There’s one thing that every life insurance policy you have should not be without: waiver of premium.

Waiver of premium is a rider that you can add to any type of life insurance policy.  It pays the premium for you if you are disabled.  This rider will vary slightly from company to company but will usually kick in after you are disabled for 6 months.  What premium is paid will vary slightly depending on the type of policy.

Universal Life Insurance

The waiver of premium on most Universal Life insurance policies will pay the greater of the monthly charges within the policy or a specified amount designated by the policy owner at issue.

Whole Life Insurance

The waiver of premium on most Whole Life insurance policies will provide the premiums for the base policy as well as most additional riders.

Term Life Insurance

The waiver of premium on most term life insurance policies will provide the premiums for the policy.  Convertible term insurance will usually have a added waiver benefit which would allow the policy owner to convert the term insurance into a more permanent policy during the disability thus having the waiver of premium continue to provide the premiums for the policy as long as the disability continues.

For example, if you had a 20 year convertible term insurance policy with the waiver of premium and you became disabled during that policy, while the waiver of premium rider was providing the premiums, you would have the option to convert to a more permanent life insurance policy and continue to have the waiver of premium provide the premiums for the life insurance policy.

Waiver of premium, it’s your life insurance’s sidekick.

Related posts:

1. Hidden Gem of Life Insurance Policies
2. Life Insurance Secret
3. Life Insurance Breakpoints

The earliest life insurance policy on record was issued on June 15, 1583 in London on the life of William Gybbons.  It was for a 12-month period.

Life insurance was born as annual renewable term (ART).  What ART is is life insurance coverage one year at a time.  What this means is the cost of the coverage is projected out but not guaranteed.  You find out each year what your premium will be for that given year.  Then you decide if you want to keep the coverage.  Sounds a bit crazy doesn’t it.

However, if you are looking for to save money on short term coverage you should definitely consider annual renewable term insurance.  What do I mean by short term?  Well most life insurance companies offer term policies in increments.  The most common are 5, 10, 20 and 30 years of coverage.  ART is something that you should look at as an alternative to 5 or 10 year coverage.

What annual renewable term insurance can do for you in the short term is save you money and provide the ability to carry your coverage for an extra year or two at a reasonable rate.  As anyone who has read their term life insurance policies (anyone?) knows, after your coverage period is up the premiums increase dramatically.  This happens with ART as well but since the guaranteed coverage period is one year it happens more gradually over a period of time.  In fact, a competitive ART policy only starts to see drastic increase after about 12 years (give or take).

Let’s give you an example:

I chose a life insurance company with a 99 Comdex rating.  I’m running a few illustrations for a 35 year old male, in Massachusetts and I’m running them at preferred rates for $1,000,000 of coverage.

For 5-year Term life insurance, this person would pay $510 per year.

For 10-year Term life insurance, this person would pay $700 per year.

Now it gets tricky for annual renewable term insurance but the estimations for the first 11 years (the drastic increase happens in year 12) are: $295, $325, $375, $425, $465, $515, $555, $595, $645, $695 and $775.

This example seems like a bit of no-brainer.  There is a bit of a risk though.  The future premiums on annual renewable term insurance are not guaranteed, they are projected rates. Only the first year premium is guaranteed.  The future premiums could very well increase.  However, when thinking about shorter term policies an ART policy could allow you added flexibility of keeping that policy an extra year or two at a reasonable premium.  That’s an option you wouldn’t get with traditional term insurance.

It can be a great way to save some money. If you have thoughts or plans to convert to a more permanent policy in the near future this will allow you to minimize the short term costs.   The most competitive policies will have full convertibility options as well as the waiver of premium feature just like all other term life insurance policies.

Go ask your financial guy about annual renewable term. When he/she doesn’t know or stumbles, come back here ask your questions, contact me or get an insurance assessment.

Related posts:

1. Life Insurance Breakpoints
2. Whole Life Insurance is Stackable
3. Universal Life Failure Part I

Last week we started by looking at some sweet spots for your disability insurance policies.  This week we are going to jump right into looking at some add-on features that you need to know about when evaluating your own disability insurance policy or shopping for a new and/or better policy.

