I had a very enjoyable time coming up with this particular article, even though I’m doubtful this will be a hit.
A few weeks ago, the newest consultant in my company was working on a case.
It was interesting enough that I poked my nose into it and suggested how she might be able to win over the client.
…And it was frustrating to hear when she didn’t get the case, because I could see how much effort she put into serving her client to the best of her ability.
Even after having done this for a while now, sometimes…In my most immature moments – I do blame the client.
The planning is all front-loaded and takes time and effort and a lot of it has been thought-through and it IS good for the client…
…So why? What went wrong exactly?
Eventually, every licensed professional has to recognize that there are plenty of personal factors that could get in the way which you can’t account for – but you have to do something about the ones you can.
And one way to help the client in the best way they want is to meet their insurance according to their needs.
It is very easy to say and very hard to do, but what I’ve tried to do for you, the person reading this (not just my colleagues) – is for you to see what kind of insurance need you truly have and how your need can be met.
That’s why the little surveys asking what kind of insurance you’ve bought are always interesting to me. They tell you a lot more about what people believe they need compared to what they may actually need, but it shows that they will likely take action for their belief than a new concept.
For insurance, I’ve tried to break it down to three schools of thought where people feel their needs would be best met. They are: i) Theory of Competence
ii) Theory of Balance
iii) Theory of Foresight
Let’s go over them one by one.
By the end of this article, I hope that you see the one that you identify with the most and figure out what would be best for YOU moving forward.
1) Theory of Competence [High Risk, High Return]
The theory of competence is of course, the idea that you are extremely competent and literate in both personal finance and more complex financial theories.
Because you are competent and decisive, you can afford to do many things yourself without the benefit of automation (e.g. annuities, endowment plans) and as a result – Buying Term and Investing the Rest [BTIR] will give you the maximum benefit.
Most people who believe strongly in the Theory of Competence simply do not believe in insurance after 65 (sometimes 70) since the most critical period is typically over already, or that they should have more than enough funds accumulated during that time to fend off any subsequent critical issues.
Core Components: Term Insurance only, till a fixed date that gives you ample time to cover your necessities and rack up a high amount of self-insurance
Core Belief: Low cost insurance and generally low-cost instruments that require little maintenance. Room for larger sum assureds to cover critical periods with excess.
Profile: People with a keen interest in finance and investments, or who have low trust in banks or insurance companies.
Things to be wary of: There isn’t a lot of statistical data to suggest this approach works at all, although there’s plenty of data to show you how much you could benefit if you succeed. It’s a higher risk move than you might expect, especially if you have problems committing to things – like your education before or paying your bills on time. A lot can go horribly wrong, like having no funds after 65.
If you insist on this approach, do note that practice makes perfect – have some funds to allow yourself to get burned before trying again. Study up to hit the level of competence required to make yourself a statistical anomaly (like a doctor or lawyer). Even if you fail once or twice, chances are you could still save a lot more money than the other two theories if you stay committed.
2) Theory of Balance [Medium Risk, Medium Return]
The Theory of Balance is my personal favorite, the idea that you strike a balance between needs, wants and emergencies. While some may argue this is not optimal, I would argue it is efficient.
Most people who believe strongly in the Theory of Balance believe that Insurance needs, particularly Critical Illness – exist after 65/70 but in smaller forms. It looks something like this:
Insurance Needs from 20 – 65/70:
i) Income Replacement [High]
ii) Career Compensation [High]
iii) Alternative/Less Invasive/Faster Treatments [Medium]
iv) External Medical Expenses/Medications [Low]
v) Miscellaneous Needs (e.g. equipment like wheelchairs, private transport) [Low]
Insurance needs from 65/70 to Death:
- Only the bottom 3 (iii, iv, v)
You can see how this is different from the Theory of Competence, where this focuses on keeping insurance after 65 in a plan with no potential to be spent as money, as well as a minimum guaranteed amount that scales with inflation compared to non-guaranteed self-insurance.
