Wednesday, August 22, 2018

Why Life Insurance Has to Be Part of Your Wealth-Building Plan


Why Life Insurance Has to Be Part of Your Wealth-Building Plan

Find out why this expert says life insurance isn't a waste of money – it's leverage you need to gain financial freedom.
The following excerpt is from Mark J. Kohler and Randall A. Luebke’s book The Business Owner’s Guide to Financial Freedom. Buy it now from Amazon | Barnes & Noble | iTunes | IndieBound
Every day, life insurance companies pay death benefits to the beneficiaries of their policies, providing them with needed and certainly welcome funds. In essence, life insurance provides leverage: You pay a relatively small amount of money to the insurance company in the form of a "premium," and the insurance company will provide a guaranteed payout of a relatively large amount of money upon the death of the insured.
While there are thousands of different life insurance plans available, they all fall into two categories: term and permanent insurance. Term, as the name implies, provides a benefit for a fixed period of time; 10 years, 20 years and so on. Permanent insurance is in place for life.

Term insurance

This is the most efficient way to purchase life insurance. The premiums paid are calculated to accurately represent the risk of your dying based on your age, your health and so on.
The primary issue with term insurance is that it rarely delivers on its promise. That is, the large majority of term insurance policies, north of 90 percent, will never pay a death benefit. Why is that? Most people will either outlive the term of the policies or just stop paying the premiums. These facts contribute to the profitability of these products to the insurance companies, which enables them to keep the premium costs lower.

Permanent insurance

This type of insurance can be expensive, but it doesn't have to be. Traditionally, when people think of permanent insurance, they think of "whole life." The benefit of whole life insurance is that everything's fixed and guaranteed -- the premiums are fixed, the death benefits, the cash values. The problem is that those guarantees are expensive because the insured is shifting all the risks. The investment risk, the risk of dying, inflation risks, every risk sits on the shoulders of the insurance company. While the insurance companies are used to this and they know how to live in that realm, they also know how to charge for it and they do.

Universal life insurance

There's a third type of insurance, a hybrid model. Universal Life, or UL, is a term insurance plan that lives inside the shell of a permanent insurance policy. Designed correctly, a UL will provide the most efficient cost of benefits, which can also be guaranteed for your entire life. Designed improperly, the UL can become an even bigger waste of money than a term policy.

Living benefits

When most people think of life insurance, they think of dying and leaving a financial legacy for their loved ones. Modern insurance policies, however, contain many benefits you can enjoy while you're still alive. These "living benefits" range from tax-free accumulation of investment earnings to zero-interest loans. They can provide cash should you become seriously ill or if you need cash for a down payment on your home.
With living benefits so prevalent, more and more ways to utilize them have become popular. Among these is a strategy called "Bank on Yourself." The essence of this strategy is to take advantage of the tax-deferred growth on the earnings within life insurance policies by using tax-free loans to access the cash when needed. So you borrow the money from yourself instead of the bank, then pay yourself the interest and repay the loan you took from your policy.
Having your money grow tax-deferred and being able to access that tax-free is very powerful when you have a positive arbitrage -- that is, when you can borrow money at a lower rate and invest it at a higher rate.
Let's say you borrow $100,000 at an interest rate of two percent. Over the year, the $100,000 loan would cost you $2,000 in interest expense. Now, let's say you invested that $100,000 in a home and you flipped that home, netting you $104,000 and, after all expenses, making you a $4,000 profit. You might be tempted to say you made a four percent return on that investment, right? That would be wrong because you didn't invest $100,000. You borrowed it from someone else. You invested only $2,000 (what you paid out of your money in this deal). So in reality, you earned $4,000 on a $2,000 investment, or a 100 percent profit.
But, what if the rate you earn on your investment is lower than the cost of borrowing? This is called "negative arbitrage." Using the same example, if you were to borrow $100,000 and net the same four percent, or $4,000 profit, but this time the cost to borrow the money was five percent or $5,000, now you have lost money on the deal.
Most modern life insurance contracts offer very favorable terms on their loans starting at two percent. Some insurance policies will allow you to borrow the money at 0 percent interest after you hold the contract for 10 or 20 years. Now you're like the bank, borrowing money for free.
The two percent or zero percent loans are written into the contract and guaranteed for life. They're referred to as a "spread loan" and a "wash loan," respectively. With these loans, you borrow your money out of the policy and can't earn any interest on it.
But, what if you could continue to earn interest on your money inside the insurance policy even after you borrowed it? That's how a participating loan works. The money you borrow is loaned to you at one rate, say five percent. However, the insurance company will continue to invest your money as though it was never taken.
In our opinion, life insurance policies designed properly with the right guarantees and terms can become a very valuable and beneficial financial planning tool.

