Guaranteed paycheck for life!
Yep, just like the payment that one receives from his or her Social Security check or if one is fortunate enough, a company pension. Both incomes are a guaranteed paycheck for life. Many folks are not aware that there is another way to get a guaranteed paycheck for life and that is through a life insurance company.
In exchange for a lump sum payment, the insurance company will guarantee a monthly payment to you at a specific date. As you might imagine, the longer you wait to begin receiving payments, the larger the check will be. Of course, like any investment, this type of arrangement has its drawbacks.
For example, the biggest negative, in my opinion, is similar to that of a company pension or Social Security check. If we die too soon, we would have invested a lot of money for little to possibly no payments. In other words, we give up access to our money.
Also, if one is interested in adding “rider” enhancements, which I generally do not recommend, there may be costs involved. Since some of the monthly income is considered return of principal, some of the distribution will be tax free. Lastly, keep in mind that any guarantees are subject to the claims paying ability of the issuing insurance company.
Nevertheless, an important concept that makes one attracted to a guaranteed paycheck for life from an insurance company is that it generally has a much higher payout rate based on age because of what is known as “mortality credits.” Hang with me on this concept, as it is a big one.
Only insurance companies pay mortality credits. CDs do not pay mortality credits. Municipal bonds do not pay mortality credits, and stocks have never paid a mortality credit.
So, what are mortality credits? Let’s take a look at a simple example involving five 90-year-old ladies. These incredibly nice women go on a vacation together every year. One year, Helen said, “Let’s each put $100 into this box. We will tape up the box and bring it on vacation with us next year and those of us still alive will split the money!”
The other ladies all agreed. So, they each put $100 into the box. Guess what happened next year? Yep, they forgot where they put in the box! Ha! Kidding, of course! The sad truth though is that one of the ladies died before she could enjoy her next year’s vacation with her four friends.
The four remaining ladies opened the box and split the $500. They each got $125. That is a 25 percent return on their original $100 from just 12 months ago. How much of their money was invested in the stock market? Zero. What interest rate did the money earn? Zero.
Well then, how did they get a 25 percent return on their money in just one year? You got it … mortality credits! They got paid mortality credits. Of course, the four ladies thought this methodology was so cool they wanted to do it again the following year.
As the story goes, the following year regrettably another woman passed away. So, the other three ladies split the $500. This time they each received $167, which is a 67 percent return on their original $100! As you can see, mortality credits increase significantly with age and hedges longevity risk, often creating a return that would be impossible to match in the broader financial markets.
The mortality credit is also known as the mortality yield. In other words, payments made by those who die earlier than expected contribute to gains of the folks who live longer. Essentially, every payment from the insurance company comprises three parts: principal, interest and mortality credits. Only life insurance companies can pay mortality credits!
Think about it: What other investments can pay us based on our age? The income approach to investing via insurance companies was structured to satisfy the needs of aging clients. Finance professor Dr. Moshe Milevsky refers to mortality credits as “longevity credits,” because people actually get paid for living longer! Proponents of securing more “pension like” stream of guaranteed lifetime income from a financial institution consider this approach true retirement success. These folks argue that our retirement is not about our assets! Instead, our retirement is all about obtaining guaranteed income that we cannot outlive.
Most of us think that running out of money is about the day you run out. Not at all! Instead, it is all the years in retirement when we are fighting and arguing about not having enough money or that our investments are not performing as planned. For years, our eyes are fixated on our portfolio value and we get more frustrated, agitated and deeply concerned if our portfolio value or income begins to decline. Talk about a life stressor!
In the final analysis, my takeaway message is simple and straightforward: For many peeps securing more lifetime, guaranteed income is the key to happiness and retirement success. That’s my story and I am sticking with it! Nuff said!
Harry Pappas Jr. CFP®
Managing Director-Investments
Master of Science Degree Personal Financial Planning
Certified Estate & Trust Specialist ™
Certified Divorce Financial Analyst™
Pappas Wealth Management Group of Wells Fargo Advisors
818 North Highway A1A, Ste 200
Ponte Vedra, Florida 32082
904-273-7955
harry.pappas@wellsfargoadvisors.com
The use of the CDFA™ designation does not permit Wells Fargo Advisors or its Financial Advisors to provide legal advice, nor is it meant to imply that the firm or its associates are acting as experts in this field.
Wells Fargo Advisors is a trade name used by Wells Fargo Clearing Services, LLC, Member SIPC, a Registered Broker-Dealer and a non-bank affiliate of Wells Fargo & Company.
Insurance products are offered through nonbank insurance agency affiliates of Wells Fargo & Company and are underwritten by unaffiliated insurance companies.
The report herein is not a complete analysis of every material fact in respect to any company, industry or security. The opinions expressed here reflect the judgment of the author as of the date of the report and are subject to change without notice. Statistical information has been obtained from sources believed to be reliable, but its accuracy and completeness are not guaranteed. The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Additional information is available upon request.