1.  Catastrophic Rider

I’m starting with the catastrophic rider because it is one of the more inexpensive riders to add on to your disability insurance policy that can provide a huge benefit.  The catastrophic rider pays additional benefits for certain severe disabilities.  Severe disability is usually defined as presumptive disability or total disability.  The benefits of this rider is that you will receive a higher disability payout usually about 100% of your pre-disability income.

2.  Cost of Living Adjustment Rider

This is usually referred to as the COLA rider.  One of the biggest eroding factors of your wealth is inflation.  A great way to offset, or fight back, is adding a cost of living adjustment rider.  This rider can insure that your monthly benefit will keep pace with inflation.  Most of these riders have a 3% adjustment built in.  Make sure it is a compounded 3% and not a simple 3%.

I’ve also seen this adjustment work in a few different ways.  For some policies it only goes in affect when you are out on a claim.  In this case, you make a claim and your benefits will begin to increase 3% per year going forward.  I’ve also see this adjustment be made to your benefits regardless of any claims.  If your cost of living adjustment rider only kicks in when you make a claim, you are usually offered an additional rider as well.  This additional rider would be a benefits increase rider that would adjust your benefit amount before any claims where made and will usually result in your premium increasing slightly each year.

3.  Future Insurability Rider

This rider is sometimes referred to as the future increase option rider or FIO rider.  This rider allows you to purchase additional coverage without providing further proof of medical insurability.  You are, however, usually required to go through financial underwriting to make sure you qualify for the increased coverage.  This is a great benefit if you plan on having substantial raises or job opportunities in your future.  For example, if your goal is to rise through the rankings of your company, chances are each rise in rank will result in a nice bump in salary.  To be adequately covered you need your disability insurance policy to keep pace with your salary.  This is how you can lock in the ability to increase your coverage regardless of your health.

4.  Social Security Insurance Rider

This is an opportunity to save some money on your disability insurance.  What this rider does is offset the insurance company’s risk with any social security benefits you may receive.  It decreases the price of your insurance by providing a lower base benefit.  You would then add on the social security insurance rider and apply for social security disability benefit when something happens.  If your social security benefit kicks in then you would receive your base benefit from your individual disability insurance policy.  However, if social security denies you (as so often happens the first few times of applying) and you are considered disability under your individual disability insurance policy, this rider would step up to cover your social security disability benefit until when and if you ever qualify through social security.

5.  Residual Disability Benefit Rider

This rider is sometimes referred to as the partial disability benefits rider and provides a disability benefit if, when the insured is able to return to work and as a result of the disability, continues to suffer a loss in income.  The income loss is usually set to 20% or greater but I have see some as low as 15%.  For most people that become disabled there will come a time when your doctor says that it’s okay for your to return to work.  Unfortunately, you might not be able to jump right back into working full-time.  This rider allows you to ease your way back to work while picking up the loss of income from doing so.

6.  Own Occupation Rider

I only know of one company that offers disability insurance policies with built-in own occupation.  For all other disability insurance companies this is an add on feature.  The key to the own occupation rider is that even if you are able to return to work, if you are unable to perform the main duties and requirements of your previous occupation, you will continue to receive benefits from your disability insurance policy.  These benefits are regardless of whether you are working in another occupation or not.

7.  Retirement Protection Rider

This is one of the newer riders that I have seen on disability insurance policies.  In fact, this is usually offered as a stand alone policy as well.  Most people don’t realize that when you are unable to work, you no longer are allowed to contribute to a retirement plan.  When you become disabled you can’t continue to contribute to your retirement and the money you were previously contributing is not protected.   The retirement protection rider is designed to help ensure retirement funding can continue even if you are disabled.  You can usually cover up to 100% of retirement contributions, including employer-matching funds.  The way the retirement protection rider works is that benefits are paid into an irrevocable trust for your benefit and proceeds are distributed when you reach age 65.