Five insurance mistakes to avoid... (and still save money)


Avoid these common mistakes and you’re on your way to getting the best insurance for your needs and budget

Avoid these pitfalls when buying auto, home, flood and renters insurance.
Saving money feels good. And shopping around when you’re looking for insurance coverage is a great way to do it. However, simply reducing your coverage or dropping important coverages altogether is like diet without exercise—focused only on numbers, not on results. Don’t risk ending up dangerously underinsured and on the hook for much bigger bills in the event of a disaster.
Following are the five most common auto, home, flood and renters insurance mistakes people make, along with suggestions to avert those pitfalls while still saving money (we call them, “better ways to save”):

1. Insuring a home for its real estate value rather than for the cost of rebuilding.

When real estate prices go down, some homeowners may think they can reduce the amount of insurance on their home. But insurance is designed to cover the cost of rebuilding, not the sales price of the home. You should make sure that you have enough coverage to completely rebuild your home and replace your belongings—no matter what the real estate market is doing.
A better way to save: Raise your deductible. An increase from $500 to $1,000 could save up to 25 percent on your premium payments.

2. Selecting an insurance company by price alone.

It is important to choose a company with competitive prices. But be sure the insurer you choose is financially sound and provides good customer service.
A better way to save: Check the financial health of a company with independent rating agencies (some well-known ones: A.M. Best, Moody's), and ask friends and family members about their experiences with insurers. Select an insurance company that will respond to your needs and handle claims fairly and efficiently.

3. Dropping flood insurance.

Damage from flooding is not covered under standard homeowners and renters insurance policies. Coverage is available from the National Flood Insurance Program (NFIP), as well as from some private insurance companies. You may not be aware you’re at risk for flooding, but keep in mind that 25 percent of all flood losses occur in low risk areas. Furthermore, yearly weather patterns—spring runoff from melting winter snows, for example—can cause flooding.
A better way to save: Before purchasing a home, check with the NFIP to determine whether a property is situated in a flood zone; if so, you may want to consider a less risky area. If you are already living in a designated flood zone, look at mitigation efforts that can reduce your risk of flood damage and consider purchasing flood insurance. Additional information on flood insurance can be found at www.FloodSmart.gov.

4. Only purchasing the legally required amount of liability for your car.

The minimum is just that—the least you can get away with by law. So buying only the minimum amount of liability means you are likely to pay more out-of-pocket later. And if you are sued, those costs can jeopardize your financial well-being.
A better way to save: Consider dropping collision and/or comprehensive coverage on older cars worth less than $1,000. The insurance industry and consumer groups generally recommend a minimum of $100,000 of bodily injury protection per person and $300,000 per accident. 

5. Neglecting to buy renters insurance.

A renters insurance policy covers your possessions and additional living expenses if you have to move out due to an insured disaster, such as a fire or hurricane. Equally important, it provides liability protection in the event someone is injured in your home and decides to sue.
A better way to save: Look into multi-policy discounts. Buying several policies with the same insurer, such as renters, auto, and life will generally provide savings.