Life Insurance & Savings – Episode 086

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[00:01] 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 D.H. 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. Once again, we’ve got my co-host and best-selling financial author, Kim Butler, with us. And today, Kim is going to be explaining to us the facts of life. That’s my intro? I get to explain the facts of life? You’ve got to be kidding me. That’s your job. Hmm. Okay. Well, first of all, I want to invite everybody to, if they haven’t already, download our Financial Planning Has Failed audiobook.

[00:54] So this is available at partners4prosperity.com slash ebook. There’s both an ebook and an audiobook there. And maybe it explains the facts of life. You’ll just have to see. It’s about 60 pages. It’s about an hour long, maybe two hours, can’t remember, recording. And I think you’ll have a lot of fun with it. But in the meantime, maybe we can answer in our explanation of the facts of life a question that came in from one of our listeners about how to count life insurance premiums as savings. And I love this question. It’s totally about the facts of life because in your life, if you are not saving money and very clear that you’re saving money on a consistent basis, your life will not be as good as it could be if you are saving money all the time.

[01:45] And so the general rule of thumb, of course, is to save 10, 15, 20% of your income depends on who you talk to. I vote for 15 or 20. And the question came in, well, do I count my premiums that go into my life insurance policy, my whole life insurance policy as, quote, savings if you’re telling me I need to be saving 15 to 20% of my income? So this particular listener slash reader was clear that they got to count their paid up additions as savings, but they weren’t sure if they should count their premium as savings. So just a quick reminder in case you don’t know. Premium is your base policy premium that must go in every month or every year. Paid up additions is the special writer that we put on a lot of our policies

[02:33] that enable you to put in a little bit of extra money. And paid up additions typically go about 95% to cash and then about 5% to increase the death benefit, which is necessary in order to shelter that cash from taxes. By the way, just hats off to the person who sent in the question. Absolutely awesome question, because if you do think about like your car insurance or your home insurance, that feels like an expense. And I think sometimes even inside our business, there’s a tendency to feel that that base premium is an expense and it’s not, it’s savings. Absolutely. So under our definition of the facts of life, you better believe that you can count your premium as savings. Now, I would let somebody argue that they didn’t get to count their first

[03:25] year’s premium as savings because we’re all fairly clear that the first year’s premium pays for the death benefit, pays for a lot of the commissions and the cost of running the company since most of the whole life policies are done at a mutual company. So if you really want to get down to the very bare bones specificity and say that you’re not going to count your first year premium as savings, that instead you’re going to count it as an expense, I’m okay with that. But from the second year on, and by the way, I would still count the first year, I’ll tell you why in a minute. But without doubt, from the second year on, your base premium is absolutely to be considered a portion of your savings.

[04:05] In other words, if you’re trying to identify what percentage of your income you’re saving in an annual basis, your premium is a part of that annual saving that can be contributed to the total overall percentage of savings. Now, why do I think the first year can be as well? Is because by around the seventh or the eighth year, if you’re adding paid up additions, and the 14th or 15th year if you’re not, you’re going to have your entire cash value equal all of your premium payments. So without a doubt, your even first year premium is going to show up in cash value, it just takes a little while. So either way you look at it, if you want to count the first year as an expense, that’s fine, as a savings, that’s fine.

[04:52] Second year and on, absolutely without a doubt, the base premium goes straight to cash value, that’s provable right on the illustration and should be considered a part of your savings. And if you’re using savings as a verb in this case, like what percentage savings am I doing every single year? But then it switches over and it becomes the noun as in savings on a balance sheet. Awesome, and the product that we’re talking about is whole life. Does the same concept apply to term life? No, it does not. So term insurance is like car insurance and there’s nothing wrong with it. It is a fabulous protector for people that don’t have enough income to buy their human life value of whole life. And frankly, most people don’t have enough income to buy their

[05:41] entire human life value of whole life. Human life value defined as 10 to 15 to maybe even 20 times your income plus more if you’re a business owner and sometimes more for other reasons as well, depending on your net worth and even your gross worth. So in the valuation of term insurance is part of the big picture. It’s a perfectly acceptable product, but we don’t call the premium a portion of savings because there’s no cash value built inside term insurance. Perfect answer. So here’s an example where you could be using life insurance as an expense. Perhaps you’re a business owner. You need to have that big chunk of insurance and at the same time, using it as a savings program, stocking that money away,

[06:28] that’s maybe going to pay for your kid’s education or other things that you need in your future, all with the same type product, correct? Absolutely, yep. In fact, we have a fun new prosperity profile that we’ve created that will be for people that want a special approach to prosperity economics. And it actually counts the savings of premiums to whole life as a portion of savings and then it also counts the death benefit as part of your net worth. Again, death benefit of whole life, which we know is going to pay versus death benefit of term insurance, which quite frankly we hope is never going to pay. We also had a question about dividends. I think you have that one as well. Yes, so it goes right along with this discussion and it’s the dividend rate