Final Words

I’ve done my best to explain the main disability insurance riders or add-on features that most insurance companies make available.  These riders, as well as whether they are offered or not, can vary greatly from insurance company to insurance company and/or from disability insurance policy to disability insurance policy.  If you have any questions on your specific disability insurance policy then ask your financial professional.  If you don’t like his/her answer, don’t have a financial professional or are looking to obtain disability insurance feel free to contact me and/or look into an insurance assessment.

Related posts:

1. Pricing Your Disability Insurance
2. 5 More Ways Group Disability Insurance Disappoints
3. What Every Life Insurance Policy Shouldn’t Be Without

One of the biggest selling points for Universal Life insurance policies today are their secondary guarantees. Have you ever heard of them?  What’s been happening with Universal life insurance policies is that they are very reliant on interest rates.  How are interest rates today?  Lower than anyone ever thought they would be, even the life insurance companies, but especially the agents selling you the policy.  Well, truthfully, I don’t think the agents really cared, but that’s a whole other can of worms.

If we look back at the history and structure of a Universal Life insurance policy you can begin to understand how much they rely on the return the cash value of the policy receives.  If you think of your Universal Life insurance policy as a bucket you need water in that bucket in order to keep your policy.

The life insurance companies got smarter again. They realized that consumers where having problems with their Universal Life insurance policies as interest rates fell.  They can’t have people upset with them because that means people will buy less life insurance.  So how did they fix this?  The created secondary guarantees for Universal life insurance policies.

Universal Life insurance policies were born out of the ‘buy term and invest the difference’ concept. Life insurance companies knew they needed to compete with that concept so they created a life insurance policy that allowed you to ‘buy term and invest the difference’ within the policy.  This internal structure also created a lot of flexibility for the life insurance policy as well.  That’s how they where sold throughout the 80s and 90s, as flexible life insurance.

This flexibility meant that you life could happen and you could still keep your life insurance policy. If you miss a premium payment, they just take the money out of the cash value.  If you want to increase or decrease your life insurance coverage you no longer had to get a whole new policy, they just adjusted your current policy.  If you didn’t want to pay for your life insurance for the rest of your life, you could now pay more in the early years so that you didn’t have to pay later on and your life insurance would still be there for you.

These were just some of the great benefits that the flexibility of Universal Life insurance provided for the policyholders.  However, with extra flexibility comes more places that mistakes can be made. This is where your life insurance person becomes that much more important.  Most of the life insurance agents didn’t understand how Universal Life insurance policies worked.  In fact, most still don’t.  Insurance agents were selling the policies the way people wanted them regardless if it was best for the person.  They gave people what they wanted.

What happened was Universal Life insurance policies were too lean. What I mean is that they became too dependent on the returns the cash value got.  If the returns dropped (as they did) the policies need more money.  No one likes being told they had to payment, so it was time for the life insurance companies to step up.  The stepped up with secondary guarantees.

Most Universal Life insurance policies sold today are sold with a secondary guarantee. What the secondary guarantee says is something along the lines of, if you continue to pay at least $X amount of premium, this life insurance policy is guarantee by the good faith and claims paying ability of ABC Insurance Co. regardless of the cash value in the policy.  The key is the ‘regardless of the cash value’ in the life insurance policy.  This meant that if your Universal Life insurance policy ran out of cash value, you could still keep the policy in force and your premium stayed the same.

Great.  Now you don’t have a life insurance policy that is as reliant on the cash value within it.  Now you can save policyholders and insurance agents from themselves.

What people don’t understand is that these secondary guarantees are basically minimum premiums. If you fall below that minimum premium (i.e. miss a premium payment), this secondary guarantee will most likely go away.  Most life insurance policies won’t let you re-instate a lost secondary guarantee or if they do it will be a higher premium than it originally was.  You’ve now lost that flexibility that was the huge selling (or buying) point of Universal Life insurance.

Today’s Universal Life insurance policies are glorified permanent term insurance. People pay the secondary guaranteed premium which usually means the policy will have little or  no cash value build up.  The secondary guaranteed premiums are the minimum to keep the policy in force so they are not set to help you build cash values in any way.  They become term insurance, policies that will cover you for a set period of time (in this case permanently) with little to no walk away value.  Just make sure you don’t miss a premium, because as with term insurance, you just might lose your permanent policy.

