By Chad Butnari
Insurance can be an overly complex subject. Anyone who has ever bought any type of insurance policy can probably relate. Today, you can buy insurance for almost anything, property insurance, liability insurance, auto insurance, life insurance, disability insurance, critical illness insurance, long-term care insurance, etc. On and on it goes. You can even buy insurance on your iPad or iPhone. All of these insurances can be good strategies to manage risk. The problem is, they all require cash flow to fund them as well. As a result, most people can’t afford (or choose not) to buy all types of insurance. Therefore, to simplify decisions, I like to look at insurance policies as either a “need” or a “want.” Let me explain.
I’ve been licensed to sell insurance for over 10 years now, although I’ve never considered myself an “insurance salesperson.” Instead, I think of myself as an advisor. Insurance and investments are merely tools to help our clients accomplish their goals. I believe it is best to view problems or needs from a high level, then seek the appropriate solution. Investigating thoroughly before diagnosing allows us to do the right thing for clients. As it pertains specifically to insurance, viewing problems through this lens helps to distinguish how important having a particular type of insurance is.
For example, in my own personal circumstance, I have a young family. Christina and I both work and we have two young children. If something happened to either Christina or me, we would have a financial gap. Life insurance fits in nicely here as a risk management tool. I would consider this a “need”.
Another example would be two partners in a business. If one partner passed away, the remaining partner would need to cash flow the purchase of the deceased partner’s shares. This may put a strain on the business to cash flow or produce the capital to pay the partner’s estate. Depending on the specific circumstances, I would also consider this to be an important “need” for life insurance.
As a rule of thumb, if an individual is not financially independent and they financially support others, there is typically a need for insurance. When utilizing insurance as a “need,” it is always focused on managing risk, which is what insurance was originally created for.
The other reason to buy insurance is categorized as a “want.” These situations can become a lot more complex. There can be several reasons that insurance might make sense here; it may be held as a “tax-efficient” investment, it may increase the amount eventually passing to an heir/philanthropic organization/family foundation when the insured passes away, or it may simply be the most effective way to plan an estate.
An example in which permanent life insurance is often used for estate planning is when you have inequality, and you would like certain assets to pass to specific beneficiaries. Think of a business owner that has multiple children and one is going to take over the business, but the others will not. Life insurance is often used as a financing tool to at least establish “fairness,” if not equality between siblings.
You will notice in this scenario, life insurance is no longer focused on managing risk, rather, the purpose shifts to creating value. Other tools could be used instead (such as saving additional funds or taking on debt), but they may not be as optimal or cost-effective.
Both purposes are valid reasons to own insurance. In fact, I have recommended and implemented a number of policies for both the “need” and the “want” scenarios. Regardless of the category, it falls into, there should always be a clear purpose and understanding.
Before deciding to purchase a policy, an individual should always ask themselves
“Why do I need this?”
“What is the purpose of this policy?”
“Does it really benefit me or my family?”
“Is it a need or a want?”
“What would happen if I didn’t have the insurance?”
If the answer to these questions is not absolutely clear and easily understandable by all parties, red flags should start popping up.
I can’t tell you the number of times over the years I have asked a client or prospective client why they own a specific insurance policy, and their answer is something along the lines of, “well, I’m not sure. It made sense at the time, and I’ve just gotten in the habit of paying the premiums.” Once we sit down and examine the policy in the context of their overall financial plan, it often becomes obvious that they do not have the “need” any longer and it should be cancelled to preserve cash flow. Or, even more challenging, is when an individual has paid into a policy for several years, it is now no longer necessary, and we have to establish a strategy to “re-purpose” the policy or get as much cash as possible out of it.
Insurance policies should be reviewed regularly and addressed as part of an overall financial plan. It is a strategy that can and will change as one’s life evolves over time. There is a tremendous amount of complexity in the insurance industry as new products are created to suit new needs but no matter how complex, the basic principles remain. Is the policy a need or a want? Does it truly benefit you and/or your family? Does it fit into your financial plan and help you accomplish your goals? If the answer to these questions is “yes,” the policy may indeed be a great tool to fit one’s needs. If the answer is “no,” there may be a better way to get where you want to go.
Insurance products and services are provided through Assante Estate and Insurance Services Inc.