Sameer Puri D.D.S. One of the biggest gifts that was given to me was on October 14, 2007. It was the day that Imtiaz finally persuaded me into saving money for my future. I had scraped together some limited funds and handed it over to my newfound financial advisors. I was using Mercer Advisors at the time and they did a masterful job for me and have managed through proper investment and the sheer miracle of compounding growth to grow that paltry sum into a significant savings for my family and I.
Through thick and thin, market ups and downs, through the crash of 2008, I kept saving and adding to my initial sum. Many times I wondered if there was a short cut- a better way. Many times I was approached with alternative investment advice promising low taxes, high returns and the safety of a guaranteed return. While I’ve changed my investment advisors to someone local in Scottsdale, UMB Bank, my philosophy has remained the same – to stay away from get rich schemes and just save baby save!
When you choose an investment advisor, if you decide you need help, my recommendation is to choose a company that is a fee-only advisor, which means that they charge a percentage of your investment account to manage your money. Typically this percentage is from .5-1% of your account. So if you have one million in investable assets, they charge 5-10k a year to manage the funds.
Now we can get into the debate of why you would want to pay someone 10k or more a year for something that you can theoretically do on your own. If you are disciplined enough and know enough about investing, then by all means do the investing yourself and save money. An incredible resource if you want to do your investing yourself is https://dentistmarketalert.com. This website run by a fellow dentist, Dr. Ernie Johnson, is a must read for any do it yourself investment guru.
I can just tell you that in my case, the returns that were generated with the help of an advisor far outweighed the fees charged. Not that I likely could not have generated the results on my own, but more because of time. I felt my time would be better served running my own business rather than trying to be an investment expert through the school of hard knocks.
When searching for an investment advisor, what I would suggest you run away from is someone who tries to disguise investment advice in the form of trying to sell you insurance. This is a particularly profitable venture but unfortunately it is for the insurance agent through the commissions generated by the sale of the insurance policy.
A popular insurance product that insurance salesmen try sell to would be investors is whole life insurance. There are many forms of this insurance with different names but the sales pitch is the same:. You have guaranteed returns so when the market is bad, you still make money. You have permanent insurance. You can take a loan from your insurance policy tax free. All these promises sound great but lets talk about each one of these in detail.
Now I am sure somewhere for some individual these types of insurance policies might make sense. For the vast majority of individuals, they make no sense whatsoever. Simply put there are high commissions associated with these policies. I’ve heard of up to 16% commissions on the value of the policy.
So if your “investment advisor” sells you a million dollar whole life policy, the commission to the agent is $160,000. Now I am all about people making a good living for work rendered. This is not my issue with the massive commission. Good for the insurance salesman for making money. The issue I have is if this is sold as an investment, the moment you buy it, your one million dollar investment is 840k. How’s that for a return?
Guaranteed Returns
One tactic used to sell these policies is the allure of guaranteed returns, normally in the 4-6% range. Listen, if you absolutely cannot stomach any market volatility and don’t mind paying a premium for the peace of mind that a guaranteed return provides, then by all means go ahead and buy a whole life policy.
But lets look at facts for a second. The S&P 500 from 1928 to 2016 returned an average of 11.42%[1]. The return on average from 1967 to 2016 was 11.45%. That’s fine and dandy you say but that doesn’t apply to me because my investment was destroyed by the 2008 crash. Yes, the market crash of 2008 resulted in a -36.55% rate of return. But 2009 saw things bounce back and we had an increase of 25.94%. 2010 had equally impressive returns of 14.82%. In fact if you look at the average of returns from 2007-2016 the return was 8.65%. You may not trust the market, you may claim the market is rigged, you may say its all in favor of the fat cats on wall street who manipulate the market. Yes, all of this may be true. But the fact remains that if you invested $100 in the stock market in 1928, that $100 would be worth $328,645. That same $100 invested in bonds would be worth $7110.65 in 2016.
As an example let me share with you a sales pitch that was given recently to a friend of mine. She is in her mid 30s with a very successful practice. Her “investment advisor” gave her a pitch for an alternative investment that she was intrigued with. She sent me the email below asking for advice.
“I met with my financial advisors yesterday and they proposed an investment strategy that sounded great but almost too good to be true so I was curious if you have heard anything about it.
To make it work you have to be a business owner and have a take home income of over $350,000. The basis of the strategy is I would take a loan from a bank for $1mill to purchase an Executive Retention Plan (Life Insurance Policy). This loan would have a static interest rate of 3.6%. The first draw from the loan would be $250,000 which is what the cash surrender value is of the life insurance policy at day 1. The insurance policy value compounds interest at an average of 6.5% over the last 30 year history with a floor of 0% and a ceiling of 10.5% following the S&P Index. I would take the additional loan money out in amounts of $250,000 as the cash value of the policy increases so there is no risk. The collateral of the loan is only against the insurance policy, not my practice. The practice takes out the loan, I take a loan personally for the practice and the insurance policy is then mine personally.
