PODCAST EPISODE 297 – How Much Life Insurance Should You Own?

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0:12

Hello and welcome to the sound financial group podcast. My name is Paul Adams and the man I am joined by, who also has one of these incredibly dapper sound Financial Group Limited Edition polo shirts. That swag just yet on the swag today I like it Korea treat it like I got a uniform. Now if I get a new one that just says my name. On the other side, I think I’d be in perfect shape that people know who I am right away even in zoom meetings. So Oh,

0:41

Miranda is chatting, Daniel asked her to ask me to never say rolling that swag again. That’s fine. I just tried it out. To try things out. Yeah,

0:52

compliance departments is our spouse’s saying what words we should not use. Speaking of things that you should not use, we are going to talk about the amount of life insurance to own and why not to use needs analysis in that assess, oh,

1:10

what a segue.

1:12

I know, you’d be impressed experimental left field says, Well, let’s talk a little bit first about the way that most people are sold life insurance. And they’re sold life insurance based upon a sales strategy that was come up into the industry in the 1960s forwarded by a guy named Tom Wolf. And what Tom Wolf pushed forward was the idea of needs based analysis that if you effectively in the sales conversation, backup the hearse, and put them in the position that they’re thinking about death and what it would be like after they’re dead, then talk about how much you need. And then people would obviously have to buy some life insurance because you need it,

1:57

you need it. And there’s a certain amount of logic to the beginning of the conversation. Like, it kind of makes sense. Although it goes to some weird places. For instance, this is how I was trained. Very early in my career, my first stop in the financial services industry and I had a worksheet I mean, this is way back, when we’re actually writing things on paper in front of people, Paul, I can’t even imagine now like, carpal tunnel having to put so much lotion on our hands. Because all the paper we were touching and dry. I

2:32

do remember that temporary eczema on my palms from all the paper.

2:38

So the questionnaire was, you know, several a bunch of different questions and fill in the blanks to then add up to the total amount of life insurance we should apply for. And here’s what it does really well. It gets to a number and gets a client and action really, really quickly. Which is helpful if you were say, driving 20 miles to sit on their couch at five o’clock at night and really wanted to make it worth your while and their while to like make something happen. limited amount of time that you had. But it led us in weird places like the very first question to your point of backing up the hearse was, how much do you think of funeral costs. And as we’re going to see in the numbers here today, the cost of a funeral, even if you’re throwing a bigger party than ever, any birthday party your anniversary ever through, is meaningless in the bigger equation of what we’re trying to protect here. But we saw we’d talk about funerals and kids education and how many how many years of expenses? Do you think your spouse needs if you’re gone? And I mean, now I would answer all of them. But yeah, back then. No, to think that way, oh, maybe five, five

3:55

years, past went to work, they’d be making more than I’m making now. Or as much as I’m making now. Like some all kinds of assumptions like that. And you’ll notice that this happens in lots of areas, sometimes they’ll do retirement needs analysis, again, a sales technique to get people to purchase a financial product to fill the quote unquote need. But we don’t do this with any other type of insurance like we don’t buy a brand new Tesla 100 and some $1,000 vehicle and then insure it so that if it has a problem, instead of getting another Tesla because it got wrecked. I get a 1963 Volkswagen Beetle, because that’s all I need. Know it’s like every other areas of replacement. I don’t look at my house and say gosh, you’re supposed to have it burned down. We could just pull a couple of 1973 Airstream trailers onto my lot and live in No, I mean, my family probably could live in an Airstream, but that would not be is the normal family. So it’s this needs analysis that kind of starts all of the problems as it relates to planning. Because in reality, we’re not living the life right now that we need, we are living the life that we want. And both in the future for retirement planning, and for planning for the unthinkable happening to us individually, we want to be thinking of wants. Now, for a couple of reasons. One, if you’re planning the retirement you want to have, you’re going to be much more ambitious about it, you’re gonna be much more excited about the meetings, the saving the investing. But if you’re like, just I’m gonna get buy in my old age, will no wonder people aren’t very excited about it. And it’s not doesn’t exactly feel like the same gift of love to our families, if we’re getting them the life that they need to stay in as opposed to the life that we’ve been living. So let’s start off, we’re going to look at an actual scenario of a client. But before we do, we’re going to talk a little bit about what it takes to produce income at in our old age. Now, we’ve talked about this before, on some prior episodes, maybe Miranda, could message us, Cory, and tell us what the episode was. But if you think about whether it’s retirement, or it’s planning for our family’s income needs, after we pass, there is an amount of money we got to have in capital at work, this is my poor drawing of a portfolio that needs to have some amount of money in it, such that we can take a 4% distribution every year. Now, the reason it’s a 4% distribution is because whatever a rate of return, we get in our portfolio, we don’t get that every year. And when we’re taking money out, we’re not taking withdrawals, we’re disinvesting. And we disinvest in both positive markets and negative markets. And so if the markets down when we take a distribution, it accelerates the erosion of our capital and prevents us from having enough money. And that’s why kind of test after test, the highest sustainable distribution rate from our investments is about 4% a year. Anything you’d add to that quarry,

