Personal wealth protection with insurance

Your family’s future fulfilment fund

This is where insurance can play a pivotal role – literally! It affords everyone a pause to grieve, reflect and focus, and then the option to either continue as planned or adjust to new conditions.

The trajectory of life

Life is about our relationships with others, but there’s also the practical parallel need to survive and thrive economically. In this latter respect, there are many milestones we look forward to on our journey, including getting an education, finding productive and purposeful work, establishing a family and home, saving towards our later years and enjoying that time, and ultimately passing a legacy on to our heirs.

Of course, each person and family is unique, so the routes we take, the order of the milestones, and the time we spend on each will vary greatly. Despite this individual variation, it’s inevitable that some of us will contract a critical illness, suffer a disability or die along the way, disrupting or destroying that neatly planned trajectory.

Although it’s not possible to predict who among us will be struck nor when it will happen, fortunately insurance is available as a tool to help defray that risk.

Insurance is a good news story

A built-in premise of insurance is the good news that you have people you care about, and who care about you. That includes you caring about yourself, which is why disability insurance in particular is such a high priority for a young adult, even before a spouse and children enter the scene. Then, as relationships emerge, children arrive and lives intertwine, your connectedness is what defines you as a family.

Another word for connectedness is caring. You love and care for those closest to you. That’s why you work so hard to earn the income that provides a stable home and promise of a bright future.

But, in contrast to a reprimand you may voice to a misbehaving son or daughter that it’s ‘NOT all about you’, when it comes to fulfilling these financial intentions, it very much IS about you – with extension to the significant other who shares your caring sentiments and financial responsibilities. The bad news then is that if fate intervenes, one or both of you may become unable to deliver on those good intentions.

Bad news in the background: Risk and peril

In the language of insurance, risk is the statistical probability that a peril (an event) may occur, causing personal and/or financial harm or loss. Insurance cannot undo the personal trauma, but the financial relief from an insurance payout can indirectly allow more time and space for physical and psychological healing to take hold.

It’s important to note that insurance is not a gamble for the insured or named beneficiaries to be made better off when a peril happens. Rather, the underlying principle of insurance is to indemnify the insured party, restoring them to their original financial position as if the peril had not happened.

Across the perilous events discussed here, there is certainly overlap of negative financial consequences, most visibly the lost income of the afflicted person, whether temporary or permanent. In addition, distinct financial effects may attach to each of the events, as expanded following.

On a death …

• In addition to working through personal grief, funeral and final expenses will have to be dealt with.
• The problem of reduced income for recurring bills and existing debt may be compounded if new or expanded credit (necessarily and understandably) is used to bridge through this difficult period.
• The tax system provides some relief for a surviving spouse to use a range of tax-deferred rollovers on death.
  In future though, those desirable spouse tax features will not be available to a single income household.
• Family routines and longer-term plans may need to be reconsidered, adding to financial uncertainty.

With the onset of a disability …

• Time will be needed to recover, with the obvious correlation being that time-resting is time-not-working.
• This may simply be brief restful recuperation, or in more severe situations it may involve therapy/rehabilitation over months or years, with attendant professional, facility and medicine costs.
• Some people will make a 100% return to their pre-disability condition, whereas others may require ongoing treatment and medication, all of which may have implications for future work and income prospects.

In the case of a critical illness …

• A critical illness is a life-threatening condition, the ‘big three’ being heart attack, stroke and cancer.
• Once diagnosed, time is of the essence to explore treatment options, decide which way to go, and act.
• As with disability generally, routines will be disrupted but with response time and options more compressed.
• Availability of specialists and dedicated facilities will dictate timetables, and if those are not immediately nearby, additional time and cost of travel and accommodation will add further complications, stress and expense.
• A spouse work leave may be needed, as well as childcare if substantial travel time is involved.

