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How insurance weakened a family's balance sheet?

Wednesday, October 18, 2017

This is the continuation of a conversation with a reader who is having difficulty accumulating an emergency fund and who depleted her savings after her dual income household became a single income household.


Reader:
I just read on "How many 20 years and $29,000 do we have?"

I have the Prulink too and have been paying for 12 years now.

Apart from this I have an endowment plan to be paid for another 9 years before mature.

My husband and I plus 2 kids have whole life plans, personal accidental and hospitalisation plans.








AK:
You are (probably) paying too much for insurance.

Your children don't need life insurance. Life insurance are for people with dependents. Children don't have dependents.

I won't touch investment linked policies or ILPs (e.g. PruLink) even with a 5 feet pole. I don't mix investment and insurance.





My action plan if I were in your shoes:

1. You and your husband just need term life insurance (+Critical Illness cover). (You need life insurance until your children are no longer financially dependent on you.)

2. You do not need whole life insurance. Definitely, your children don't need life insurance (until they have dependents). It is a luxury.

3. ILPs are terribly expensive life insurance. (I would get rid of this.)





4. Keep the hospitalisation insurance (H&S). (This is essential.)

5. Accident insurance is not a must but they are pretty cheap. You can keep this if you like. (Otherwise, don't renew when it expires.)

6. Endowment plan, 9 more years. A form of forced savings. Just complete it. (A plain vanilla endowment is less problematic than an ILP.)

Before terminating any of your life insurance policies, get covered with term life insurance of equivalent level of protection first.







We should increase our income if we can but we must be sure that in the event our income suffers a dip or disappears, we are able to cope.

We want to be especially careful with any long term financial commitment that takes up a significant percentage of our regular income.

Making sure that these long term financial commitments are absolutely necessary will help to avoid weakening our financial health too much.







This family can bring down their expenses rather significantly and strengthen their balance sheet by not overpaying for insurance and to buy only what they need.

Related posts:
1. Critical illness insurance.
2. Disability insurance.
3. Term life insurance.

29 comments:

Singapore Man of Leisure said...

AK,

Your reader has a very "competent" insurance agent!

Up-sell, cross-sell, down-sell... What else haven't offload to client?


From one snake-oil to another - clap, clap.

I won't be surprised the agent is million dollar round table ;)



1871e1fc-10c3-11e5-a794-7f9fad27c9b8 said...

Hi AK
I would also consider
6. Endowment plan, 9 more years.
Find out the current surrender value and consider if
there is a need to terminate now since reader depleted
her savings and no emergency funds.

Endowment policies usually accumulate at 4% (some more
some less)... I think Kyith of Investment Moats
crowdsource some returns.

I paste the link here, remove it if you think inappropriate.
http://investmentmoats.com/budgeting/do-your-insurance-saving-plans-endowment-give-you-3-to-5-returns/

so, can get some cash returns first. My key consideration
is more of getting emergency funds first rather than maximising
returns.

When situation improves (it will, just a matter of time),
then can consider topping SA (again!) as a means forced savings.

FC

AK71 said...

Hi SMOL,

I remember a friend trying very hard to sell me an insurance policy donkey years ago. I found out that he was desperately trying to get a place at the million dollar round table.

No one cares more about our money than we do.

AK71 said...

Hi FC,

I didn't suggest that because I suspect that by replacing the adults' ILPs and whole life insurance with term life insurance plus terminating the children's whole life policies, they should do well enough.

With 9 years left to the endowment, they are practically at or over the halfway mark.

However, if their cash flow is weak and the only insurance policy they have is this endowment policy, I would suggest that they terminate it.

AK71 said...

Eric Kua said...
Ak, for ppl with a large cash horde, just H&S enough?

AK said...
Eric, for people with enough cash to last them a few generations and if they are not concerned with wealth preservation, they don't even need H&S.   For the rest of us, having a strong flow of passive income is more important than having a large cash horde as we should really be moving towards self insurance.

See:
The best insurance to have in life.

Matthew Seah said...

Hi FC,

Those endowments that returns 4% p.a. are older policies.
The newer ones return closer to 3% p.a.

