I’ve had a crisis of faith lately. My son’s 39-year-old t-ball coach unexpectedly passed away in late June. He is survived by a wife and three young boys. I didn’t even know him well but cannot stop thinking about the family and their situation. More than once in the last few weeks, I’ve cried out to God, “How could you let something like this happen? What is the lesson to be learned from this?”
Deep down, I know God is present, but I cannot feel his presence right now. I am broken and flawed, just like you. Part of me feels like a fraud. The identity of WorthyNest is cloaked in faith, so how do I feel connected to my firm when my faith is stagnant?
You won’t see many references to “faith-filled” on the WorthyNest website anymore for this reason. We are Christians, but our level of faith waxes and wanes. I’m here for you, no matter where you are on your faith journey.
Turn Lemons into Lemonade
Nonetheless, there are two practical lessons that can be drawn from a tragedy:
1) Cherish each moment with family and friends, and
2) Financially prepare for the unexpected.
I cannot specifically help you with the first lesson but have some important technical insights on the second. According to Merriam-Webster, insurance is “a means of guaranteeing protection or safety.”
When you purchase an insurance policy, you’re transferring risk from yourself to an outside third party. In exchange for that transfer of risk, you agree to pay premiums.
Your insurance coverage ends when you stop paying premiums on a term life insurance policy or disability policy. Whole life policies usually require significant premium payments in the early years, and hopefully, premiums can stop in later years while the policy remains active or in force. We will focus on term and whole life policies since flexible premium, or universal, life policies are complex and beyond the scope of this article.
Term life insurance is my typical recommendation for young families especially. It is the most inexpensive type of policy and akin to renting versus buying a home. You only have coverage if you continue to pay the premiums. Some term life policies have an increasing premium because they assume your earnings will steadily increase. Other term policies are fixed: your premium will remain the same each year for the duration of the policy. Under the fixed-policy, premiums are higher if you have a longer term. For instance, your annual premium may be $1,000 for a 15-year level term but $1,300 for a 20-year level term.
Large employers typically provide basic life insurance coverage equal to one times your annual salary at no cost to you. They also may offer supplemental group policies (i.e. up to a $500,000 death benefit) for an additional cost, but supplemental group policies vary significantly by employer.
One of my clients is a federal agent. She was paying over $500 annually for $500,000 of coverage as a government employee. We looked at individual term quotes and found a policy with a lower premium (about $450) for $1 million of coverage. She could get double the coverage for less cost by using an outside, individual policy! Her employer penalized young, healthy employees in their group life insurance policy. If she were 20 years older, her employer-provided group policy may have been the better deal.
Whole Life Insurance
Compared to term insurance, whole life policies offer valuable long-term protection. When the whole-life policy is “paid up,” you are no longer required to make premium payments. In the meantime, cash value builds in the policy. You can take loans against the cash value but should be wary of high-interest rates.
Here’s another personal example. I started working with very affluent families in 2006 and found myself collaborating with insurance agents on whole life policies for certain clients. Many of these families were using life insurance to pass more wealth to heirs, income tax-free. I became engrossed in this world of estate planning and tax mitigation and pursued a whole life policy for myself. My annual premium was $3,000 for $500,000 of death benefit. Much of the premium in the early years paid the agent commission and internal costs. Couple that with mediocre dividends from the low-interest rate environment, and I was left with very little cash value. About ten years after starting this policy, I decided it was not worthwhile anymore. My accumulated premium payments were slightly more than the cash value of the policy. I could take the policy “paid up” and reduce the death benefit to about $130,000; my other option was to remove the cash value. I choose the latter. Paying off my car loan and purchasing a new $1 million term life policy ($450 fixed annual premium) provided better bang for the buck.
Amount of Insurance Coverage
Now that you have an understanding of the types of life insurance, let’s shift the focus to the proper amount of coverage. There used to be a rule of thumb among insurance agents that your death benefit should be equal to a multiple of seven to ten times your annual pre-tax income. Here are three scenarios where this rule of thumb is not helpful:
1. Stay-at-Home Parents
If you’re a stay-at-home parent, you are not receiving financial compensation for hard work at home. Following the rule of thumb, you should have no life insurance coverage because your financial earnings are zero. However, your spouse would need to secure childcare and may require other professional services if you unexpectedly die. Examples of these services include housekeeping, laundry, meal delivery or prep services, and home maintenance. Consider the total cost to provide all these services on an annual basis, and multiply by the number of years that your children will require additional financial support. A stay-at-home parent with two toddlers will require more life insurance than a parent with two teenagers who will be out of the house in a few years.
2. Parents with Young Kids
Budgeting as a young family is tough. You are steadily building work experience and have the added expenses of child care and schooling. You may need MORE than 10 times your salary. Think about future expenses and how long it will take you to amass enough wealth to accommodate your family’s needs.
For example, my family has a mortgage, and our three boys are ages 3, 5, and 9. Childcare and private grade school tuition cost about $22,000 annually in total. Bryan and I also plan to send all three boys to Catholic high school, another $15,000 annually per child. That figure is not even factoring in the costs of clothes, activities, and food for our growing boys. College is incredibly expensive and must be considered, too. After carefully reviewing these expenses and our future earnings, we decided that 10 times annual salary isn’t nearly enough to fund our family’s lifestyle. My husband and I each have coverage closer to 20 times annual salary.
3. People Nearing Retirement
For term life insurance especially, age is not on your side. Premiums increase substantially in your 50s and 60s. Perhaps you’re within a few years of retirement and you’ve amassed enough wealth to live comfortably. Self-insuring, or using existing assets in lieu of an outside insurance policy, may be better.
As you can see, insurance isn’t cut and dry. You cannot emergency proof your life, but insurance transfers risk to third parties and might be helpful. Choosing an appropriate insurance policy can be difficult on your own; contact me if you are interested in reviewing existing insurance coverage or obtaining a new policy in conjunction with other financial goals. As a fee-only fiduciary advisor, I help clients select policies in their best interest and act as a liaison between the client and independent insurance broker who sells the policy. There is never a financial incentive for me to recommend a particular product, company, or level of insurance coverage to clients.
Deborah L. Meyer, CPA/PFS, CFP®is a fee-only financial planner and investment advisor based in St. Charles, Missouri who works with clients nationally. As the owner of WorthyNest, Deb helps Christian parents build wealth in a way that aligns with their values and is a 2018 recipient of the AICPA’s Standing Ovation award. Find Deb discussing finance on LinkedIn, Facebook, or Twitter.