Chief Commercial Officer explains why and how advisors might want to consider turning a policy into cash
Decumulation is proving just as gnarly of a problem as much of this industry first predicted. The largest and wealthiest generation in North American history is in its retirement heyday, reckoning with their stated goals and learning firsthand just what their retirement cash flow needs really are. Many of them are encountering health issues, unforeseen expenses, and the ongoing threat of inflation telling them that they need more than they may have accounted for.
Advisors have already honed their skillset and product knowledge to manage this decumulation problem. It’s becoming more commonplace to put additional equity risk into retirees’ portfolios to account for inflation. They’re using covered call ETFs and other income strategies to increase cash flow, and they’re working with their clients to determine sustainable retirement budgets. Andrea Frossard notes, however, that the fact of a fixed income remains for these retirees. The Chief Commercial Officer at Foresters Financial says that there’s an additional source of cash that many retirees and their advisors haven’t considered yet: their life insurance policies.
“If you think about permanent life insurance products, they're often initially sold to provide that estate planning benefit. But the beauty of it is that while you're also doing that, you are actually building up this cash value in your policy. And that is something that a lot of people aren't mindful of,” Frossard says. “Things are more challenging right now for all Canadians, and for retirees in particular, because they generally have a fixed income. For those who have this asset and maybe don't realize they even have it, it is a way to improve their lifestyle or address unexpected costs.”
Most of these permanent life insurance products, Frossard explains, come with a cash value that builds over time. Moreover, in the case of participating insurance, that value is often not market dependent. She outlined three ways that the owners of these products can access that cash value while they’re alive. They could take out a loan against that policy itself, they could use the policy as collateral from a third-party lender, or they could partially surrender their policy in favour of cash.
Each of those options comes with its own trade offs. Frossard explains that a loan against the policy is usually a contractual obligation in the product, meaning it comes with no credit checks and usually has no fees associated with it. That said, it does come with interest charges and if the insured passes away while the loan is unpaid, the death benefit will be reduced by the amount borrowed with interest.
There may be tax consequences, too, for a loan against the policy itself. A collateralized loan backed by the policy, conversely, doesn’t have the same tax consequences. The process, Frossard explains, is often more time consuming and comes with more fees attached.
Surrendering part of the policy, she notes, is relatively straightforward as policy owners would see a reduction in their coverage in line with the amount they withdraw from the policy. That can also come with tax consequences and, of course, it sees the final benefit to any heirs reduced.
Each of these options, Frossard says, may hold merit for different retirees in different situations. At baseline, she notes, there should be a degree of financial stability for the retiree and their heirs, such that the full amount of life insurance coverage will likely not be needed in the event of the covered client’s death. Beyond that baseline, advisors can work with their clients to determine which of those three routes best serves their particular needs and goals.
For advisors recommending some of these choices, Frossard notes that they have to participate in a mindset shift away from insurance purely as a source of protection and view it as a meaningful store of value that can be leveraged for retirement. From there, advisors need to look at all the different facets of the decision: tax implications, death benefit, future growth of the policy, interest costs, and the planned uses of the money.
“I think advisors really should do is look at their book of business, understand what clients they have, which clients have cash values that they could potentially access, and when they're having their discussions with their clients, understand are there needs that maybe aren't being met,” Frossard says. “I think there's lots of ability to help clients to meet their retirement plans better with an asset that they've probably not even thought about.”
