The Life Insurance Model – Episode 059

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[00:00] Welcome to the Prosperity Podcast fresh alternative personal finance talk for independent thinkers who prosper outside of Wall Street Here’s your host best-selling author Kim DH Butler and no BS money guy Todd Strobel Hey everybody, welcome to another edition of the Prosperity Podcast This is no BS money guy Todd Strobel and once again We have my co-host and best-selling financial author Kim Butler with us. Welcome Kim Thank You Todd happy to be here and so happy to answer a client question today Yes, big deal for us to serve our clients So keep those questions coming anything you want to know we will be glad to make a quick show on it and today we’re going to be talking about how Insurance companies get paid and how insurance companies make money

[00:56] And this is important because they have a model that has consistently made money During some of the worst periods in history up most of these insurance companies are over a hundred years old specifically we’re talking about life insurance companies and They have been through depressions. They’ve been through recessions 9-1-1 and they’ve Continued to pay dividends to their clients each and every year So whatever they’re doing they’re doing right and Kim is going to explain to us today how that model works Well, I’m so grateful for the question You know, it’s really one that we should cover in almost every conversation and yet I rarely get asked this question so the question again is how do the insurance companies make money and

[01:49] specifically if they’re paying a Dividend to the policyholders then how do they get money to pay that dividend and if they’re investing premiums and Those dollars are invested then how is their cash? To allow the insurance holder or the policyholder to use that cash Anytime they want so I’m actually going to go backwards because it’s important to understand how insurance companies invest money And they do buy things for the long term. They do a lot of 30-year commercial mortgages large large mortgages I actually have quite a bit of background in the commercial real estate industry and the large deals so think about when an Entire building gets sold an entire apartment building or entire office building

[02:42] All of those large deals are typically financed by insurance companies not by banks. And so these deals Enable the Insurance company to have a long-term structure That’s very secure because typically buildings like that have a lot of different tenants in them and that’s a nice long-term investment for the insurance company and then When the insurance company lends us money, so let’s be clear on this when we have a cash value policy We are borrowing against that policy or you could say that we are borrowing from the insurance company Then the insurance company is giving us cash They’re giving us their cash our cash stays in there and continues to earn they’re giving us their cash So how are they able to do this if they’re fully invested in all these long-term deals?

[03:35] And the answer is that most insurance companies are reserved dollar for dollar So let’s compare that to banks Which if an insurance company is reserved dollar-for-dollar meaning if you have a dollar in your cash value They have a dollar that represents that dollar At a bank if you have a dollar in a savings account the bank has somewhere between seven and ten cents For that dollar. So that’s a massive difference. So the insurance companies are either reserved dollar-for-dollar or Dollar twenty for dollar. I’ve even seen reserve levels as high as a dollar forty per dollar So they have Liquidity themselves that they are able to turn around and lend us when we want to do deals Is that making sense so far Todd? It does

[04:30] I mean you’re talking about how Insurance companies invest the cash that they have on hand I think the other side of it is the actuarial side where you know, they’re pricing products and understanding the human lifespan And the products themselves are generating a profit Absolutely. So think about the business model of an insurance company and frankly This is where they get the bulk of their ability to pay dividends It’s from the profit of their business model. Now remember as a policyholder We are entitled to one hundred percent of the profits after reserves of The insurance company that’s an incredible feature of a mutual company So we’re talking Guardian New York Life Mass Mutual Northwestern Mutual Penn Mutual

[05:30] Mutual Trust America United Emeritus. Those are all Lafayette life. Those are all examples of mutual companies And so their business model again in existence for a hundred and twenty a hundred and fifty a hundred and eighty years is to collect premiums Reserve dollars and then pay claims but because the claims paying ability and again We’re just talking life insurance companies because the car and home insurance company arena is a completely different ballgame but when we’re talking life insurance the claims paying ability is obviously most of the time a 30 40 50 60 70 even 100 year Payout structure and so the insurance company collects all these premiums for years and years and years and years and years

