Pensions and Life Insurance

[Independent]

This recent thread http://www.early-retirement.org/for...urance-and-take-more-pension-money-71941.html is an example of a common question.

"I have a pension which pays $X per year if I select the 'joint with 100% to survivor' option, but $20,000 per year if I select the 'joint with 50% to survivor option".

I'm not concerned about X right now, just the fact that the 50% option will pay $20,000 as long as the worker is alive, but only $10,000 to the surviving spouse if the worker dies first.

One idea is to take the 50% option, then buy insurance on the worker so that if the worker dies first, the spouse will have enough life insurance to provide $10,000 per year for the rest of his/her life.

People doing this typically buy level premium / level death benefit term, though sometimes they buy whole life.

It seems to me that the "right" insurance is an old-fashioned idea, Decreasing Term.

In this example, assuming the spouse is 65, the insurance would provide $350,000 if the worker died in the first year of the pension, $340,000 if he/she died in the second, ...., $10,000 if he/she died in the 35th year, and nothing after that.

So the insurance amount steps down to match the number of years that the survivor may need income. I'm conservatively assuming that the survivor can earn just enough return on the proceeds to stay even with inflation. A more optimistic assumption would allow a lower face amount.

The advantage is a lower premium. Just grabbing a sample mortality table and interest rate, I got decreasing term premiums at age 65 which were about half the premiums for level death benefit term (the half isn't a given, just a coincidence).

Decreasing term has fallen out of favor for normal family protection because term is generally so cheap, and because families expect that their annual income needs will go up over time due to inflation or raises.

In the non-COLA'd pension case, the annual income needed is a flat dollar amount. And, since issue ages can be rather high, the premiums aren't dirt cheap.

I'm not sure if anyone will actually have the patience to read all this. But, for the hardy few who get to this point, does the above make sense? Do you think buyers would be interested in such a product? or, is there some reason that you think most people would prefer the level death benefit?

 

[samclem]

Do you think buyers would be interested in such a product?

I can see the need for such a product, but (as your post points out), it requires some explanation and that's never a good indicator of instant public acceptance.

To be a more precise fit to the exact need, the product would be better if it paid (and was priced) so that it only paid if the person with the pension died before all beneficiaries (spouse, any specifically named others, etc). More beneficiaries= lower chance of outliving them all=higher premiums.

From a marketing perspective, it might be useful to offer various amounts of inflation protection for the payout: zero percent to match the non-COLA'd pension, but other options that >more< than replace the pension.

And, how would this product compare in price to an annuity? Rather than a single lump sum, a monthly annuity check to the survivor is more similar to the pension being replaced.

 

[gauss]

When dual income couples draw Social Security and delay until 70, having one pass away along with the associated loss of SS income could have a huge impact on the financial plan. This would only be further aggravated by the surviving spouse suddenly being in a much worse tax bracket as a single.

I see that as one of the biggest retirement risks to be dealt with in our case. For now I have significant accidental death insurance policies on each of us, but eventually may need to consider something like decreasing term. Thanks for the reference.

-gauss

 

[pb4uski]

....It seems to me that the "right" insurance is an old-fashioned idea, Decreasing Term.....

Roll your own decreasing term.

See Creating a Life Insurance Ladder

 

[Independent]

I can see the need for such a product, but (as your post points out), it requires some explanation and that's never a good indicator of instant public acceptance.

1) To be a more precise fit to the exact need, the product would be better if it paid (and was priced) so that it only paid if the person with the pension died before all beneficiaries (spouse, any specifically named others, etc). More beneficiaries= lower chance of outliving them all=higher premiums.

2) From a marketing perspective, it might be useful to offer various amounts of inflation protection for the payout: zero percent to match the non-COLA'd pension, but other options that >more< than replace the pension.

3) And, how would this product compare in price to an annuity? Rather than a single lump sum, a monthly annuity check to the survivor is more similar to the pension being replaced.

1) Interesting thought. I think your theory is right. From a pricing perspective, there would be some expectation that the insured would simply drop the policy if the spouse dies first. So any gain there happens automatically. But, under US law, the gain to the insurer would be small because these policies would generate mandatory cash values. But, people who are in poor health are going to keep it even if the spouse dies, just because it's a good "bet".

From a legal perspective, I expect that insurance departments would really struggle with a form that specified automatic termination on the death of the beneficiary.

2) Yes, that (and any assumption about post-death real investment returns) shows up as something other than a linear decrease. At some point on that spectrum, people just say that they'll keep it simple and buy a level death benefit.

3) Two annuity options. One is post-death. That should be provided by the insurance settlement options, though again the death benefit can be tweaked to make that a clear and simple sale - "Whenever you die, your beneficiary can take the proceeds in the form of a life annuity that will pay exactly $10,000 per year." Some decreasing term policies used to be structured that way ("Family Protection")

The other is an SPIA instead of the insurance. I've seen that used for this type of thing - buy enough annuity to equalize pensions so the either survivor will get the same amount. I'm sure that's much more expensive because it pays for all the years they are both alive.

 

[Independent]

Roll your own decreasing term.

See Creating a Life Insurance Ladder

Good point. I've seen that approach used in some of these threads.
Multiple policies does mean multiple policy fees.
But, the primary advantage of the decreasing term is that it's not DIY, for the people who prefer to buy already-rolled. There may not be a lot of them.