If you read this policy and are wondering what kind of Universal Life insurance policy you have, I completely understand.  Pick up the phone and ask your financial planner and/or life insurance guy.  What did they say?  If their answer doesn’t sound quite right or you still have questions, contact me.  Or better yet, just get an insurance assessment.

Related posts:

1. Universal Life Failure Part II
2. Whole Life Insurance is Stackable
3. Life Insurance Secret

Price is only an issue in the absence of value.  The problem with disability insurance is determining value.  To understand this we first need to look at how disability insurance policies are priced.  We want to make sure we are getting the most bang for the buck and see if we can find some sweet spots from a pricing standpoint.

Occupation

The basis of all disability policies is to protect your income if/when you are unable to work.  Your occupation is the core measurement of risk from an insurance company’s point of view.  Occupation classes usually use a scale from from 5 to 1, 5 being the less riskier jobs to 1 being more risky.  Then they will sometimes add on an A and B for even riskier hands on occupation classes.  Obviously, the lower risk occupations become more cost efficient to protect.  For instance an office job is a lot safer from an insurance companies prospective than a job which requires substantial field work.  An office job might be a 4 or a 5 occ class while field work might be a 1 or a 2 occ class.  This makes the duties of your occupation even more important than the title itself.

An example of this is an engineer.  There are various different types of engineers that range from doing design from the comfort of their office to traveling and on-site field work.  I’ve seen engineer occupation classes range from a 2 all the way up to a 5 occ class.  This can really change things from a pricing standpoint as well as what companies will be most competitive for this particular person’s situation.

Income Protection

The first real decision that someone looking for disability has to make is how much of their income are they going to protect.  Under most circumstances the maximum coverage you can obtain for income protection is protecting 60-70% of your income.  This is an area where most people’s group disability fails (if you even have group coverage).  When your group disability falls short, the best thing you can do is put and individual supplemental disability insurance policy in place to help protect your short fall.  (Make sure not to mistake this for Aflac which is supplemental insurance and something totally different)

Why wouldn’t you want to cover as much of your income as possible?  A disability insurance assessment is a great way to determine whether you are or not.

Elimination Period

The next decision you’ll need to make when looking for disability insurance is when it will kick in.  For those more familiar with health insurance, which refers to it as a deductible, this is different because it doesn’t measure the money you will have to front but instead measures the time for which you have been disabled.

The most common elimination periods are measured in days: 0, 30, 60, 90, 180 and 360.  The sweet spot for most disability insurance polices is 90 days.  The reason for this is that there is usually a decent increase in premium to shorten your elimination period less than 90 days and little savings by increasing your elimination period beyond 90 days.  The best place to start here is 90 days.

Coverage Period

Coverage period is the length of time for which a disability insurance policy will pay benefits.  The most common coverage periods use to be: 2 years, 5 years, 10 years and to age 65.  Today there are more policies that have added: to age 67, to age 70 and even lifetime graded benefits.  The reality is that people are working longer today.

The sweet spot for coverage period is usually to age 65 or to age 67 if you are offered it.  I say if because some higher risk occupation classes have limited coverage periods.  If you are comparing policies age 65 is your best place to start.

Riders

Riders are add-ons to your disability policy that provide extra benefits for you as a policy holder.  However, they are not free.  Stay tuned for next week when I’ll cover the 7 disability insurance riders you need to know about.

Related posts:

1. 7 Disability Insurance Add-on Features
2. 7 Ways Your Group Disability Will Fail
3. 5 More Ways Group Disability Insurance Disappoints

Have you ever heard of bands in regards to life insurance?

Well it’s true.  There are premium bands that almost all life insurance companies use.  This creates pricing issues that you might never be aware of.  A good insurance professional should be aware of this but not always.  They make mistakes.  These bands will vary by the type of policy as well.  I will tell you that they are most prevalent in term insurance policies.  If you have or plan on purchasing term insurance it is something you need to be at least aware of because your agent might not be.