Bearing the cost, or sharing through insurance

If each of us was to bear these risks individually, it would be a heavy financial burden. Against the relatively remote possibility of a peril happening, a large proportion of income would have to be set aside to accumulate enough of a money reserve for the purpose. This would significantly suppress current spending and lifestyle, and still leave one exposed to a shortfall during the many years it would take to build an adequate reserve.

A more cost-effective option would be to pay a premium to an insurer that agrees to cover that large cost if the event happens. To be clear though, you can’t just be paying to have the insurer stand in your shoes and face the same risk as you, as that would require such a high premium so as to make it unfeasible for you to proceed.

Rather, insurance takes advantage of the statistical law of large numbers, or LLN. While we can’t predict if a specific individual will experience an event, it is possible to reliably estimate how many people may be affected across a population. Thus, an insurer takes on many contracts, spreading the collective risk. By applying LLN, it can then set premiums so that its business is viable, hand-in-hand with being affordable for those seeking coverage.

Nature of the deal

It is this spreading of risk across a population that allows insurance to insulate an insured party from having to bear the full financial impact of a random event. For premiums paid, each coverage has its own way of paying out:

Life insurance …

• Provides a tax-free lump sum payment on a person’s death.
• It can be paid directly to a spouse or other person, or be managed by the executor of the deceased’s estate.
• Whichever route it takes, there is no reporting or restriction on how the money is used.

Disability insurance …

• Provides tax-free* periodic payments to replace a portion of the income the person would have been earning. (*Payments are taxable if an employer paid the premiums, though not if charged as a taxable employee benefit.)
• Following diagnosis and a waiting period (ranging from 30 to 365 days, with 90 being most common), payments begin and continue for the contracted duration during which the person remains disabled.

Critical illness insurance …

• Provides a tax-free lump sum payment once a covered condition is diagnosed.
• Commonly this is limited to a return of premiums paid if the person dies within 30 days of diagnosis.
• Otherwise, the full amount is immediately available, with no reporting or restriction on how the money is used.

A deeper dive into life insurance

[The balance of this article is specific to life insurance, though much of the content applies (with some modification) to disability insurance and/or critical illness insurance. Please consult a licensed insurance advisor for further information and guidance.]

For how long do you need coverage?

Some risks exist for a limited period of time, and others may continue regardless how long you live. Not surprisingly, these are known respectively as temporary and permanent needs.

• Temporary needs include essential matters such as making sure a mortgage can be paid off without having to sell the home. Other examples include child-raising costs, education funding, fixed-term debts like car loans, and child or spousal support if there has been a marital separation. Even income replacement is technically a temporary need, though one that may persist for decades, depending on a person’s current age.
• Permanent needs include funeral and final expenses. Income tax may be triggered, though rollover to a spouse may defer some of that concern. If a person’s assets are illiquid (for example, a business that must remain intact), insurance can equalize inheritances, and if there are special needs then insurance can help fund a trust.
• Joint needs – As well, there may be some needs that align with the later death of 2 or more people. The most familiar application is to cover the income tax liability when a second spouse dies, assuming assets rolled over tax-deferred at the first death. A key benefit here is that because the insurer doesn’t have to pay until the later death, the premium is lower for joint-last coverage than if there were two policies for half the amount on each.

Most of the time there will be both temporary and permanent needs, and these will change over a lifetime. With an understanding of which types of need you have, you’ll be better prepared to decide how you would like to pay for the coverage(s), which is where we turn next.

How would you like to pay?