7:22

just just that this right here, if you’re having a conversation around life insurance, without the person you’re talking to talking about the math of this, this retirement equation, then something’s being missed. Because it’s all the same math. Anyway, there’s four ways that we can there, it’s all about cash flow, there’s four ways that we can lose our cash flow, death, disability, lose your job, or retire. Three of them are all trying to avoid one of them. We all want in some way. But the the numbers are all the same. It’s all the same math and all the same equation, which we’re going to be thinking about.

8:00

Yep. And you’ll notice a lot of the sales techniques that financial services industry offers you when you have conversations with them, are not educating you and based financial principles. The radio shows that you listen to as we’ve reviewed, some of those conversations today are teaching you rubrics to live by, but not teaching you the underlying math so that you’re more enabled, the next time you engage with something financial. So the 4% distribution is pretty simple. If we had somebody who had, say $260,000 of income they need to generate sorry, that should be written down here. Cory, if you were to take the 260,000 and divide that by point 04, I think you get 6.5 million, but I did it my head and I’m not sure I got it, right.

8:58

6.5 million. Is that right? Correct? Yep, six, five.

9:06

So we need $6,500,000 to produce $260,000 of annual income. Now, that’s kind of an easy first calculation we can do. Like, we got to have about six and a half million dollars to be able to retire in a similar lifestyle to that which we had while we were working. By the same token, that’s about the amount of money we would need to leave to our family, for them to sustain the same amount of income that we were earning. Okay, so we’re using a 40 year old male, oh, making 60,000 a year.

9:44

If you know if I’m gone, my family doesn’t need all of the income that I had before.

9:50

And if if you were to say that, what I would do is I would simply ask you in return if something happen you how much did the bills change next month? Now maybe you have a tennis club membership that your family wouldn’t continue. Maybe they can get rid of your car. But in reality, I bet over 95% of all the income still needs to show up. But you’re great.

10:17

And what’s so amazing is there’s something some financial narrative in our country that has folks think that and that kind of comes out of their mouth. But then nobody, like if you actually stop and think through it for five seconds. It’s like, oh, yeah, like, part of the grocery bill, but for a family of four, like 25% of the grocery bill last if you have teenagers, because you’re not eating nearly a quarter, right? So like, some of the grocery bill may be one of the cars, maybe my membership here, there, but none of the fix things change, because it’s not like you’re getting a 25% smaller house for the three people that was for,