What life insurance companies do is they band premiums by policy size.

An example of banding would be:

• band 1: $100,000-$249,99
• band 2: $250,000-$499,999
• band 3: $500,000-$999,999
• band 4: $1 million and above

What this means is that the premium per $1,000 of coverage decreases as the amount of coverage purchased moves into the higher bands.  The way in which life insurance companies band premiums may vary as this is just an example.

Premium bands are like break points.

Most people are more familiar with mutual funds.  Think of premium bands as break points.  With ‘load’ funds you, the consumer, pays a sales charge usually at purchase.  The most popular and widely used ‘load’ funds are called “A” shares.  These have the highest upfront load with the lowest annual expenses.  The typical upfront load for “A” shares is 5.75% of the purchase price.  As you buy or own larger quantities of “A” shares within a mutual fund family you get a discount, or reduced load.

Life insurance companies work much the same way.  As you purchase larger amounts of insurance you qualify for reduced.  However, life insurance is not as clear cut as mutual funds in that premiums within each band vary by gender (male/ female/ unisex), issue classification, issue age and policy year.

What does this all mean?

What this means is that if you are nearing a band then it will most likely be cheaper to purchase a larger amount of insurance.  From the example of bands above, it is probably cheaper to purchase $100,000 of coverage rather than $87,000.  It is probably cheaper to purchase $250,000 of coverage than $229,000.

Consumer Awareness

This can be important to be aware of depending on who you are working with to place the insurance.  Let’s say you go through a calculator to determine your amount of coverage.  If the number you come up with is not a round number, such as $962,000.  When you decide on a company which to apply to for your life insurance it is important to understand where their bands are.  If they have a band at $1 million of coverage then it will most likely be cheaper for you to purchase $1 million of coverage.

The Problem

When shopping for insurance online, it is probably best to round your coverage amounts up so as to try and catch the next band.  If you put in a non-round number for your amount of coverage you will most likely get a quote that is that exact number even if it is more expensive coverage.  Unfortunately, not all quoting systems account for premium banding.  This means that the person running the quote, or the agent, needs to check to see if the insurance can be cheaper for you.

Related posts:

1. Hidden Gem of Life Insurance Policies
2. Life Insurance Audit
3. Whole Life Insurance is Stackable

I was going through my e-mails the other day when I received another e-mail from an insurance company (I say that because I receive a lot of e-mails from various insurance companies) advertising some change in their current offerings.  I breezed over it when something jumped out at me.  The thing that really caught my eye on this e-mail was that it was advertising a rate increase.  The current economic environment isn’t leading to very many rate increases.  It seems like nowadays all I’m seeing is rate decreases, so it was refreshing to see an increase.

This got my attention so I read on. The e-mail was promoting an immediate annuity.  The big hook that the e-mail had was that a 65 year old male could get 7.2% income from this particular immediate annuity.  In a world of the 4% rule this caught my attention.    What this company is saying is that $100,000 could be turned into approximately $7,200 per year for as long as you live.

I’m not someone that says everyone needs an annuity but it does give you some advantages:

• Guaranteed stream of income – The company that sent me the e-mail has a Comdex of 98 which means that they are financially rated in the top 2% of all insurance companies.  That’s a pretty strong guarantee.
• No down years - One of the biggest killers of retirement withdrawals is years like 2008.  When you withdraw money during a down year, your accounts will never be able to recover.  You are not depending on the market.
• Diversification – Everyone talks about it.  People talk about diversifying your streams of income.  Here is a great way to do that.
• Leave something behind – This is probably the second biggest argument against annuitization.  I looked into it closer and a 65 year-old male in average health can guarantee an insurance policy for the $100,000 he just annuitized for about $2,000 per year.  This means that he would still be receiving 5% income guaranteed for the rest of his life.
• Control – The number one reason against annuitization is that you are giving up control of your money.  This is true.  So don’t annuitize all your money.  You only want to annuitize a portion of your money.  Usually this will be a portion that will cover fixed expenses that you know are going to be there.  Bills such as property taxes, insurance, utilities; these are bills that are always going to be there regards less.  If you’re not sure where your money goes I recommend using personal finance software to help track your spending.

