One of the most common questions we are asked in our offices:
– “Do I need life insurance in retirement??”—
This week is an especially apt time for me to discuss life insurance as I am in the process of buying some! I am absolutely astonished at how inexpensive term life insurance has become over the last several years, I nearly quadrupled my coverage and added 20 years to the term, for an additional cost of only about $30 more per month.
I replaced a pair of 10 year term life insurance policies I had purchased almost ten years ago when I first entered the financial services business.
At the time, I had very little to no debt, one child on the way, and my wife was working as a nurse.
Boy how life has changed…
Fast forward 10 years, life looks a little different. I no longer work for a large company, and no longer have access to the life insurance benefits that came with it.
I work for a startup company that I founded. I have three beautiful children that depend on my ability to earn income. I have other liabilities, my house is bigger than it was 10 years ago (and not yet paid for) and my wife stays at home with our children.
My need for insurance is massive. The need is massive because the risks are huge, there are people that are absolutely depending on my being alive to provide income.
The reason I share this is to provide proper context to the question you are likely asking yourself as you approach retirement— “Do I need life insurance in retirement?”
To answer that question, we must first understand the purpose of insurance at its most basic level: insurance is the transfer of risk.
Insurance, in exchange for premium, transfers risk from the policyholder to the insurance company. In my case, I have three small children, and a stay-at-home spouse. A significant risk exists that I may die prematurely and leave my family in a tough spot. My wife would need to go back to work, my kids might have to change schools, our house might become a financial burden. I didn’t want to put my wife in a position to have to make huge life changes just because I died too soon, so I chose to transfer that risk (temporarily) to an insurance company.
Why term insurance?
Well, in my case the likelihood of dying at age 34 is pretty small, but the severity to my family would be huge, thus the need for insurance. Because the risk is small and temporary, the cost to transfer the risk is also small. Because I am young and healthy
(Humble brag – super preferred rates)
I can transfer a couple million dollars of risk to an insurance company for 20 years for around $80/month.
Let’s talk about this being a temporary need: I have heard life insurance salesmen say my entire career, the chances of death are one per person, you should have permanent life insurance.
I’ll tell you why I don’t feel that’s appropriate in my case:
In my situation I have an entire career’s worth of income to earn, retirement and college savings plans to fill, and a mortgage to pay off. Add it all up, and there is a huge gap between my current financial situation and where I hope to be by retirement. I believe this situation is temporary because I work each day to rectify it! That is why I own term life insurance.
“The many reasons I need life insurance might be the exact reason you do not!”
Now contrast my needs with your situation as you approach retirement. The many reasons I need life insurance might be the exact reason you do not. Have you crossed the chasm to financial independence? Are you “self-insured”? Borrowing the definition of self-insurance from Dave Ramsey, “If you have a $1000 car and a $1000 savings account, you are self-insured for that amount.” Wreck the car, liquidate the savings account. No need for insurance beyond that.
I think we can use that metaphor and expand it to financial independence at retirement. You’ve earned the majority of income your career provided, you’ve funded what you could into retirement and college expenses for your children, and hopefully your mortgage is near completion. Your life insurance needs are quite different than they were a few decades ago.
I believe for most people the need for life insurance is temporary, and with proper financial planning, you are reducing that need every day.
Now – Not every client has the same desires, or aims to accomplish the same retirement goals.
Let’s talk about reasons people buy life insurance in retirement:
- Gifts to heirs – One way to absolutely guarantee your loved ones receive an inheritance is to fully fund a life insurance policy early in retirement. Even if you deplete your investable assets later in life, the monies you set aside in a life insurance policy will insure you children will have an inheritance. One area of caution – most life insurance policies death benefits don’t increase with inflation, and 30 years of retirement might wreak havoc on a decent inheritance. $50,000 30 years ago was a prince’s sum.
- Estate tax issues – This requires the close guidance of a qualified estate planning attorney, but for large estates, a trust can be established to hold a life insurance policy to help pay estate taxes.
- Pension max plan – We covered this topic on episode 14 of Retirement Starts Today Radio. Pension max allows a pensioner to take the largest payment from his/her pension and offset the risk of premature death with life insurance.
- Debt – If your home, for example, isn’t debt-free by retirement and your spouse isn’t able to satisfy the mortgage without you, a need for life insurance still exists.
- Business continuity – buy/sell agreements are common to provide a liquidity event to purchase stock from a deceased business partner’s family.
- Illiquid assets to beneficiaries – Common example we see here in North Dakota involving farming: Example of three siblings, one is running the family farm, current farm owners want an equal inheritance between all siblings. Child working the farm buys a second-to-die life insurance policy on the parents, once the second parent passes away, the two children not affiliated with the farm receive tax free cash, and the child working the farm owns the land outright without having to rent the land from the two non-affiliated siblings. Potentially creates a win-win-win. Kinda cool!
Neither retirement nor life insurance are a one size fits all situation. Proper planning and an unbiased expert go a long way.
(But then again, I’m biased!)
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