You might want to take a closer look at the returns that Kyith shows in his blog post.

Regards,
Matthew

AK71 said...

Hi Matthew,

Indeed, the last time I got 4% per annum from an endowment policy was from UOB Life Guaranteed Rewards. That endowment policy was bought almost 20 years ago. I have not been able to find another product like that since it matured. -.-"

AK71 said...

Jimmy Ng:
If hubby is SAFRA member, go have a look at their term policies. Very affordable, and turns insurance agents face black-black.

AK:
For SAFRA group insurance, take note the premium is not guaranteed, the terms can be changed without our consent and coverage can be cancelled at any time. So, it is prudent not to depend solely on group insurance.

Chia Peng Chwan:
Also need to note...
In the event of a divorce, the ex spouse is no longer covered.
However, in the event of being a widow, the coverage is still there.
Important to go through the fine prints. Anything that is giving a significant price difference always need to look at the fine prints...

AK71 said...

Jackson Ca:
Hi AK, is there an proportion of income that one should be spending on insurance to ensure one is not overly burdened with insurance expenses?

AK:
The question of how much insurance is sufficient is more pertinent. Know how much insurance we need and don't overpay. Of course, we want to pay as little as possible to get the coverage we need, all else being equal.

foolishchameleon said...

AK,

should annuities have a place in retirement planning?
these are guaranteed payout upon reaching your selected payout age.

AK71 said...

Hi fc,

CPF Life is an annuity.

As a tool to help ensure a regular income in retirement, annuities should definitely be given serious consideration.

See:
An annuity: Would you rather have it or not?

foolishchameleon said...

AK,

yes, i understand the part of cpf life.
i was refering to private annuities to complement CPF life.
should it be used to complement CPF life?

how do we evaluate if a private annuity is good? there are so many permutations.
ie, pay out amount, payout age, etc etc. guaranteed income, non-guaranteed etc etc.

also, say for eg, base on the eg in your link, a premium for annuity cost 250k..
would it make sense to break up that premium into 2x tranches. so 125k each and get from 2 different pte annuities. that way, the guaranteed portion would be slightly higher? and also incase one of them folds?

AK71 said...

Hi fc,

With CPF Life, we can go 50% above the Full Retirement Sum. This is, of course, the Enhanced Retirement Sum. This would give us a rather nice regular monthly income from age 65.

If we dislike volatility and want to reduce risk in retirement funding, we could get private annuities to complement CPF Life.

You could compare annuities to see which ones offer better returns. See example in this blog:
http://singaporeanstocksinvestor.blogspot.sg/2014/07/an-annuity-proposal-case-study.html

To reduce counter party risk, it might be a good idea to divide the cash meant to buy a private annuity into 2 or more parts and get annuities from different annuity providers.

Spur said...

SDIC insures private annuities only up to $100K of payouts and that's only for the guaranteed portion .... non-guaranteed payouts not insured.

foolishchameleon said...

AK,
thanks for that...
if you were to get an annuity, would you get one that is limited ie payout for 25/30/etc
or, one that pays till death? (premiums would be higher as the length of payout gets longer)

also with so many annuities in the market, what returns would be considered decent?
2.5%? 3% ?

when we compare annuities, should we solely look only at the guaranteed portion to compare? is that a fair comparision? (since projected figures are unknown and mostly inflated)

AK71 said...

Hi Spur,

Thanks for sharing this.

Not putting all our eggs in one basket makes sense. :)

AK71 said...

Hi fc,

With longevity risk, ideally, annuities should pay us till the day we die.

What is a decent return? I have not done any comparison lately but I know none is able to come close to what CPF Life is able to generate which is a minimum of 4%.

However, if it is only 2.5%, I might as well just do annual VC to my CPF account as the OA pays 2.5%. So, intuitively, I would demand at least 3% from a private annuity.

Yes, I would focus more on what is guaranteed. In retirement funding, we need certainty.

I would, if possible, forgo the non-guaranteed portion for an increase in the size of the guaranteed portion even if the increase is a smaller amount than than the non-guaranteed amount forgone.