What about inflation?

I have not mentioned inflation.  I know what you are thinking the 4% rule is indexed for inflation.  Well the advertisement they sent me never even mentions inflation.  I would be willing to bet money that some stupid people that call themselves financial advisers are going to go out and try to sell 7.2% income and never even thought about inflation.  It’s the first thing I thought about so I went into my software and started to dig around quickly.  When indexed for a 2% inflation the payout was about 6%.  But this is where your other assets come into  play.  Here is where your investments would be used to hedge against inflation.  Diversification is key.  There’s no perfect fix.  Your investments would be part of your income rather than all of it.

Related posts:

1. RMA: Income Planning Program

Gift cards are so easy.  You don’t know exactly what someone wants, but you know a store they like.  Get a gift card.  You know they like a restaurant but they might not want to go with you, buy them a gift card.  Some kids nowadays love to go pick out their own things and feel like they are buying it.  Gift cards are perfect for this.  After all, it’s the holiday season, there is so much commotion out there, gift cards make things easier, simpler.

Have you ever thought of the repercussions of gift cards?

Steven D. Levitt and Stephen J. Dubner, authors of Freakonomics and now SuperFreakonomics, wrote an article for the New York Times titled, “The Gift-Card Economy”.  In this article they reference that of $80 billion spent on gift cards in 2006, $8 billion will never be redeemed.  They also go on to say that 19% of people who used gift cards in 2005 never used them.  And finally, they state that BestBuy made $16 million of of unused gift cards in 2006.

Stop for a second and reread that last paragraph.  We have an economy built on consumer spending.  Right now our economy is struggling and it is popular belief that consumer spending will help stimulate this economy if not lead us out of the rut we are in.  Does a gift card purchase do this?

Let’s take BestBuy for example.  They made $16 million of pure profit.  An unused gift card is essentially that isn’t it.  The cost to make the card is negligible and you barely even have to staff the store.  There is no certainty that any of this money helped to stimulate the economy.  How about the alternative?  If $16 million of products were purchased at BestBuy then they would need to have the extra help with cashiers selling the products.  They might need to hire more floor help.  More shipping and receiving help.  There would be more orders to the manufacturers of the products.  The manufacturers would need more shipping and receiving help.  More assembly help.  More marketing and sales help.  I think you catch my point.  Gift cards don’t help the inner-workings of our economy.

3 alternatives to your generic gift card purchases:

1. Give cash.  It’s not always fun, it’s a bit impersonal but it gets the job done right?  Kids love cash.  They love feeling like they have money or they are rich.  Also, it just might promote saving.  Some people will get cash and feel like they don’t have to spend it.  You never know, you might be boosting an emergency fund or helping contribute to personal improvement.  In a more open society you just might be able to ask people what they would do with cash.  Is that rude?
2. Buy a present.  You know they like books but aren’t sure exactly which one?  Do you know they want shirts for work but aren’t sure their style?  Buy them one.  Remember it’s the thought that counts.  Give them a gift, take a swing.  If you miss you can fall back on gift receipts.  Take a shot, you just might amaze yourself.  Even better, imagine how big that smile will be on someone’s face when you hit a home run.  That unexpected, wow present.
3. Small business gift cards.  If you are adamant about giving a gift card make sure it is for a smaller or local business.  Help support the economy by supporting the local business that won’t necessary just take your money as pure profit.  They are more likely to give back to the community, either directly or indirectly.  Also promote the use of the gift car by offering to take the person shopping to pick out what they do want.

Consumer spending itself is not the driving force for the economy it is made out to be.  It is the ripple affect of consumer spending that helps the economy.  A gift card makes it a whole lot easier to break or destroy that ripple.  When you are out doing your holiday shopping this season, think of the current economy.  Think of your friend or neighbor who is out of work, 10% unemployment.  By purchasing an product or an actual gift you just might be able to change the economy.  You just might be able to create 1 or 2 extra jobs somewhere down the line.  When a company makes more products they don’t just need to higher more manufacturing help, they need more managers, more advertising help, more sales force.  Then they might just need a new location, bigger warehouses, new product displays.  They are higher another company to do this.  The ripples can be huge.