So your whole life plan (e.g. Age 30) could look like:
- Age 50: Fully paid off insurance [20 year term]
- Sum Assured Till 70: $210,000 After 70: $70,000 plus bonuses, scaling with inflation after 70 and can be encashed or converted to annuity
Core Components: Whole Life plan with a high Multiplier. This provides significant Term coverage during critical periods while meeting other lifelong needs that scale with inflation till the time of claim.
Core Belief: People who want more diversification in their portfolios or a encompassing instrument that settles many needs without much effort.
Profile: People who want a whole life plan but more affordable, or who want to BTIR but are either faced with an unfavorable scenario (e.g. BTIR-ing for Early Critical Illness can require an extremely high annualized investment yield) or want a more solid foundation.
Things to be wary of: There may not be enough insurance after the Multiplier period to cover the other needs as stated, despite scaling with inflation.
And depending on the plan and your age, even a limited pay whole life plan could be more expensive than Term till 65/70.
3) Theory of Foresight [Low Risk, Low Return]
The Theory of Foresight is something that I’ve been researching and reading up on recently. It revolves around the concept of Risk-Adjusted Mortality – a concept that is increasingly growing in prevalence (like the FIRE movement).
Risk-Adjusted Mortality is a concept that I suspect originated from aging population areas like China and Japan, where it was more evident that there were problems with not having a younger generation look after you.
But it also highlighted how much worse the problems looked because of that absence – a drastic rise in critical illness and disability, billions of dollars going towards pensions and claims.
This concept basically suggests that due to your long lifespan but not quite the proportion of health that goes with it, you typically spend your last 10 years in perpetual suffering where you have a lot of needs. Some white papers have documented the common problems:
- TPD, which results in being unable to walk, dress or feed oneself efficiently
- Specialized needs: such as mobility aids, hearing aids, breathing aids
- Specialized daily needs: where certain foods, drinks or sleeping conditions may need to be adjusted
These expenses, which were accounted for in the previous theory is taken up a notch - 10 years of high medical inflation expenses plus potential bigger ticket expenses.
In other words, in contrast to the Theory of Competence where it suggests you will either not require or have adequate funds post retirement, or the Theory of Balance where it suggests you will need insurance post-retirement but not too much...
...The Theory of Foresight suggests that you will need way more insurance (funds) after retirement, NOT less.
Core Components: Whole Life plans with low or no multiplier, or ILP – large sums of insurance that provide for income replacement, and scale significantly with inflation after retirement without dropping off. Also and/or Multi-pay plans.
Core Belief: People who are firm believers in lifelong insurance and extremely comprehensive coverage, who lean more towards caution than potential gain.
Profile: People who like to say, ‘After claim this insurance can claim again or not.’ People with a challenging health family history. People who are willing to spend a lot on protection, and maybe the automation of inflation scaling claim values or cash values.
Things to be wary of: Easily the most expensive theory to be part of. Be careful of overpaying for insurance – even for those with special circumstances (e.g. more than usual dependents), anything more than 20% is too high.
Do not be susceptible to the idea that you should buy insurance for the future that you think you will have as well – for example, if you’re making $30,000/yr but you expect to make $100,000/yr in 5 years’ time and you want to purchase $500,000 of whole life insurance instead of $150,000.
Where do you belong? (And why is this important?)
Financial Consultants should not aim to be order-takers: in order to serve the people best, they should show them their needs, not wants.
That being said, this article may give you a true insight into your own values, as well as other perspectives for consideration. This will help your Consultant plan better for your needs, since they are more clearly defined.
I can’t really say whether there’s a right or wrong theory... Yet.
Maybe one day much more supporting evidence for BTIR will come about than just qualitative examples.
Maybe technology will solve most of the pre-mortality problems and you’ll die without any sort of chronic problems, rendering post-retirement insurance redundant.
Who knows?
Each belief comes with its own set of evidence, rules and risk-reward: but perhaps now you can understand this:
1) There are other beliefs, and clear reasons why people have different ones from you
2) Not everyone believes what you believe, nor is suitable for what you believe
I hope that this article was educational and taught you about yourselves, as well as each other.
Do continue to encourage each other to carve out their most suitable path towards Financial Freedom.
Now is easily the best time of the year to purchase insurance [for the consumer]. Underwriting is more favorable, products are extremely competitive.
Money Maverick
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