11:00

right? Exactly. Right. Exactly right. And some costs may go up, you might need additional childcare or something else that replaces the little bit of savings. But fundamentally, if you were to look at your actual household budget and try to delete one of you, like my family would probably save some amount every month on my Cabela’s bill. But it’s not going to be enough to actually change the household budget. Okay. So if we look at that, we know that we need to have six and a half million to $260,000 a year in retirement or if we wanted to continue that to our family. But we have a different problem. And the problem is insurance companies will not give you as much life insurance as you want, they limit it. Now, the way they limit it, generally speaking, is when someone is in their 20s, you can get 30 times your annual income when you’re in your 30s, you can get about 20 times your annual income. When you’re in your 40s it’s about 15 times 50s 10 times and you kind of see the trend here, they’re wanting to make the amount of death benefit, you get fairly commensurate with the amount of loss your family is likely to have, after you pass. 60s are in there doing

12:27

your one one times assets or asset Yeah, the they’re doing a simplified net present value calculation with those with those ranges. Now, the insurance company does a very specific net present value calculation when they take someone through underwriting because they don’t, you know, just like a car insurance company would not let you insure your night teen 95 Toyota Camry for $200,000 replacement value. Yet, they’re never going to let you have more life insurance than what you would have produced while you were alive. And it’s going to be except for your 20s it’s going to be a little bit less because they don’t want couples doing math. And they don’t want someone say, well, a million dollars right now versus having to deal with this person for the next 20 years. Like oh, no like it, the math is better for having you alive and earning income on the balance sheet. In your 20s you’re going to grow so much from early early on in your career that they give you that extra padding.

13:34

Well, in lots of times, we’ve helped clients when they’re younger, say in their 30s be able to get 20 times their annual income and depending on the stability of their income, oftentimes, getting the full human life value means without drastic income increases, that you kind of end up properly ensure the rest of your life instead of needs analysis after needs analysis. Because if you do needs analysis, you got to stay on top of it every year. And by the way, the needs analysis is wrong. Because let me point this out. If we have this 40 year old male, making about 260 A year 15 times that is about 4 million. So let’s go down to our prior graph. And we have a household that’s making 260,000. But if we put 4 million up top here, that’s only 160,000. Now, is that enough for the family to not have any chance of backsliding or losing their lifestyle? No, it’s not enough. But it’s the best that we can do. And that’s what we have to do with insurance is offload as much of that risk we talk about the philosophy of insurance is to cover catastrophic losses and then get as close to full replacement as we can. If this was a commercial building that was kicking off $260,000 a year. We would not insure it if we could if we could help it. We would not insure it so that we only get $40,000 A year from the Building when they rebuild it, we want the entire building rebuilt. Same thing with human capital, we’re ensuring that human capital now, to insure this person and get a 20 year level term, that could be converted to whole life insurance later meaning later, they don’t have to prove their health to change to a life insurance policy will last the rest of their life. Now, we’re not getting into the uses of whole life insurance or any of that today, we have plenty of episodes, just search our channel for whole life, you’re gonna see some stuff. But today, we’re just talking about if we got it all in term, and we never changed, it always stayed term, it’s going to cost this person $3,275 A year for that term insurance. So $4 million of 20 year term cost $3,200 a year. So question has to become, is there a better use of that money? Any scientific mind would ask that question of could I be doing better? Or what will I be costing my family to do this term insurance, what’s going to come off of my total wealth building, so we’re going to look at that here. And so what we’re going to do is put on our three to seven, five, and we’re going to put it in at an interest rate of six. So assuming maybe we earn 8%, before tax 6% after tax, depending on your bracket. And we’re going to analyze it for the next 20 years, the span of the term insurance. So our last opportunity cost on this money is $127,701, meaning whatever our net worth was going to be, it’s going to be $127,000 less. Now, remember, to support our $260,000 income was going to take like 6 million and some change six and a half million. How big of a difference is 127? Gonna make on the six and a half million? Not much, but let’s look at the actual impact. So the first thing we need to assess is, well, how different is that? 127,000? That feels like a lot of money today. But what’s that going to feel like in future dollars. So let’s just assume

17:22

it’s amazing, like just compound interest and lost opportunity cost that that, you know, three grand a year seems really small. But 127,000 is a big no, it’s not a small number, right? Like, it’s, it’s amazing how that adds up over time.

