5 Buckets 4 Shovels a Beach and a Map

Insurance Bucket

What:

The second bucket is insurance. During a person’s life, depending on their family situation, they could use a variety of different insurance products. In many cases, insurance is used as protection for a sudden unexpected event that happens to many of us. However, in some cases they are also a retirement asset or an estate-planning tool.

Types of Insurance Coverage:

There are a variety of insurance options available to you that provide coverage for your most important assets. This will include property insurance, auto (or other vehicle) insurance, health insurance, life insurance, and depend- ing on your net worth and the assets that you own, umbrella and indemnity insurance.

It is interesting when you realize that in most situations, the amount and type of coverage for medical and indemnity insurance doesn’t change all that much. To protect your family, medical insurance is essential. To protect your assets, insurance from an auto accident, a fire, a storm, or an earthquake is essential. The amounts of coverage, the amounts of deductibles, and your policy exclusions are all personal preferences that seem to vary with your level of net worth. The higher your net worth, the higher your coverage limits.

While we cannot cover all of the insurance products that are available to you, we will cover the most common.

Auto Insurance: Auto and vehicle policies cover the costs associated with getting into a car accident, and often includes liability coverage should it be determined that you were at fault in an accident and that you must cover the costs caused by you to the other vehicle.

Most states require all vehicle owners to purchase some minimum amount of auto insurance, but many people choose to purchase additional insurance to provide further coverage. Premiums will vary based on age, gender, years of driving experience, accident and moving violation history, along with a variety of other factors.

Health Insurance: Health insurance covers medical and surgical expenses that you may incur, though coverage varies. As with auto and property insurance, health insurance policies will either reimburse you for the expenses that you incurred while sick or injured, or will pay the health care provider directly.

Many people receive health insurance coverage from work, and it is often part of the employee benefits package used to attract potential employees instead of losing them to a competitor.

It is important that you understand the limits of your health insurance policy. Medical bills are often high, and your policy may only cover part of the bill. Unforeseen medical costs can deplete your savings without proper coverage, especially if you are unable to work while you are sick or injured.

Property Insurance: Property insurance includes homeowners insurance and renters insurance, and provides you with financial reimbursement in the event of damage or theft of your property and its contents. Depending on where you live, you may need to consider flood or earthquake insurance as well. Not all standard home insurance policies cover damages due to events like these.

Property insurance will generally cover damage caused by fire, smoke, wind, hail, lightning, and weight of ice and snow, in addition to theft. Your policy may also provide liability coverage in the event that someone other than yourself is injured on your property and decides to sue.

In the event that you have to file a claim, your policy will either reimburse you for the actual value of the damage or for the replacement cost to remedy the damage. It is critical to understand what your insurance policy does and does not cover.

Why is it Important to have Property Insurance: As you will see, your house may be one of your main assets and can contribute greatly to your net worth. It may be one of the largest purchases that you will make in your lifetime. Your home may also hold a number of personal assets, like jewelry, artwork or antiques, which would constitute a large financial loss if damaged, destroyed, or stolen.

It is critical to protect your home with adequate insurance coverage to avoid bearing the full brunt of the cost to repair or replace your home and its contents.

Umbrella Insurance: Umbrella insurance is a type of extra liability coverage that extends beyond the limits of your home or auto insurance. This type of policy is best for people who have a large number of assets or may be at a high risk for being sued.

Disability Insurance: Disability insurance provides a benefit that will replace part of your income if you can’t work due to illness or injury. You can purchase disability insurance as an individual from an insurance company directly or your company may offer disability insurance through an employer-sponsored plan. There are two main types: short-term and long-term. Short-term is usually covers for a period of less than a year and long-term disability

kicks in when sick leave and short-term disability runs out. The period that long-term pays depends on the policy and can be for a couple years or until retirement age. Both types of disability cover a portion of our income and usually max out at 60%.

Life Insurance: Life insurance is a protection against the loss of income that would result if you were to pass away. Whoever you choose to be the beneficiary of the policy (often your spouse or other dependent, like a child) receives the proceeds, and is financially protected in case you die. Should something terrible happen, you do not want to burden your loved ones any further than they already are.

There are two main types of life insurance, term life insurance and whole life or permanent insurance. For both types, premiums vary dependent upon your age, health, gender, whether or not you smoke, and (for term insurance) the duration of the policies.

