Planning for the unexpected: How insurance can help
‘No debt should last longer than the person who created it.’ That comment from Jim Prigg—CEO of Knowledgemaster Pty Ltd—made me think about the importance of planning for the unexpected.
Experienced financial planners have in their toolbox a well-balanced appreciation of life insurance as a key component of a good financial plan. Over the past 20 or so years, the need to address this subject has increased as the levels of household debt rise.
We Australians have become massively complacent about the issue of financial risk. We live in a well-developed country that has a universal health care system, a National Disability Income Support system and a wide-ranging Social Security system. In combination, these initiatives provide a basic level of care for Australians in need.
These initiatives, however, do not provide for everyone and, in the majority of cases, the solution provided is in the form of a basic level of income only (not a lump sum).
The causes of severe financial difficulty can include: divorce; business failure; economic downturns; and plain bad planning! There are, however, also a range of unplanned events such as: long-term chronic illness; sickness; an accident; or premature death.
Here we address some of the issues a financial planner will look at when developing a sound financial plan. A useful starting point is an appreciation of what government agencies will not do for people, their families, and their businesses.
There is no cover for medical expenses
- Fully pay for all special medications or treatment
- Pay extra money for health emergencies
- Pay a lump sum for a defined event or illness
- Cover all of a person’s final illness and death expenses
There is no cover for family debt
- Pay off a mortgage to ensure loved ones have a home
- Provide for children or grandchildren’s education expenses
- Pay the council and water rates, electricity and gas bills and other outgoings
There is no cover for business debt
- Pay out business partners
- Redeem business debt
- Extinguish bank overdrafts and loans
The social security system may supply some income support, but it’s likely to be means-tested and will probably fall well short of the person’s needs. The fact is that a growing number of people should address the subject of life insurance because they have dependants, they have debts, and they have financial responsibilities.
What do life insurance companies offer?
Life insurance companies in Australia offer a broad range of contracts and are regulated by APRA (the Australian Prudential Regulator). Not all contracts are strictly forms of life insurance. It’s important to note that the arrangement you enter into with a life insurance company is a contract, and all of the terms and conditions are set out in the contract.
The different types of insurance offered by a life insurance company include:
- A lifetime insurance policy that pays a lump sum upon death
- A term insurance contract that pays a lump sum at the end of the agreed term
- A lifetime annuity that pays a regular income for as long as you live
- A term annuity that pays an agreed income until the term expires
- A superannuation contract that may involve an accumulation phase, and a pension phase
- Disability insurance that pays a lump sum upon the diagnosis of certain illnesses, accidents and other events
- An investment bond that provides a tax paid lump sum after 10 or more years
- A child’s advancement policy that could be used to finance education expenses
- Income protection insurance to provide for periods of time when the policy owner can’t work
- Key insurance to provide the owners of a business or farm with the ability to pay for increased equity in a business upon the untimely death of one of the owners
- Mortgage protection insurance to cover outstanding liabilities if the borrower falls on hard times
There is a multitude of circumstances where it would be prudent to take out life insurance. The list above should get you thinking. Here are several other circumstances that may require careful planning:
- When you’re in a relationship and require two incomes to support your lifestyle and debt obligations
- When you’re a single parent and have children to support and educate
- When you have aged parents or dependant relatives to care for
- When you have financial responsibilities under the Family Law Act, or owe the Australian Taxation Office money
- When you want to make bequests and final gifts to loved ones
- When you have children from a previous relationship. Blended families create special issues and a greater need for protection
- When you have a favourite club or charity that you want to continue to support
Serious accidents, unexpected health problems and untimely deaths happen every day, and no one can expect to not be touched by these events at some stage. When these events happen, you need the right amount of money in the right hands in the shortest amount of time!
Perhaps you’re reading this post and saying to yourself, my children and maybe my grandchildren need to address these issues. You could be doing them a favour by passing on this information. Some parents take out life insurance policies for their children because they can see the household debt burden, and can appreciate the cost of educating children.
Remember the punchline: ‘No debt should last longer than the person who created it.’
Perhaps it is time to start doing some serious research into these matters.
Owen Weeks is director and authorised representative of Lifestyle Matters Pty Ltd and a Registered Tax Agent. He is a Fellow of the Financial Planning Association, a Fellow of the Institute of Professional Accountants, and an Honorary Fellow of the Association of Superannuation Funds of Australia. He is also the co-author of Retire Bizzi and Where to Retire in Australia.
To receive a free copy of Three Things that Really Matter (in retirement) sign up here for the weekly RETIRENOTES.com email.