If you want to make a difference this holiday season…Create Ripples!

Related posts:

1. Sunday Link Rodeo 15

During a conversation I had the other day I remember a great way to explain the inter-workings of a Universal Life insurance policy.  I had sort of forgot about this explanation but it’s a good one.  I figured I’d share it with all of you.

One of the biggest downfalls of Universal Life insurance is the complexity of the product.  I have previously written about the historical and structural overview of a Universal Life policy.  From here I am going to give you a different explanation of the way in which a Universal Life insurance policy works and the problems with it.

Your Universal Life insurance policy is a bucket.  The life insurance company is going to hold your bucket for you.  In fact, they are going to hold it under to spigots.  One spigot will represent your premium and the other spigot will represent the interest rate credited by the insurance company.  As long as there is water in the bucket, even just a drop, you have your Universal Life insurance policy.  If the water runs out so does your life insurance policy.  So you are probably wondering how your water could run out with two spigots?

The life insurance company is also going to drill a few holes in your bucket.  Three to be exact.  The first hole will be the biggest it is a result of mortality charges.  Think of the bucket made out of iron.  If you know anything about iron and water is that it causes rust.  What does rust do?  It eats away the iron, the hole gets bigger.  The life insurance company is also going to put a couple of smaller holes in the bucket as a result of administrative charges and then another hole for miscellaneous fees and costs (i.e. commissions).

The first step is to pay the premium and turn on one of the spigots.  Depending on when and how often you pay your premium determines when and how strong the water flows into the bucket.  Just don’t forget about the three holes that cause water to drip out of the bucket every month.  Drip, drip, drip.  Then at the end of the month the life insurance company will turn on that other spigot to splash in some water.  Of course, if it’s a Variable Universal Life insurance policy, it will be more of a two way spigot (is that possible?) some months you might get water and other months they might take water.  Then the whole process starts all over again.

Here’s the thing.  The life insurance company and the agent selling you the Universal Life insurance policy tell you that there’s flexibility in how much and how often you put water in the bucket (through paying premiums).  What they don’t always tell you is that the holes don’t go away.  In fact, the biggest hole keeps getting bigger little by little and month by month.

Then you are told that you can access your money through surrenders and loans.  When you take a loan from one of these Universal Life insurance polices you basically reach in and take a scoop full of water out of the bucket.  Then the life insurance company drills another hole, but don’t worry they plug this hole.  As long as you put some of that scoop of water back in, they keep the plug in the hole.  However, if you don’t add the extra water they remove that plug every month to let some water drip out.

In the end it becomes a balancing act to make sure there is water in the bucket today, tomorrow and x amount of years from now.  The problem is that the only thing you control is one spigot (premium).  Everything else can and probably will change at any time.  The other spigot might put more or less water than you thought into the bucket.  The holes could drip out more or or less water.  The rust might speed up the dripping.  This creates a lot of unknowns and the life insurance industry sells it to you as “flexibility”.  Make sense?

Related posts:

1. Universal Life Failure Part II
2. Universal Life Failure Part I
3. What Every Life Insurance Policy Shouldn’t Be Without

Four years ago a woman named “Jane” had a problem.  She was receiving payments as part of a buyout from her husband’s business.  Her dilemma was how to replace the payments she was receiving while also trying to pass as much on to her kids as possible.  She was proud of her husband and the business that he created and passed on to their kids.  With all the hard work over the years if she wasn’t going to spend the money she wanted to make sure her family got as much as possible.

[As a side note she does have other assets and other income we are going to focus on one account for now]

Jane was about to turn 76.  The total sum of money that she had available was $300,000.  Her current accounts were $100,000 in a fixed annuity earning around 3.5% with Ameriprise, $120,000 in a few different CDs that were earning 3-4% and $80,000 in some mutual funds that an adviser had put together for her.  Are you with me so far?

