Pension Max

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theironhorse's picture
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I understand the concept of what I call pension maximization, but have a few questions as I begin to prepare my first "real life" case where it is appropriate.  I have a near retirement Federal Government employee.  She is participating in the OLD program.  She is not eligible for Social Security.  She wants a survivor benefit.
 
So naturally I am looking at a Guaranteed DB Life product and comparing the annuity payout from that policy versus the survivor benefit.  I am 99% certain we would not annuitize the death benefit payout, but it is nice to compare apples to apples.  My question is this.  Is there anything I need to know about the OLD Federal Pension Program that is unusual?  I have heard it is complicated and a pain, but never told why.

anonymous's picture
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Joined: 2005-09-29

Sorry, but I can't answer your question, but I wanted to comment on "pension maximazation". 
 
This may help some of you sell a hell of a lot more whole  life insurance because this concept makes it clear that there is great value in the death benefit of whole life insurance for the LIVING person.
 
One concept that needs to be understood is that retirement planning isn't about having the most assets.  It tends to primarily be about having enough income.   (I'm using completely made up numbers.)
 
The basic pension max concept is that Joe gets a pension.  He can choose between $3000/month for as long as he lives or $2,000/month for as long as either he or his spouse is alive.  He's stuck with $2,000 because he can't leave his wife without the money.  However, what happens if he takes $3000 and uses some of the money to buy life insurance.  If $800 can be used to purchase life insurance and his wife will end up with more than $2000/month, he gets more money to spend and his wife will have more while they are both alive and still have $2000 when she's dead.  "Pension Max" gives the pension getter more income without hurting the surviving spouse.
 
Joe and Sam are both married and each have $2,000,000 and are retired.  Joe has a large permanent insurance policy.  Sam does not.   Who can spend more money in retirement?  What if they both annutized their money?  Joe could get $9000/month for as long he's alive.  Sam would be forced to take $6000 for as long as either he or is wife is alive.  I'm not saying that annuitizing is the best thing, but it's an easy way to show that one can spend a lot more money if it doesn't have to last until the second death.
 
The concept of "Pension Maximization" is useful in all retirement planning scenarios that involve a spouse. 
 
The second part of this, from a sales perspective, is helping someone to understand that putting money into whole life insurance won't cost them anything provided that the money is money that would otherwise be going into conservative long term savings/investments.  I don't mean that the life insurance is free.  I mean that the cash surrender value should be very similar to the value of the conservative money, so this decision has no negative long term impact on net worth.
 
 

theironhorse's picture
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Joined: 2007-03-03

anonymous-when you run the numbers for real life scenarios, are they usually very close to each other?  in my case the payout from a SPIA using the full amount of the death benefit is almost the same.  biggest "difference" to me is the flexibility the lump sum death benefit would provide.  if i get creative and couple it with a gwb or gmib the survivor can essential live off the annual "allowable" amount and still pass a decent size death benefit on to an heir.  this would not be possible with a survivor benefit.  plus, bear in mind this is assuming the spouse passes today.  if she lives any time at all the spia benefit will be considerably higher.
also, do you always use whole life or a guaranteed ul product also?

B24's picture
B24
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Joined: 2008-07-08

I use this concept a lot, as most of my clients have pensions (some have multiple ones).  Generally, I find that the delta is only worthy of insuring when the pension stream is large (i.e. it's useless to insure someone if their additional monthly cashflow will only be a few hundred bucks over the joint survivor option, minus policy costs and income taxes on the additional monthly income), and the person is healthy.  Otherwise, it's close to a break-even.
I find it works very well for early-retirees.
 
I like using UL's for the flexibility and cost.

anonymous's picture
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Joined: 2005-09-29

theironhorse wrote:anonymous-when you run the numbers for real life scenarios, are they usually very close to each other?  in my case the payout from a SPIA using the full amount of the death benefit is almost the same.  biggest "difference" to me is the flexibility the lump sum death benefit would provide.  if i get creative and couple it with a gwb or gmib the survivor can essential live off the annual "allowable" amount and still pass a decent size death benefit on to an heir.  this would not be possible with a survivor benefit.  plus, bear in mind this is assuming the spouse passes today.  if she lives any time at all the spia benefit will be considerably higher.
also, do you always use whole life or a guaranteed ul product also?
 
This is a hard question for me to answer.  Like I said, I use the pension max concept on almost a daily basis.  However, I'm often using this concept on someone without a pension and usually well before they are retired.
 