All else being equal, an insurer will charge a higher premium as a person ages, with the year-to-year increases becoming larger as one grows older. Some people may be content with those increases, but others will be anticipating that their insurance needs will continue for many years ahead. In response, insurers offer a range of ways you can choose to pay premiums:

• ART is annual renewable term (or YRT/yearly renewable term) coverage where the premiums go up every year. While this begins at low cost, it can become quite expensive at advanced ages. Not all insurers offer this option, and those that do usually set an upper age limit after which the policy cannot be renewed.
• When the letter “T” appears before a number, it refers to the number of years that premiums are fixed. For example, T10means that the premiums are the same for ten years, with a stepped-up higher amount for each subsequent ten years. Other possibilities are T5, T15, T20, T30, and one insurer has pick-a-term up to 50 years.
• T100 offers level premiums up at age 100. At the century mark, such policies usually endow, meaning that no more premiums are paid and the policy pays out whenever death occurs.
• For permanent needs, a cash value policy may be considered. Familiar types include whole life where the insurer provides a return on higher premiums, universal life where the policyholder may choose among investment options within the policy to earn returns, and limited-pay policies that range from 8 to 20 years of fixed premiums, after which the policy is fully paid-up.

Rider benefits that ‘ride-along’ with main coverage

Apart from the premium to pay for the main coverage, most policies have an annual administration/policy fee.
If you have more insurance needs but don’t want to incur another policy fee, you may be able to purchase additional features that ‘ride-along’ with that main coverage. The risk premium on those additions would still be due, but with no further policy fee. The most common riders are:

• Term insurance rider – This may be for the same or different amount and duration as the main coverage.
  For example, if you have a whole life policy for permanent needs, you might add a T10 for a temporary need.
• Spousal rider – This is usually for temporary term needs. Complex needs would call for a separate policy.
• Child rider – Medical underwriting is not usually required, and coverage may eventual be transferred to the child.
• Disability waiver – If you become disabled, the insurer waives premiums for the duration of your disability.
• Guaranteed insurability – You may add coverage at a later date without going through medical underwriting.
• Accelerated benefit – If diagnosed with a terminal illness, a portion of the death benefit may be paid while living.
• Convertible – Rather than being a rider that costs a premium, this is a feature of some contracts. For example, a T10 policy may allow conversion to a level cost permanent policy (at attained age) without medical underwriting.

To whom and how may proceeds be paid?

An insurer will pay the death benefit on life insurance once it receives proof of death, usually in the form of a licensed funeral director’s Proof of Death Certificate. Otherwise, each province has a vital statistics office that can assist.

By default, the death benefit is paid to the estate of the policyholder, but all life insurance policies allow for the designation of one or more beneficiaries on the contract. This is usually preferable for faster payout than would be the case if the family had to wait for an executor to be formally in place to distribute the proceeds from the estate. This also keeps the proceeds from being available to creditor claims against the deceased person, and concurrently bypasses any probate fee/tax on estate assets in provinces where that is a concern.

The designation may be to one or more beneficiaries, either in equal or other proportions as the policyholder wishes. It is also possible to have one or more contingent beneficiaries if a first named beneficiary is already deceased.

Still, where there are special needs of beneficiaries, it may be better to have the proceeds go to the estate where a trust may be set up to handle an inheritance. Examples of special needs include minor beneficiaries who cannot legally own property, some disability needs, and vulnerable beneficiaries such as those with matrimonial conflict, substance abuse or creditor exposure.

If the use of a trust is more formality than deemed necessary, another option most insurers offer is for the policyholder to pre-select an annuity distribution to one or more beneficiaries, rather than a lump sum payout.

Where you own coverage

As a final thought, you may have insurance coverage through your employer, commonly disability insurance and life insurance. As a member of an employee group, you are entitled to those benefits without having to submit to medical underwriting. However, coverage amounts and policy options are generally capped, and portability is restricted or not allowed if you leave the employer.

For personally owned insurance, you can shop the market and choose what coverage amount and policy options are most suitable for you. As well, rather than having premiums dictated by a group profile, an insurer will base them on your individual characteristics, including potential preferred rates for those with healthy living habits. And finally, if you change employers, that will have no effect on the insurance you own.

All that said, the paramount point is to determine what will provide the best protection for your family. With your workplace coverage in mind, you can then decide the appropriate type and amount of personal coverage you need, and get started on your plan