insurance
Council Financial
http://www.councilfinancial.com
51 Kilmayne Dr.
Suite 304
Cary, NC 27511
919-467-5772 (p)

Life Insurance, Health Insurance

Permalink Comments RSS