17:39

It really does. And even inflation adjusted, it still feels like 70,000. So effectively in future dollars owning no life insurance would redeem this family, and extra $70,000 in present value in future dollars. So let’s see what that boils down to. So I’m just going to use this little bit of white area I have left. And what I say that was 70,000 705 so if you’d have your calculator there, ready 70,000 705 Cory We need to take a 4% distribution off that every year for our retirement $2,800.20 2828

18:22

and 20 cents 2828.

18:32

Now would you do me a favor, because of course we’re gonna have to pay taxes on that would you just give me I’m just gonna put minus 30% Just multiply by 70 Yeah, 1979 7419 79 and 74 cents, I’m gonna just round that in my head to 1800. That’s just a little over $150 a month. So I want to frame this up for everyone. If you didn’t own term insurance and this person situation, and every single year, you successfully save that money. So you own no life insurance at all during the accumulation phase, you save your $3,275 a year, you do so flawlessly never missing a payment for 20 years straight and that investment does 8% Before Tax 6% after tax and it’s smooth and up into the right. Never ever a negative year. You end up with just enough money to pay your gym membership. And you will never call your advisor. If we’re your advisor you never going to call us and be like Hey, Paul, good news. I got the last $150 a month I needed. Now we’re financially independent and I can retire at If no one ever made that phone call to their advisor ever. And so what we can see if we go back to our math, that $1,900 a month ends up not being enough to get anything done in your financial life or make you more financially successful. But now let’s take a different look. Let’s say the unthinkable happens, either somebody loses their insurability, hence the need for conversion, or, God forbid, that breadwinner dies sometime the next 20 years. How big of a difference? Did the $3,200 a year make getting deployed to the term insurance? When I’ve asked clients that question, the answers I get are usually it makes all the difference. It means my kids go to college, it means my family stays in the home. Now some of you listen to this. You’ve probably had some conversation with an insurance agent at some point where they showed you met. But I mean, you if you worked with some of that actually showed you the maximum you could own. You were blessed to have had that person. Most don’t. They don’t even show you the maximum you get. But if you were showing the maximum, then you said something like, Hey, let’s just shave, can we shave a little bit off, let’s just only do 3 million? Well, imagine we do all that math again, well, then it’s 25%. Less is all the difference that we save. So that’s like, you know, $37 a month of retirement income, because you took that extra risk with your death benefit. And so our big point is, if you’re saving an appropriate amount of money, the likelihood of your term insurance premiums doing any long term financial damage is about zero. And Cory prepared something let me share with you guys crossing my fingers. This comes up on the screen. Oh, it did look at that quarry. Quarry is preparation was not thwarted by my ability to use technology. So what we did here is we just put somebody who’s saving an appropriate amount of money. They’re making 260 a year just like our person, they’re getting pay raises a little bit every year, and they’re increasing their savings. They’re also increasing their lifestyle by 3% a year. And this is assuming they own no life insurance. And you can see I think if I hover here, there’s that one, it doesn’t just hover without clicking. Yeah, there we go. So they ended up with 8.8 million. And they continue to take that 200,200 10,000 Our lifestyle taxes today, out into the future and are able to live a fantastic life. Now, just remember that 8.886 And now I’m going to just push a button on this cost of Term insurance.

23:14

It looks like it didn’t change at all. Cory. I need to click off. There we go. 886621 That seems like the same numbers before.

23:23

Same number something. All right, we’re gonna have to do a edit. Pause.

23:29

Hang on, maybe we’ll just do it with the audience with us. Let’s see.

23:39

86967 just shifted 88686210 And then, okay, that’s clicked

23:52

it 6960 That’s what it should go to. Oh, it is changing at age 86. And here’s the a little bit of this. So that’s a no,

24:08

but just leave it in. Even Miranda talking I think is fun. Well, everybody’s talking. Everybody

24:14

please like and subscribe. It really helps the algorithm. Thank you so much. Miranda,

24:19

I’m so glad you said some that I totally forgot. Yes. Here’s the thing, like and subscribe, because it’s the only way we can make sure YouTube goes over to Dave Ramsey’s house and kicks over his garbage cans. That’s every time we get a like or subscribe. YouTube only does there’s

24:37

a lot to do that we’re not endorsing. It’s just that we’re trying to tell them not to be we just know that they will. We’re not asking anyone to do that. So we’re here to read the disclosure and the description box. Thank you very much.