What She Did

She put the full $300,000 into an AXA Equitable Accumulator, a variable annuity.  Then she added a couple of riders to her contract.  First she added a GMIB rider and then a death benefit rider.  We’ll get to those in a second.

Fees

That’s what everyone is thinking about and wondering about so let’s start there.  It is an annuity.  The basic contract has mortality and expenses associated with it totaling 1.25% per year.  The GMIB rider has an expense of 0.65% and the death benefit that she chose has an expense of 0.60%.  Getting expensive and we haven’t even added in the investments.  The investment expenses range from 0.64% to 3.65%.  Jane’s current portfolio is costing her 1.08%.  This brings the total charges on her contract to 3.58%.

Death Benefit Rider

The death benefit rider that Jane chose was the greater of 6% roll-up or annual ratchet to age 85.  During the first couple of years of the contract she was enjoying the annual ratchet.  With the lock-in in 2007 she was left with a death benefit of $380,000.  This meant that in 2008 when the market was falling, Jane’s death benefit on this contract was $380,000.  It was not subject to investment fluctuations.

Guaranteed Minimum Income Benefit

The GMIB rider that Jane chose gave her a base benefit that would roll-up by 6% per year.  She is required to hold the contract for 10 years after which point if she chooses she could annuitize off of the benefit amount regardless of her contract value.  For Jane this meant that she would start at $300,000.  She will earn 6% net of fees for her benefit amount.  So in the first year she would earn 6% of $300,000 or $18,000.  In the second year she will earn 6% of $318,000 or $19,080.  And so on.  Are you still with me?

Income

As we mentioned at the beginning Jane was going to be needing income in 2 years.  What this meant was that her account was allowed to do nothing but grow for the first two years.  In fact, with the market performance of 2006 and 2007 she found herself with a contract value of $380,000 and her benefit amount was $337,080.  Who needs this stinking safety net?  But now Jane needed income.  The way her GMIB works is that it allows her to take up to the 6% roll-up on her benefit on a dollar-for-dollar basis.  This meant that if she takes the 6% as income her benefit amount stays flat.  So this is what she did.  She took the 6% in the third contract year as monthly income and it came out to approximately $1,685 per month.

Taxes

Keep in mind that Jane had gains in this variable annuity due to market performance.  This was a non-qualified annuity which meant that the gains were taxable as ordinary income.  Annuities also follow LIFO which stand for last in, first out.  This means that all the gains come out before the contributions.  So when she began taking income in 2008 it was fully taxable and subject to a 20% withholding.  The checks she received then were for approximately $1,350.

2008 Market

Then 2008 hit.  The markets started to crash and they crashed fast.  Now because of her safety net, Jane chose to be a little bit more aggressive with this account.  She was actually in about a 65/35 splits towards equities.  The funny thing is today she has the same 65/35 split.  Her account is set to rebalance quarterly.  She just might need the safety net now.  Are the costs still too high?  The upside is that now she no longer has to worry about the taxability of her income since the gains in the account went away pretty quickly in 2008.

Today

Today she continues to receive her income of $1,685 per month.  Her account value is $255,000.  She started with $300,000 and has withdrawn about $40,000.  So it looks like she’s almost even.  Then we look at her benefit amount and it is $337,080.  Her death benefit was up to $380,000 using the ratchet feature but it has been reduced by the income she has received so today it is $340,000.  Remember that as she continues to take income this death benefit cannot fall below her contract benefit amount (the 6% roll-up).  One thing not to forget is that she can’t access that benefit amount until one of three things happens: 1. she passes away, 2. her account value drops to zero and 3. her 10th contract year (age 85).  This means she continues to receive her $1,685 per month until age 85 at which point she can then annuitize off the benefit amount which the contract estimates to provide $40,000 per year.  Not a bad pay raise.

What do you think?  Good deal?

**Disclaimer:  This is based on a true story.  Names have been changed and numbers adjusted slightly to make them more easier to work with.  All contract information was taken from the prospectus.  This contract is no longer offered.**

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