Over the past couple of years, I’ve been approached by several young doctors who all tell similar stories of being weighed down by the amount of money they’re paying in insurance premiums.
The amounts typically run into tens of thousands of dollars a year, and their stories highlight a trap many young professionals fall into.
Large financial institutions aggressively market to doctors, beginning when they are still in university. Once they start work, they are sold expensive permanent life insurance, and other types of coverage such as critical illness insurance and practice overhead insurance.
At the start of their career, the MDs can afford the premiums on all this coverage because they don’t have kids or a mortgage. (In other words, before they have a reason to need insurance in the first place!) But as the expenses start to mount, those premiums can seriously pinch their cash flow, and that’s when they come to see me.
When we take a closer look at their situation, we usually find that poor advice from an insurance advisor has left them paying an exorbitant amount of money for far more insurance coverage than they need.
I believe this occurs because of conflicts of interest in the way insurance is sold. One of these conflicts involves how insurance advisors are compensated. They get much higher commissions for selling expensive permanent insurance policies than they do for simpler term insurance.
Permanent life insurance, which encompasses whole life and universal life policies, does not expire and typically combines a death benefit with a savings portion, a pool of money that grows inside the policy. To fund both the death benefit and saving portion, these policies carry hefty premiums, and the savings portion is invested in funds managed by the insurance company.
These policies are typically sold to clients on the emotionally appealing idea that the policy will ensure their heirs will be well taken care of when they die. Yet, for relatively young people, such as recently graduated doctors, this means shelling out large amounts of money to establish an estate before they’ve even saved for their own retirement!
At the same time, young doctors are often encouraged to set up a corporation as a tax efficient way to pay premiums on insurance policies and defer taxes on their income. However, many young doctors end up having to pull all their money out of their corporation to meet expenses such as buying a house, defeating the purpose of setting up a structure that’s cost them many thousands of dollars in fees to establish and maintain.
Here again, they have fallen victim to poor, conflicted advice. A corporation may be the right answer for reducing a doctor’s tax bill, but not until their practice and personal lifestyle are well established, and they can afford to sustainably save in the corporation over a period of many years.
When you put yourself in the advisor’s shoes, you can see why this is an attractive sales strategy. The advisor gets high commissions on insurance sales up front and then hooks the client into incorporating, through an in-house or closely related accountant. Now, they have to come back every year to do their tax returns. As the clients accumulate savings inside their corporations, the advisor typically recommends high fee mutual funds to invest in. The relationship remains highly profitable for the advisor, right from start.
At PWL, we believe in keeping management fees as a low as possible. We also believe it makes sense to separate investing for retirement from paying for life insurance.
That’s why for young doctors, term life insurance, where you pay for an amount of coverage for a specific number of years when you actually have a risk to insure, is the best, least expensive and most transparent way to go. You want a clear-eyed view of the risks you need to protect yourself and your family against and pay a fair price to cover them.
Insurance is an important part of a financial plan for most people, but this is one area where it really is possible to have too much of a good thing.