If you are talking about using it for someone who actually has a pension and is about to retire, the numbers sometimes work and sometimes don't.   You'll have to look at their specific pension info and the actual rates with the life insurance.
 
I don't always use WL.  For clients who older, I often use guaranteed UL products.  Otherwise, I'm using term insurance, whole life insurance, or a combination of the 2.   It is very, very seldom that I'll use a UL other than GUL and never use VUL. 

anonymous's picture
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Joined: 2005-09-29

"I like using UL's for the flexibility and cost."
 
This is a frequent argument in favor of UL.  If you look more in depth, UL actually has less flexibility and costs more than a participating WL policy.
 
 
 

B24's picture
B24
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Joined: 2008-07-08

Explain. I'm interested, as I don't do any WL.

anonymous's picture
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Joined: 2005-09-29

UL is nothing more than annually renewable term insurance with a side fund.   The cost of insurance per thousand goes up every year.  The COI needs to be high enough to protect the insurance company in case mortality or their expenses is more than expected. 
 
Let's say that someone has a planned monthly premium of $300, and the COI is $50.  The product appears to be flexible because, even if the cash surrender value is $0, all that needs to be paid is $50.  This is like "buy term and save the difference" because the difference doesn't have to be saved.  The problem is that next year, the COI is $60.  10 years from now, it is $200.  20 years from now, it is $400.   25 years from now, it is $500.  If there isn't enough cash in the policy, and one can't afford the $500/month COI, they don't have insurance.  This doesn't qualify as flexible. 
 
Would you sell someone an ART policy for a lifetime insurance need?  Of course not...except that you are doing just that with UL.
 
Now, compare it to WL.  With WL, they must overcharge just like they do with UL.  However, there are some major differences.  Who benefits from a UL policy overcharging?  The stockholders.  When actual mortality is lower than what is charged, the policyholder doesn't benefit.  
 
With a participating WL policy, when the insurance company's investments do better than the low rate that is guaranteed, or their mortality is less than the high rate that is guaranteed, or their expenses are lower than the high amount that they guarantee, a dividend is paid.  This dividend goes back to the policyholder.   What ultimately happens is that an insured pays for actual mortality instead of an artificially high cost of insurance.  More importantly, they are always paying the rate of a 30 year old if they buy a policy as a 30 year old.
 
Joe buys a WL policy when he's 30.  Sam buys a UL policy when he's 30.  They are now both 45.  Joe is still paying the rates of a 30 year old.  Sam is paying the rates of 45 year old.  Joe's policy has a dividend that is as big as his premium.  He can pay out of pocket anywhere between $0 and the entire premium amount and his death benefit and his cash value will grow every year.  This is flexibility.  Sam can pay less at times, but it will force him to pay more in the future.   Taking money out of the policy when he gets older will increase the likelihood of the policy lapsing.  This is not flexible.
 
As for cost, don't confuse initial cost with total cost.  Forget the cash value for a minute.  What's cheaper...ART or 20 year level term?  In the beginning, ART is cheaper, but over the course of 20 years, a level policy is cheaper.   When we are comparing UL to WL, the difference is much greater because we are comparing ART that last at least to age 100 with a level premium to the same age.  The level premium, although more expensive in the beginning, is ultimately much less expensive.  Now when you factor the fact that both products are intentionally overpriced, but one pays these excess premiums to their stockholders and one gives back these excess premiums to the policyholders, it is no comparison at all.
 
Does this make sense?

RiverPlate's picture
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Joined: 2008-11-25

anonymous, <?: prefix = o ns = "urn:schemas-microsoft-com:office:office" />
Thanks for that explanation, however, there are two things to consider that I don't think you touched on, when using UL vs WL. The first is the risk/return scenarios for the two products in WL the insurance  company has all the risk (mortality risk and investment risk), because of that, the leverage per dollar of premium is lower. In UL the risks are  split (mortality risk belongs to the insurer and investment risk belongs to the policy owner), because of this you can get more leverage for your premium dollars. The other thing is that in WL, your premium is fixed and in UL even though your COI increases each year, you are only charged on the "at risk" death benefit (which is the DB - Cash Value),  so as your cash value increases, your total insurance cost can go down even if the COI per $1000 of DB goes up. I think that as with any investment strategy it depends on the risk tolerance of your client.
 

deekay's picture
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Joined: 2007-05-15

