“Do you have enough life insurance?”
This is a common question asked by individuals of themselves and by adviser toward their clients.
Voyant’s life insurance needs simulation makes it a lot easier to find an objective answer to this question.
Found under the “Simulations” tab on the main chart, the “Life Insurance Need” simulation allows a user to determine how much additional money, in a lump sum form, is necessary at time of death of either spouse in the plan in order to cover future goals and expenses detailed later in the plan, taking into account existing life insurance products.
The simulation interface allows the user to specify a point in the near future to at which to simulate the death of either spouse in the plan. Usually, one picks one, two, or 3 years as the time period from which to simulate a premature passing. The simulation moves the death event of the dying individual to the specified year, and then, using the information in the plan, and the current market performance assumptions, calculates the additional amount of money needed as a lump sum in the year of death, in order to prevent a shortfall from occurring in any subsequent year in the plan.
Using this technique, the simulation is able to take into account a large number of variables such as future earnings and savings contributions of the passing individual, as well as the future goals the passing spouse had for the family such as the children’s college expenses, etc. Additionally, current life insurance benefits, government insurance (Social Security in the US, and State Pensions in the UK) are also taken into account as part of the simulation.
Let’s take a look at the Silber’s life insurance needs.
The Silber’s are comprised of two working parents, Isaac and Rachel, and one child, with a second child planned for the near future. The Silber’s plan for both their children to go to college, and ideally they would like to send their children to private grade schools. Isaac currently has a 25 year term policy with $100,000 benefit, while Rachel has no insurance. Isaac’s currently salary as an architect earns him about $120K, while Rachel’s job earns her $70K
The red event markers on the chart indicate the simulated death event for each spouse. The top chart illustrates result of Isaac’s premature passing without additional insurance, while the bottom illustrates Rachel’s premature passing without additional insurance.
Running the simulation for Isaac, Voyant ends Isaac’s salary at the new simulated death event, ends any future retirement savings contributions associated Isaac, and ends any expenses solely assigned to Isaac. Since Isaac already has a $100K term policy, this policy is paid out and included in the available funds upon Isaac’s death. All other expenses, contributions, property purchases remain in the plan. One can see from the top chart that with Isaac gone, unsurprisingly, the Silber’s future plans are in serious jeopardy.
For Rachel early simulated death, a similar procedure is carried out by the simulation. Her salary ends, and all her solely owned expenses are removed from the plan. Just like with Isaac, the Silber’s plans will need some major adjustment in the event of a premature passing without additional insurance on both Isaac and Rachel.
Voyant calculates Isaac needs approximately $620K more in life insurance to insure the goals he has for the family. For Rachel, Voyant calculates that she needs an additional $330K in insurance.
With this, one could go back add an additional term policy each for Isaac ($700K) and Rachel ($350K), re-run the simulation, and see that the additional need for Isaac and Rachel has been reduced to zero or near zero.
The Silber’s: Changing the Market Assumptions
Since future market performance plays a role in the calculated need, we should test how the market assumptions affect the Silber’s insurance needs. Using the Performance slider (the subject of a future article along with the Historic Performance simulator), we adjust the average market assumptions used in the simulation to reflect an overall lower performing market during the timeline of the Silber’s plan. We lower the performance slider so the Silber’s assets only perform at the bottom 40th percentile of their average throughout the lifespan of their plan.
Life insurance simulation using performance slider
Using this less optimistic outlook, we see the Silber’s life insurance needs, as expected, are increased, and by a good margin.
In short, the base need calculation may not be sufficient given the affect of a lesser performing market.
Some important things to note
- Expenses solely owned or designated for the dying individual are stopped at death event. If the dying spouse has an expensive hobby like boating, or spends a good amount of money every year following his or her favorite football team around the country, then those expenses will not be included in the calculation after the spouse has passed. From this, one should hence be sure to mark essential expenses such as child care or housing, etc. as owned by both spouses to avoid the expense being eliminated at death and thus incorrectly reducing the need.
- Currently, the life insurance lump sum is paid out as cash and allocated to the first cash based taxable savings or checking account in the plan. As part of the simulation, the lump sum calculated is based mostly on the lump growing at default growth rate or the cash growth rate. In a future version of Voyant, we will allow the existing insurance policies to designate how to allocate the payout among the different savings accounts in the plan. One will be able to specify a portion (or 100%) of the payout be allocated to a more aggressive, but more risky, taxable savings account that could have an overall higher average growth rate. With this, a lower calculated need would be ascertained.
“Do you have enough life insurance?” Voyant’s Life Insurance Needs simulation tool provides one of the most comprehensive and easy ways for individuals to answer, and for advisers to help their clients answer this question through the context of a holistic plan.
There are a large number of variables that factor into determining life insurance need. With the insight provided by Voyant, one can see how these factors add up into an objective answer.