[06:21] And as we’re all well aware one of the products that they offer is term insurance And so think about all of the term insurance. That’s all across this country as group life Think about all the term insurance that sold as mortgage insurance think about all the term insurance that people buy you and I buy it because We want to fulfill our human life value. We can’t always do that with whole life So we use term insurance as the differentiating dollar figure to meet our human life value Which human life values the maximum amount of insurance that we can get All of these term insurance policies the statistics show that less than 1% Some of the statistics show it’s even less than one half of 1% Ever pay a claim and yet the insurance company has to reserve for these dollars

[07:10] In case they do have to pay a claim because sometimes there is a death that exists inside the term of time That that term insurance policy is for but for all of the death claims that they don’t have to pay Those are dollars that they keep as a profit They set aside reserves and then they pay all of the profit out as dividends And that is the bulk of their dividend paying ability and I would like to point out that the reason that those Claims are not paid is because the insured has canceled The policy they stop making the premiums It’s not that they figure out ways not to pay the premiums It’s just that you know a term insurance sometimes people get it and then they just stop for whatever reason

[08:00] it’s not in the budget anymore, so they quit making the the premiums or There’s a renewal and this is something you have to be so careful with term insurance Particularly if you’re buying longer term insurance like a 20 year term policy, you know You can go from a five hundred dollar a year policy to a fifteen thousand dollar a year policy And it just prices itself out before You get old enough to pass away. So that’s why that it happens I didn’t want it to just didn’t want our listeners thinking that the insurance companies are out there thinking of ways not to pay claims Yes, it’s interesting. I had a conversation this week with a client who said I have a really good friend that works for an insurance company and he looked me straight in the eyes and said we

[08:53] steal money from people legally and So I let him tell me that story and then I said to him Do you happen to know does he work for a mutual company or a stock company now? This particular person didn’t know the difference So I explained and he said I don’t know we both popped on the web looked it up and he that particular Person that was making the statement about stealing money from people legally was at a public company a stock company and Furthermore, they had a lot of other types of insurance. They were not strictly focused on life insurance So there are so many things that get lumped into this word insurance and we Absolutely must separate out life insurance from all the other types of insurances literally disability home car

[09:46] liability, you name it all other insurances Protect and if event an IF event life insurance protects a when event a WHEN event and because of that it must be looked at differently than any other insurance Inconsequently, that’s why you have companies that offer primarily life insurance Most of the big ones have a couple other, you know They’ll have disability or maybe a small health department or something like that But the bulk of them are specific to the life insurance industry And so they are very very good at it. Like you said they have actuarial statistics for years and years and years and sometimes decades and sometimes even centuries and they use that to their advantage and we Absolutely want to do business with a profitable company because we’re paying a monthly or an annual

[10:43] premium and Exchange for a promise to pay some time in the future and usually that’s a long time in the future That’s why the companies we do business with you know They’ve been in business for over a hundred years They continue to pay dividends so that there’s a nice living benefit But you know in the end we’re hoping to you know, help our families or our charities or whatever So we want to make sure that we are doing business with a profitable company And what amazes me is that you know, these companies have been able to be profitable While all the other companies around them in many different industries are not so my hats off to the conservative nature That they have and yet still be able to pay a good rate of return

[11:36] What are our clients getting today on their whole life policies? Right around four and a half to five percent And if you’re in the maybe age 70 range it might be just a little under four But that’s certainly better and we work so hard to know that we need to compare the life insurance company rates to a Savings account rate or maybe a CD rate or for sure also a money market rate and then remember that that’s not taxed So four percent if we just pick a number in the middle of all that Compared to less than one and no tax versus tax. It’s a big difference Super well, I know we’re having a little bit of audio quality problems here and I apologize for that But we’re going to kind of wrap this up now again

[12:24] We encourage you to go to partners the number four Prosperity.com and this is no BS money guy for the Prosperity podcast saying thank you. Kim Butler and take care everybody Thank you for listening to the prosperity podcast to take control of your money and have it work for you Visit us at partners for prosperity.com If you liked this episode, make sure you subscribe and leave a review