Term Life Insurance: As the name suggests, term life insurance is a policy with a set duration on the period of your coverage. Once the term period is up, you can decide to renew the policy or to let your coverage end. Unlike whole life insurance, term life insurance does not have an investment component. Therefore, you are not building cash value as you would with whole life insurance. It also tends to be less costly than whole life insurance for this reason.

Whole Life Insurance: Whole life insurance is a policy that has both an insurance and an investment component. The insurance component of your policy pays a stated amount upon your death regardless .of your age or the duration that you hold the policy, while the investment component accumulates a cash value that you can withdraw or borrow against.

Regular premiums pay the insurance costs and contribute to equity growth in a savings account where dividends orinterest is allowed to build up tax-deferred.

As you can see in the chart to the right, the annual price for term insurance varies with your health, whether ornot you are a smoker, male or female, your age and the length of time that you would like to have the insurance ineffect.

HOW DO YOU USE LIFE INSURANCE:

Most term insurance is either used to protect a family from the sudden death of the principal income earner whenthere are young dependents or in a closely held business where there is a buy-sell agreement to purchase oneowner’s equity in the event of a death. For purposes of this book we will focus on the family situation.

In many families, the risk of one parent suddenly dying and leaving the survivor with a house, a mortgage, andyoung children who have many needs—including the cost of education—and just the ability to cover householdexpenses, without a second or primary paycheck, is a scary thought.

Term Life Insurance:Term insurance is a great safety net or a “bridge to the future” in this case. The picture to the right shows a youngfamily whose husband/father has suddenly died. The picture shows the wife with three children using “term insurance”as a bridge to get over the lost earnings that a sudden death brings. In this case, it is a bridge for 20 years.The picture depicts a storm in the year 2000, but across the bridge the sun is shining in the year 2020.

While the amount and length of term insurance depends on the facts at the time, a simple estimate might include

enough to pay off a mortgage and replace 4-7 years of pretax earnings. Some people also like the idea of adding enough term insurance to pay for the cost of their children’s education.

Your insurance advisor (shovel) can help you determine the amount of term your family will need and for how long. It is also advisable to consider layering different amounts of term insurance for varying periods of time. For example, if one of your major concerns is to provide for your children’s education as they get through school you will need less insurance. Another example is having enough insurance to pay off your home loan, but as time goes on the amount of the loan decreases as well as the amount of insurance needed.

Whole Life Insurance: The second type of insurance is whole life. Whole life has a term portion associated with it where a portion of the premium pays for the insurance, but also allocates a large part of the premium as an investment that grows taxfree. This is referred to as the “cash surrender value” of the policy. As this builds up over time a family can either use it as an additional death benefit, or it can be used as a retirement asset.

Like with term insurance, the amount of the premium depends on the person’s age, health, history of smoking, the amount allocated towards the cash surrender value, and whether you are male or female. The chart on the next page gives some ranges of premiums under various circumstances.

The chart on the next page shows how whole life insurance can grow over time and compares it to the cost of term insurance over time and shows how, over long periods of time, whole life insurance is a better investment. However you must remember that there is no guarantee that you will live through the end of the term policy period. That is why a combination of term and whole life insurance should be considered especially if you have a family to protect.

How is it used?

Life-Span/Growth of Cash Value of PolicyThe picture to the right is an illustration on how the cash value can grow over time. The picture is called MountWhole Life Insurance. It shows a young couple starting out in life. As they meander through life they start a family,and sooner than you can imagine the kids are older and on their own, and the parents have choices to make onwhat to do with the built up cash value of their whole life policy. As they get to retirement age, the cash value of thepolicy has grown and they have the choice to take money out of the policy as an additional retirement benefit, or tokeep the insurance in place and use it as part of a death benefit or estate plan. If they keep the policy in place it willcontinue to grow. On the other hand, if they borrow against it and use it as a retirement benefit it will get smaller.

This is an excellent example of how this bucket might be emptied into other buckets with the help of the shovels. Inthis case it could be all four shovels (the CPA, the estate attorney, the insurance agent and the investment advisor)working together on the plan.

As your family situation changes, your insurance needs, including umbrella and life insurance, should be evaluatedevery couple of years.

While this doesn’t try to cover all situations, it makes the concepts of insurance planning easy to understand. Insurancechanges as your family changes. A single person’s insurance needs are much different than the needs of amarried couple. In the same manner, as the couple begins to have children, additional insurance needs must bemet. As the children grow older, the insurance needs continue to change and evolve the same way that a beachslowly changes.