Tell us, RiverPlate, where in the UL contract does it say your CSV will go up?  Where in a WL contract does it say you MUST pay the premium out of pocket every year?  Let me give you a hint:  It doesn't. 
You certainly have some knowledge under your belt, but I get the sense that some insurance wholesaler/home office employee is feeding you a line of garbage.

anonymous's picture
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Joined: 2005-09-29

Riverplate, correct me if I'm wrong, but it sure seems like you changed this from UL vs. WL to VUL vs. WL.
VUL vs. WL is a stupid conversation.  How can we possibly compare products where one has investment risk and one doesn't?   However, I'd be happy to have this conversation, but first, you'll have to show how VUL is better than "buy term and invest the difference".  If you can't do that, you need to get VUL out of your product mix.
By the way, it's incorrect to say that in a VUL, one is only charged for the "at risk" death benefit.  Ex. COI = $5/1000 and M&E = 1% of cash value:
Joe and Sam both have $100,000 policies.  Joe has $0 cash value.  Sam has $50,000.  Joe is paying $500 in insurance related costs (COI of $500 + $0 M&E).  Sam is paying $750 in insurance related costs  (COI of $250 + $500 M&E).
 
What is M&E in a VUL.  Basically, it's just an extra charge that the insurance company tacks on in case they aren't charging enough for insurance.  Why does the M&E increase when the insurance company's risk decreases?
 
Anyway, please provide one example, using reasonable numbers, of VUL being better than BTID so that we can talk further.  If you aren't talking about VUL, please explain further.  Thanks.

RiverPlate's picture
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Joined: 2008-11-25

a UL has a variable rate of interest, a VUL has a variable return of sub accounts, in either case, the policy owner holds the investment risk. A UL usually has some minimum rate and then credits a bench mark + some spread. It is as if you buy a floating rate security, you still bear the risk.
 
I wasn't talking about a VUL, but, since we are on that point, yes, M&E is a cost in a VUL, however, I don't think you were making a fair comparison, assume that we buy a decreasing ART policy, and we invest the difference in a way that gives us tax defferal (so that we are essentially looking a lot like a VUL), in this case, since we are talking about people with pensions, I am going to assume they don't have earned income, so guess what we need...an annuity, which charges, yep you guessed it, M&E of about 1%.
 
Now, if the client falls on hard times,  they have to take $ out of the annuity which would cause taxes.
 
The bottom line is, if you want tax deffered growth that is part of the market, you have to pay M&E, so, no I don't include that in the COI.  
 
I hope this helps explain a little further, sorry for the confusion.

theironhorse's picture
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Joined: 2007-03-03

my experience has been that to properly fund a ul to the point where there is ANY cash value at age 85 or 90, you might as well by the wl and get the "guarantee." most often we use ul because of the lower cost to guarantee the DB, knowing full well there will be no cash value to pull from, no?

anonymous's picture
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Riverplate, I assumed that you were talking about VUL because you mentioned investment risk.
 
"a UL has a variable rate of interest, a VUL has a variable return of sub accounts, in either case, the policy owner holds the investment risk."
 
We can't have much of a conversation if we are starting with a false premise.  UL has no investment risk.  A variable rate of interest does not give something investment risk.  If it did, you would have to agree that a bank savings account has investment risk.  A UL is not an investment because it carries no investment risk, thus, one only has to be insurance licensed to sell the product.
 
"I wasn't talking about a VUL, but, since we are on that point, yes, M&E is a cost in a VUL, however, I don't think you were making a fair comparison, assume that we buy a decreasing ART policy, and we invest the difference in a way that gives us tax defferal (so that we are essentially looking a lot like a VUL), in this case, since we are talking about people with pensions, I am going to assume they don't have earned income, so guess what we need...an annuity, which charges, yep you guessed it, M&E of about 1%."
 
The goal isn't to make a fair comparison.  My goal is to find the best product for my client.  Sure, I could compare VUL to a non-qualified VA and a decreasing ART policy, but why would I do this?  It's not the best option for the client.  With the VA, they would have to pay M&E charges and then the taxes would be income tax instead of capital gains taxes, and there would be no step-up in basis at death and no break points if using a loaded fund family, and the money would be tied up to age 59 1/2 to avoid penalties.  Also, why would I use a decreasing ART policy instead of finding the cheapest level term policy that I could find and periodically lowering the death benefit? This will make the insurance much cheaper.
 