24:50

I think we unleashed a monster was Miranda. I don’t know where she’s gonna pop it now. So here’s our point, guys, US clicking back and forth. It doesn’t move enough to make a difference. It doesn’t move the retirement income, it doesn’t move any of it enough to matter. So I am going to try to get it for you guys to click, though. There’s come on hover. There we go. Okay. 8696 Now I’m gonna unclick it. We’re not paying term insurance anymore. I’m waiting for this thing to do. It’s

25:25

just, yeah, just hover over it. And then maybe you have to click on a Mac. You know, we these Mac’s trying to run Microsoft, they just

25:40

you leave my Mac alone. Here, I’m gonna make it real easy. What year is that? We’re just gonna go to the 25.

25:45

Yeah. 2520 588

25:48

to one. Yeah. Okay. That is, without our term insurance. We add our term insurance. And even in Korea scenario, he’s paying the term insurance for all 25 years. 869. It’s like it’s, it’s so small. It doesn’t make a difference. You can’t even see the chart move, y’all. Now, if this chart is something, yeah,

26:17

would you do me a favor, just so they can see the visual and scroll up to the top, turn off the income and turn on the life insurance.

26:33

And without looking at the even looking at the actual numbers, you just see, that’s the economic impact. That’s what’s happening.

26:42

Yeah, it’s not enough. Even the maximum amount of life insurance you can get for you and your family is not enough for them to stay in the exact same lifestyle. But it’s the best that we can do. And that’s why we talk about the fact that we’re going to ensure something we insure against catastrophic loss. And we do our best to ensure for full replacement, that if you’re in your 20s, you can get 30 times 30 is you can get 20 times 40, you can get 15 times 5010 times your income 60 plus one times of assets and there are modifiers in there. If you’re a business owner, and there’s a Buy Sell agreement or a key man policy, you can stack some on top of it. But for everyone listening, I would have you just take a quick look at your life insurance, use that simple multiple, by your age, and see how much more life insurance you could possibly own period more than you have now and then do some simple math, take your existing life insurance, multiply it by point 04 And see what you’re replacing for your family. Now, one last note on life insurance before we let you go. Lots of times people say well, I got enough to pay off the mortgage. Because oftentimes, and I think you were talking about how do we get here as Americans where we think lifestyles cost is going to go down. When one person passes. It’s because when we first moved in together with our spouses, we did save money. We weren’t paying to farm or rents or we weren’t paying two mortgages. And it did get more efficient that one day. But after that, and after lifestyle is built, there isn’t a ton of extra money when one person passes away. And that even getting what seems like a large lump sum in the way of tax free life insurance, death benefit. It still is just an income stream. So if you pay off the house, it’s still just 4% money. Yes, we’re in a higher interest rate environment now. But remember, the money has to last decades and decades and decades. And we won’t always be in this high interest rate environment. So just paying off the mortgage, remember only stops the principal and interest. So if you’re making $260,000 a year, like our example, and you’re like well it pays off the house and the house payment is $4,000 a month well 2800 of it is principal and interest. That’s all you’ve reduced. So if you make more than about $33,000 a year, you should probably have more life insurance than what pays off the mortgage. So be sure everyone likes subscribe, comment below. And you know what I’d most like you guys to comment below. Anything. You can say something negative about me my beard, Coreys taste in polo shirts, anything that you want. Comment below because it actually does make a difference for the show. It helps more people find us it helps more people get this great financial information. When you simply like subscribe and comment below or if you’re listening on podcast, go in and do a review. It means the world that gets the podcast in front of more people, and it’ll help them just like we hope that helps you be able to design and build a good life. We’ll see you guys next week.

 

 

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