The end goal is at age 55, I can start to draw off of this account monthly as non-taxable income at $150,000/year. It is essentially taking out a loan against the policy but no penalty to pay it back, it just takes away from the death benefit. It is high enough that at age 90 I will still have about $1Mill remaining in the policy. Because it is all collateralized against the insurance policy they are saying this will not affect my practice financials if I need to make any additional purchases, etc. “
Now I am a simple man with a simple rule. If I don’t understand the investment, I usually don’t invest money in it. Frankly I don’t understand what they are trying to do above but I think I see a couple of things they are trying to accomplish. They want her to buy an insurance policy for 1 million dollars. That insurance policy will return on average 6.5% (recall the average rate of return for the S&P 500) and it will allow her to withdraw 150k tax free.
Lets do some basic math shall we.
The premiums for this policy for 20 years is 45k/year. That is $900,000 in total payments for the 1 million dollar insurance policy. If we were to take the same $45000 payment and save it and every year for 20 years add $45,000 to our savings instead of paying an insurance premium and were able to garner on average a 9% rate of return, we would end up with a little over 2.7 million in the bank.
[1] http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/histretSP.html
Now if I was to say trust the market and instead of 9% rate of return we estimate that we might get 11% rate of return, well, that gives the individual a bit over 3.5 million in their account.
So if the individual is 38 years old with a desire to retire at age 55 – if for the sake of math we bump up the retirement age up to 58 so we get a full 20 years of 45k investments, that individual has over 3.5 million in savings if they didn’t invest anything else. I would assume that if someone was going to make insurance payments of 45k a year, likely they would save more money for their retirement so if we just assume that this doctor was going to pay in one scenario 45k for investments and another 45k for insurance premiums, and instead they put the full 90k a year towards their retirement, now we have over 7.1 million in savings.
With 7.1 million in savings, anyone can quickly see that this is a way better return than buying an insurance policy and then taking a “loan” against your policy to fund your retirement
But lets play along with the insurance agent and humor them. Lets just assume we have the original 3.569 million saved up. Will this amount be able to match the 150k tax free the insurance policy would give?
If we were to take the 3.569 million and assume a rate of return at 11% (historical rate of return for S&P is 11.42% for over 90 years) and every single year take out 224k what would happen to our money? 224k because that allows you to pay 74k in taxes and you have the same 150k or MORE that the insurance policy would give.
Here are the numbers for an 11% rate of return. Every year starting at age 58 you take out 224k and invest the rest. Assume you pass away at age 85. Well, then you leave a measly 30million plus to your heirs. If you purchased the insurance policy, well, you get your death benefit passed on to your heirs minus all the money you have already taken out as a loan to yourself.
Ok I get it, you don’t trust the market- then lets be more conservative and only calculate a 9% rate of return- here is what you get from age 58-85:
You still leave 14 million plus to your heirs, you still take out the 224k a year.
Fine you really don’t trust the market- lets use then 6.5% - the same your insurance policy was going to pay you. You die and leave over 4 million to your heirs and you still had the luxury of taking out 224k a year.
Bottom line is no matter how you slice it, instead of paying premiums for an insurance policy, if you just invest the money instead, you come out ahead. Way ahead.
Life insurance should never be used for investing. Well, never say never cause as I stated there might be some person out there for whom this investment strategy might make sense but for the vast majority of individuals using insurance as an investment does not make sense.
Well, then if you hate whole life insurance so much Sam, what kind of insurance should I buy? Buy term insurance folks. Cheap, cheap, cheap. One million in term insurance for a healthy 35 year old is less than $1000 a year. [1] Term rates are cheap- you get more insurance for you money and frankly you need insurance so that the family you leave behind has enough money to continue their lifestyle. That’s it.
Permanent Insurance
But Sam, after 20 years the term policy will run out and I will be old and getting more insurance will be too expensive. Whole life insurance is permanent insurance in that it can never be taken away.
Think back to the scenario where you are getting an 11% rate of return- you die with 30 million in the bank. Why do you need insurance in this scenario? You are self-insured. Your heirs for generations can live off this money.
Take a loan from your policy
With 4 million to 30 million saved depending on your discipline of saving through thick and thin, why would you need to take a loan from yourself? This is another selling point of the whole life policy correct? To me, just withdrawing my own money instead of taking a loan sounds a heck of a lot better.
The bottom line guys is don’t get sucked up into fancy investments. The best thing you can do is buy cheap term life insurance for the amount your family needs to live if something were to happen to you. Insurance is to be used for insurance, not as an investment. The only people that profit from this are the insurance agents.
I hope this paper was able to generate some information for you and arm you with a rebuttal when someone tries to sell you insurance and disguises it as an investment.
[1] https://www.goodfinancialcents.com/how-much-does-a-million-dollar-term-life-insurance-policy-cost/