Choose your favorite VUL.  Pick your subaccounts.  Choose your premium.  Put the same amount of money into a level term policy and the same funds.  The VUL will get blown out of the water.  With the VUL, the insurance cost will be WAY higher, the M&E will be a huge drag on performance, there will be no breakpoints, money going in to pay for the insurance will have a sales load, the insurance needs to stay in force forever to stop the gains from all being taxed as income.
 
It's a false argument that if one wants tax deferred growth, they need an annuity.  Buy an index fund and almost all of the growth will be tax deferred.  Tax deferral in exchange for higher tax rates and no step-up in basis is not something that people want.  Tax efficient funds and level term insurance will beat the VA + decreasing ART, thus this is the comparison that needs to be made.  A VUL salesman can't make this comparison because it will stop their ability to sell VUL.
 
Theironhorse, You are correct.  UL makes sense as "life time level term insurance".  It makes sense for a permanent need when cash value doesn't matter.   

RiverPlate's picture
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If you are doing a guarenteed UL I'm with you all the way, but you can do a standard UL to endow at age 100 using current assumptions (and in my experience which is probably less than yours, I have only been a FA for 5 years), get better leverage per dollar of premium then with a WL. But again, it uses current assumptions, which may or may not be correct. But this isn't always bad, if current assumptions turn out lower than actual returns (and you live long enough) you may get more DB then you initially bought, on the other hand, if they turn out to be too optomistic, the policy could blow up and the client ends up with nothing, that is why I think risk tolerence comes into play.
 
I'm not saying that WL isn't a great product, I just think that UL can play a part in this strategy for the right client also.
 
 

RiverPlate's picture
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By the way, investment risk includes more than just capital risk. It also includes interest rate risk, reinvestment risk, credit risk, inflationary risk, and yes capital risk. To say that just because we don't have capital risk, that we don't have investment risk, doesn't sound like you are thinking this through very deeply. And yes, a savings account carries risk, as do T-bills, CDs and every thing else out there including actual cash.
Also, I am glad that your goal is to find the best product for your client, but to say that WL is better for all clients in this situation, is like saying all you need to help a homeowner is a hammer.
 
Third, my point about the reason I picked a decreasing ART was because that is how the cost structure in the VUL works, the COI/$1000 goes up, but the at risk DB goes down. One last thing, you can't have "almost" tax deffered, you either have tax deffered or you don't some non-tax deffered investments can be more tax efficient then others, but they are still not deffered. If you want to pay your taxes later, and can't contibute to a 401k or an IRA, can you tell me some other way to get defferal outside of an annuity?

anonymous's picture
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Joined: 2005-09-29

"get better leverage per dollar of premium then with a WL."

 
Short term, but not long term.  One problem is that no matter how you slice it, UL is built on ART.  ART is not designed for permanent insurance needs.   The other issue is that the premium must be artificially high to protect the insurance company.  With the UL, the company (stock holders) benefit from mortality and expenses that are lower than being charged.  This benefit comes at the expense of the policyholders.   With a participating WL policy, it doesn't hurt the policyholders because it all comes back in the form of a dividend.
 
"if they turn out to be too optomistic, the policy could blow up and the client ends up with nothing, that is why I think risk tolerence comes into play."
 
Why would someone want to take risk with their life insurance?  Why would someone want to take a product that has no investment risk and add an element of risk that doesn't need to exist. 
 
"I'm not saying that WL isn't a great product, I just think that UL can play a part in this strategy for the right client also."
 
Ok, I'll bite.  Give me an example where UL (not GUL) is the best insurance solution.
 
"And yes, a savings account carries risk, as do T-bills, CDs and every thing else out there including actual cash."
 
Yes, everything carries risk.  Everything doesn't carry investment risk.  Why in your definition would UL carry investment risk and WL doesn't?  The reality is that they both have risk.  Neither has investment risk. 
 
"Also, I am glad that your goal is to find the best product for your client, but to say that WL is better for all clients in this situation, is like saying all you need to help a homeowner is a hammer. "
 
You may want to back this up.  When did I say that WL  is better for all clients in this situation?  What situation?  In most situations, I actually believe that all term or a combination of term and WL is the best.  Sometimes all WL is the best.  Sometimes GUL is the best.  I'm still waiting for a specific fact pattern that would ever make VUL the best. 
 
"Third, my point about the reason I picked a decreasing ART was because that is how the cost structure in the VUL works, the COI/$1000 goes up, but the at risk DB goes down."
 