AK71 said...

The report highlighted that with CPF's interest rate structure, CPF Life is able to provide an effective annuity rate of 7.1 per cent based on a $100,000 premium.

"This compares favourably with life annuities in most markets," stated the report. The annuity rate was calculated based on the ratio of annual payout to premium paid, for a male member born in 1962, or is 55 this year, who receives payouts at age 65.

http://www.straitstimes.com/business/invest/is-the-new-cpf-life-plan-ideal-for-you

foolishchameleon said...

for some reason when i calculate the returns for the FRS vs ERS.
the returns is higher for FRS than ERS.
why is this so?
wouldnt a higher premium, supposedly give u higher returns?

also, when u break it down furthur, the FRS - SP (7.6%) is superior than BP (6.57%) or EP (6.92%).
not sure why christopher tan (providend) says that BP is better than SP "mathematically"

AK71 said...

Hi fc,

In terms of interest rates, the first $30K gets 6%, the next $30K gets 5% and anything above $60K gets 4%. This is why BRS will have the highest effective interest rate, followed by FRS and ERS.

The CPF is not a commercial product. It has a social mission which is to help members who have less savings a little more than members with more savings.

As for annuity rates, I agree that opting for FRS and CPF Life Standard Plan gives the best rate and that is what I will probably be choosing, everything else remaining equal. :)

Spur said...

That guy from providend is talking about "total return" i.e. payouts + bequest.

For SP to provide higher total return than BP, a male needs to live past about 91 or 92 yrs old. He's figuring that he'll most likely up lorry before that, hence BP is his choice. This kind of thinking more suitable for those who want to leave something for beneficiaries, or has other adequate retirement sources & just wants to maximize "returns" from CPF.

For those with no beneficiaries or who treat CPF Life as pure retirement income with no or minimal death value will focus more on SP or EP.

AK71 said...

Hi Spur,

Thanks to you and fc, the writing bug just bit me. Another blog akan datang. ;p

foolishchameleon said...

Ak,
yes, i guess that makes sense...

if thats the case, why not just use the BRS then?
or, in your case, buy FRS and the balance for pte annuities?

Spur said...

Hi AK,

Ooops ... hope it wasn't too big a bite! Kekeke!!

Looking forward to your new output! :)

AK71 said...

Hi fc,

I will most likely stick to FRS.

I don't like BRS because it means I would have to pledge my home.

Private annuities? If an attractive offer comes along and if I have spare cash, why not? ;)

AK71 said...

Hi Spur,

Just itchy.

Not painful. ;p

MC said...

Hi AK,

Would you still require while life insurance policies if you have a special needs child? This means there’s a chance your child would still be a dependent even when he/she is an adult.

Also, is there a difference between term life insurance and whole life insurance?

I like the idea of term insurance which I understand has a much lower monthly premium. But how do you guanrantee insurance coverage when you are in your old age or when you’re not working any more ie no income?

Thanks!

Regards,
Mark

MC said...

Hi AK,

Would you still require while life insurance policies if you have a special needs child? This means there’s a chance your child would still be a dependent even when he/she is an adult.

Also, is there a difference between term life insurance and whole life insurance?

I like the idea of term insurance which I understand has a much lower monthly premium. But how do you guanrantee insurance coverage when you are in your old age or when you’re not working any more ie no income?

Thanks!

Regards,
Mark

AK71 said...

Hi Mark,

You have to understand why we buy life insurance. It is to make sure that our dependents will not be helpless if we pass on. As long as we have dependents, we need life insurance. It is that simple. :)

In our old age, chances are that we would not have dependents anymore. So, we don't need life insurance in our old age. Also, if we are retired without an income, it becomes a terrible burden to pay for life insurance (that we don't need).

If we have dependents in our old age, well, hopefully, we have passive income by then to take care of this need. Plan ahead. ;)

See this:
http://singaporeanstocksinvestor.blogspot.sg/2017/05/the-best-insurance-in-life-revisited.html

and this:
http://singaporeanstocksinvestor.blogspot.sg/2014/08/in-my-40s-married-with-kids-what-would.html

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