[07:17] that people see on the Web versus the dividend rate that we talk about cash value actually earning. So here we have this savings account that we’re discussing. What is the interest rate that it’s earning? Now, just in that sense, use the term dividends and interest. Technically, it is a dividend that a life insurance company pays, but we express it as an interest rate because that means more to us. If you call up the life insurance company and you say, what’s your dividend? They’re going to actually give you a dollar figure and it’ll be seven million dollars or seven billion dollars or whatever their dividend was that they paid that year, which does not really mean a whole lot to you. If you look up on the Web and you type in Guardian’s dividend or Mass Mutual’s dividend,

[08:04] you’re going to see six or seven percent in today’s world. This is early 2016. That is the gross dividend. In other words, that is the dividend that gets paid from the company before any of the costs. And again, the costs are just like we were mentioning earlier, where the first year’s premium goes. They are the cost of the death benefit, the cost to run the company, and the cost of the commissions to the agent and the agent’s team. So if you have a gross dividend of let’s just use the number six for easy math today, you know that those costs are going to be in approximately the two percent range. So that would mean that the net or the internal rate of return will also use that language. The net dividend or the internal rate of return is in the four percent range.

[08:54] Now, this is going to depend a little bit on age. So if you’re on the older side, 50, 60, 70, even 80, your internal rate of return today is going to be maybe more like three percent. If you’re on the younger side, your internal rate of return may be more like four and a half or maybe even five, depending on a variety of factors. Now, something else that I want to mention is that each insurance company declares the dividend every single year. And again, that’s declared as a dollar figure. Then when you go on the web, you can see an interest rate. Maybe in most cases, not all of them will actually disclose that interest rate, but a lot of them do. So remember that that’s the gross dividend. Then you have your net internal rate of return, which again,

[09:39] at the early 2016 is somewhere probably in the three to four and a half percent range, depending on age. So this is the amount of money that your cash value is earning today. Whether you bought the policy 10 years ago or yesterday in the year 2016, your cash value is earning three to four, four and a half percent internal rate return, meaning after all costs, after commissions. Of course, there’s no taxes after the cost of the death benefit and after the cost of running the company. And we compare that, of course, to the bank rates, which are at one percent taxable. And also at an institution that uses fractional reserves, whereas life insurance companies use a hundred percent principal reserves, legal reserves,

[10:30] meaning they’re reserved dollar for dollar, whereas banks are reserved only five or ten cents on the dollar. And just so that we can kind of simply explain the dividend itself. What is that, Kim? The dividend is the insurance company’s way of sharing their profit, which by law they have to do in its entirety. A life insurance company that is mutually organized, which means it’s not a public company. It’s mutually owned, meaning the policyholders own it. By law, they have to distribute one hundred percent of their profits in the form of a dividend every single year. Now, they’re allowed to keep reserves, obviously, but those profits must go back to the policyholders every single year. And another really important distinction is that once those profits are paid and they’re typically paid on the anniversary date of each policy,

[11:30] they’re declared at the beginning of the year, but then they’re paid on the anniversary date. Once those dividends or profits have been paid, they become a part of the guaranteed cash value. So we have a guaranteed cash value and then we have our proposed cash value, which includes the dividends. Dividends are not guaranteed to be paid every single year. Never mind that most insurance companies have paid them every single year for most of them, well over a hundred years, but they’re not guaranteed to be paid. However, once they are paid, then they move over into the guaranteed column, the guaranteed cash value column, which will never go down again. In other words, a new floor is set on your cash value every single time a dividend gets paid.

[12:20] Every single time that dividend gets paid, it becomes a part of the guaranteed cash value, never to be reduced again. And I just think it’s just it’s so exciting that it’s boring that in today’s environment that these insurance companies can smartly and slowly invest the money year after year after year and continue to outpace bank rates of return while giving us tax advantages. I mean, my hat’s off to them. They definitely have figured this game out. Absolutely. And they figured it out long, long ago. And it’s worked all these years throughout all the depressions, the world wars, all the various other financial things that occur, which we have spelled out in depth inside the financial planning has failed e-book.

[13:13] So again, I’ll encourage people to grab that if they haven’t already. Partners number four, Prosperity.com slash e-book. There’s an audio version as well as a printed version. And right in the middle of it is an entire history of the financial planning industry and all of the myriad of things that our U.S. economy has gone through that are problematic, during which the insurance companies pay dividends every single year. Super. Well, once again, thanks, Kim Butler. This is No BS Money Guy Todd Strobel for the Prosperity Podcast. 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 partnersforprosperity.com.

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