I understand your point, but it doesn't make sense to use a term product that won't be the least expensive.
 
If you want to pay your taxes later, and can't contibute to a 401k or an IRA, can you tell me some other way to get defferal outside of an annuity?
 
Everyone with income can contribute to an IRA, but that's not the subject of this conversation.  Investing in the stock of companies that don't pay dividends will accomplish this.  However, "tax deferral" isn't a real goal.  If you dig a little deeper, nobody has the goal to defer taxes.  The goal, for example, is to maximize retirement income and leave money for the kids.   An annuity, because of the increased expenses and the tax rules, doesn't accomplish this.  One still make sense as a risk management tool, but again, that's not the subject. 
 

theironhorse's picture
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Joined: 2007-03-03

river-bottom line to me, and this is my opinion and based on MY experience is this.

never use ul for any death benefit which your client EXPECTS to have forever, unless it is GUARANTEED death benefit ul. the risk involved the other way will never work in your favor. the illustrations mean nothing, and you will be better off if you learn to stay far far away from the projected cash value when dealing with clients. all you are doing is opening YOUR PRACTICE and your client relationship to trouble. the whole life is more expensive, but it is much better for you and them. less chance for problems down the road.
all i am going to say is this, and not to be a smartass, but from someone with way more than 5 years experience, do not sell the non guaranteed ul as an alternative to wl or gaul. you will not find a client that this approach "is right for." they may say it is and agree with the premise, but the sheet will hit the fan 12 years from now and they will want answers.

troll's picture
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Joined: 2004-11-29

in my area, state farm placed a lot of people in UL (not VUL) between 5-10 years ago.  i run across it monthly.  They ALL were under the impression that this was "permanent insurance" even though the ledger they have shows the policy collapsing between 65-85. 
I also have a customer that had VUL products.  They have paid $30000 over the last 6 years and have $10000 cash value.   They are in their early 40s and their policies would collapse at age 68 (not state farm this time).  Once again - they were both told they'd have "permanent insurance" until they died. 
 
There is SO much more flexibility in a combo term/permanent (obviously you can't by the same amount of permanent for the same price as UL).  most people don't want the whole death benefit so they can ditch the term at retirement, and the WL has a stopping point also (ours is age 65 or 90 depending on the policy). 
 
In the situation above, pay $500 a month and have the policies collapse at 68 (or take the cash value at around 60 - and it is a terrible return) OR pay $500 a month, drop the term at 55 when they retire (state benefits), stop paying the WL at 65 - and have a permanent living AND death benefit.
 
UL is a great product - but not for someone wanting money or insurance INTO retirement age - usually for someone that wants money AT retirement age (that is why banks use BOLI to fund exec's retirement).

troll's picture
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Joined: 2004-11-29

i have a lot of state employees...  many pensioned employees like WL and UL because it isn't tied to the stock market (unless it is indexed) and so it is more stable (like they are used too with their benefits).  most won't need extra money at retirement though (because their pension starts) but as time goes on their pension doesn't keep up with inflation.  they have to start taking withdrawls from their deferred comp and IRAs by 70.5  - but WL has cash value they can leave growing tax deferred into their 80s or 90s!  also - if they only have the pension they may not have 25k lying around for funeral expenses - so this way they always have something into old age.  UL doesn't offer this (unless you overfund the policy but why...?).
 
i was told before i started by some other reps (edj and morgan) not to mess with state workers - but i find they are great clients for small amounts of WL (and ive done quite a few replacements on UL for them too).  they may not have $100,000 to put away - but they are great for insurance and good referral sources.
 

troll's picture
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Joined: 2004-11-29

and to support anonymous - we do WL all day - and some huge cases including replacing UL and VUL (my mentor has some $100,000+/yr premium clients). 
 
No one has ever come back and said - why did you put me in this product...
 
the companies selling a lot of good WL (NMFN, NYL, MASS, others too) - have low lapse ratios because people understand they are in the right product and see the value in WL. 

troll's picture
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Joined: 2004-11-29

the perfect scenario (and one of the only ones) for UL or VUL - company has 5 executives they want to give bonuses too.  you can't give more to one or less to another through a 401k or other qualified plan - UL is the perfect vehicle.
 
i don't see many other situations where it is more beneficial to have UL/VUL instead of a combo of term/perm

theironhorse's picture
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Joined: 2007-03-03

must be nice to work with people who have no monetary constraints then silver.  gaul can be a very good alternative to whole life where the db is the only concern.

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