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How To Self Insure With Life Insurance: Part 2

There’s more than one way to self-insure, but you will find that the easiest way is by using a high cash value insurance contract that has been modified so that it is fully funded in about 4-5 years. This should be easy to do for a financial adviser who knows what they are doing.

The problem is that when I worked for a large financial services company, we had a lot of financial planning retirement planners, CFPs, stock jockeys, insurance sales people, and even a few Life Underwriter Training Council Fellows (a specialist in life insurance). Almost no one, except the LUTCF, understood how to structure the contract properly for their clients (so they never told them the benefits of self-insuring)…and even the LUTCFs would pretty much keep it a secret.

One of my managers had said to me in private that most of his money was tied up in cash value life insurance – yet most of the products he sold were mutual funds. I could never really figure out why this information wasn’t shared more often with clients.

Life insurance hasn’t fundamentally changed (the chassis and how it works) in over 100 years, so it’s a boring product. But, that never really bothered me. That just means “predictable” to me. The returns aren’t very exciting (which is what everyone seems to focus on), because they are on par with fixed interest rates.

However when you modify contracts from certain companies, they become almost superhuman in terms of how they function. Suddenly, that boring life insurance policy becomes a superior banking mechanism capable of providing strong cash value accumulation, death benefit growth, and a host of tax benefits you just won’t find anywhere else.

What would it take to build a policy capable of providing health insurance coverage for you and your family? Well, let’s assume that you want a family policy. And, let’s assume for a moment that your employer doesn’t offer any benefits. Let’s also assume that you want a family plan and that that plan’s annual premium will cost you $10,000 per year (assuming you’ve shopped around, checked health insurance ratings, and found a good health insurance carrier).

Now, when I say that everyone should move towards self-insurance, it doesn’t always mean self-reliance. In other words, in certain instances, it’s a wise move to practice a sort of “reinsurance” share the risk with another insurance company…and, when you are trying to self-insure, the way you spread out the risk is by pooling together a lump sum of money large enough to pay the premiums on a good health insurance policy at a conservative interest rate.

Reinsurance is a way that insurance companies spread out the risk they take on by insuring their customers. In effect, insurance companies buy insurance from other insurance companies so that they can take on risks that their own assets wouldn’t ordinarily allow them to do.

For example, an insurance company may be able to cover $10 million in claims, but it is re-insured for an additional $20 million, so it can take on an additional $20 million worth of claims and still remain solvent since it is protected by another insurance company (or group of insurance companies).

Now…back to our health insurance example…since it is typical to have lifetime maximums of $1 million or $2 million (there are even some “unlimited benefit” policies out there), that’s a tall order for the average Joe…so our goal is simply to accumulate a small portion of that $1 million and “re-insure” the rest so that we aren’t taking on all of the risk all by ourselves (after all, what happens if we end up needing $2 million worth of medical procedures?)…

…here’s how we do that. Remember before we said our premium for the year was $10,000. We want to operate on a conservative basis so that we can be sure that we never run the risk of losing our health insurance. A conservative interest rate assumption would be around 5% annually. An even more conservative assumption would be 3% annually.

That means we need a lump sum of money that can earn at least 3% and that 3 % will equal at least $10,000 per year to pay our health insurance premium from another insurance company. If we divide $10,000 by 3%, we end up with roughly $333,333 (3% of $333,333 is $10,000, I hope you understand what I just did there). That means that we need to accumulate at least $333,333 at a 3% interest rate…could we assume that we could earn more than 3%? Of course…but our assumptions get less conservative.

At an assumed rate of 5%, we would only need to accumulate $200,000. Since I tend to be on the more conservative side, I would recommend building up $300,000 to be on the safe side. Now, I understand, that’s not going to happen quickly, or overnight (and remember, we are assuming your health insurance costs $10,000 annually, it might be less than that).

Look at what I’ve just shown you here. You’ve been able to self-insure your health insurance up to $200,000 to $300,000…then you’ve “re-insured” the rest with a high quality insurance company using the interest gains from that lump sum of money.

The reason you use a modified life insurance contract is because it will be able to keep up with inflation because of its tax advantages (the seemingly “low” rates of return provide more real interest gains due to the tax shelter of the insurance policy), provide a measure of self-insurance, and offset the rest through “reinsurance”.

…now, all you have to do is find a financial professional who can:

1) set up the right kind of insurance policy for you and;
2) help you find the money to start your self-insurance fund

This entry was posted on January 8th, 2012 by David C Lewis, RFC. Edits may have been made to keep this entry current. · No Comments · Insurance & Savings

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