Premium Advice — Funding retirement with insurance products

(October 2007) With low interest rates come difficult decisions, especially for people whose money is in GICs or bonds. In order to make it through retirement with these investment products clients will either have to get aggressive with their investments or dramatically change their lifestyle.

But two relatively simple products — term-to-100-based life contracts and prescribed annuities — could ease your client’s worries and make their golden years that much more golden.

Basically, the increase in income from insured annuities can provide a client a higher level of income to start with. And, if they incorporate living benefits insurance, they could have greater protection from a rising cost of living as health related expenses increase.

Let’s look at an example:

Frank and Maria DaVinci are a recently retired couple with modest means. With diligent saving, a successful small business, and some timely real estate investments, they have amassed a net worth of $2 million outside of their principal residence. Having liquidated their assets, they have consulted their advisor for ideas on conservative maintenance of capital, while providing the best potential income, allowing them the freedom to travel to their condo in Arizona during the winter.

As part of their overall asset strategy, their advisor is looking at an insured annuity to represent the fixed income portion of their portfolio. It involves a term to 100 life insurance product, and a prescribed life annuity to provide the cash-flow to pay the premium. The excess after-tax income will make up the cash for lifestyle maintenance.

Although this option will be locked in for the rest of their life, it will give them a strong rate of return, and, with the balance of their funds, the freedom to look for inflation protection and capital appreciation.

Let’s look at the numbers:

Client Profile: Male 70, female 69; 46% marginal tax rate Policy Requirements: $1,000,000 joint and survivor annuity; $1,000,000 T-100 Joint last to die life insurance
Cash-flow	$75,000
Taxable payable	$11,500
Insurance premium	$20,000
Net cash-flow	$43,500
After tax cash-flow with alternative GIC/Bond at 6%	$32,400
Increase in cash-flow	$11,100
Estate benefit in both cases	$1,000,000
(Note — numbers have been rounded to avoid any specific company representation)

Increase in cash-flow	34%
After-tax rate of return on capital	4.35%
Pre-tax rate of return @ 46%	8.06%

Besides receiving a favourable rate of return, these products are fully guaranteed by some of the largest financial institutions in the country — a bonus for people who would rather worry about tanning than finances. The lower amount of taxable income from the cash-flow can also create potential for a lesser tax burden on other forms of income, and reduce potential impacts on income tested government benefits. And, if the client names a preferred class beneficiary, the estate benefit from the insurance policy may bypass costs of probate, executor fees, and reduce some legal or accounting fees.

This may sound too good to be true to some clients, but remind them that it only works for a select group of retirees, specifically for people between 65 and 80. (And especially for seniors in their early 70s.) It’s at this age when insurance costs are still reasonable. The annuity income is also very strong in cash-flow, but the taxable portion of that cash flow is quite low. Of course, a lot of this depends on whether or not your client qualifies for insurance.

Unfortunately, there are some drawbacks to this option. One major con is the strategy and income level is locked in for the rest of your client’s life. As people age and costs of health maintenance increase, clients will need more dollars to pay for treatment and care. However, the increased cash-flow from the insured annuity can go towards the purchase of insurance to address these concerns.

Some of these treatment and care insurance options include buying travel insurance for long trips south of the border, purchasing supplemental health insurance to cover things not provided by provincial health plans, and getting long-term care insurance. The latter would pay for any assisted living facilities, while the insured annuity would keep paying for basic living costs, and therefore, keep their portfolio intact. The couple in our example could purchase approximately $200,000 of potential benefit payout for under $4,000 a year from a variety of carriers.

So there’s no need for you client to panic in a low interest rate environment. With these options many retirees can live out their life in relative luxury.

Chris Patterson is vice-president of sales for Manulife Financial.

(10/22/07)

Chris Paterson