PSA: Beware the Salesman
It certainly didn’t take long for the life insurance industry, and those who sell their products, to praise the February 27th Federal Budget.
What they see is a windfall (for them). What you should see is a potential trap.
Over the last two years there has been a push by life insurance agents to sell life insurance policies as investments. This isn’t new, but what has changed is the story they’re spinning.
In 2016, the story involved tax changes that were coming into effect in 2017. Today it’s the 2018 Federal Budget.
What I hope you take away from reading this is that life insurance should first be seen for what it was meant to be, a risk management tool. It was not designed simply as a place to hide money.
I recently saw a life insurance salesperson claiming that you would get a 7.5% dividend if you invest in a life insurance policy. It is statements like this that mislead people into buying products they probably shouldn’t buy.
When the budget was announced, it contained proposed legislation relating to the taxation of corporate investment income. Specifically, it outlined that a Canadian Controlled Private Corporation (CCPC) that has investment income up to $50,000 would see no change in taxation. Those CCPCs that have investment income between $50,001 – $150,000 would see their small business tax limit reduced by $5.00 for every $1.00 of investment income over $50,000. Once a CCPC reaches $150,000 of investment income their small business tax limit would be reduced to zero.
The key to this is that the entire “test” is based on investment income. The proposed legislation sets no limits on the actual capital value of the investment.
What the life insurance industry is quick to point out is that if you purchase an exempt life insurance policy there is no annual tax reporting and therefore life insurance is now an even more valuable investment.
What I’ve witnessed over the last 38 years is a lot of predatory selling of life insurance. From what I’ve seen in the last few days, it is only the tip of the proverbial iceberg.
The types of life insurance products that are being promoted as “investments” are extremely complex. Most life insurance agents give consumers illustrations that show how wonderful the products would work if all the stars aligned. Unfortunately, all too often, the stars don’t align and the products end up costing way more than anticipated.
As an example, suppose you’re shown a permanent life insurance policy with an annual premium of $60,000 and you’re 45 years old. The illustration shows that if you deposit $60,000 per year for 12 years when you’re 65 you will have accumulated $853,411 in cash value. It may seem to look pretty good considering you’d be insured for over $2.2 million. But what happens if after 5 years of paying $60,000 per year you can’t continue on with the payments. Or what if the insurance company can’t pay you the dividends that are illustrated? Now all of a sudden you have a huge problem on your hands. If you look closely at the illustration you’ll see that after 5 years of paying $60,000 per year (that’s $300,000) the cash surrender value of the policy is projected to be a little over $17,000. That doesn’t leave you much after laying out $300,000, does it?
There may be a place for insurance in your overall financial plan but it’s not necessarily the best solution for you. Don’t run out and buy insurance thinking that you’re going to beat the tax man.
Projections and promises can be made, but these are often extremely long-term contracts and once you buy them, it becomes your problem. The insurance agent and the issuing company assume little or no responsibility for your purchase decision.
If the government is going to base their calculations on investment income there are many ways to invest money without generating a significant amount of taxable income. If you’re thinking about stocks, consider companies like Berkshire Hathaway. Or what about real estate? You can invest in real estate and reduce or eliminate taxable income by using things like interest deductibility and depreciation. Another option is investing in real estate development, which may have no annual income but a potential for capital gains when the property is completed and sold.
There are also other planning opportunities that may be better suited to your particular situation. Three that come to mind are Registered Retirement Savings Plans (RRSP), Individual Pension Plans (IPP), and Retirement Compensation Arrangements (RCA).
So before you go out and “invest” in a life insurance contract, ask yourself these questions:
“Do I need more life insurance?”
“Am I sure that I can continue to pay the premiums as long as I need to?”
“What, if anything, is guaranteed in this life insurance contract?”
What other investment options are available to me?
WHAT’S IN IT FOR THEM?
Life insurance may be a good fit for you, but be extremely careful before you sign. It may be the person across the table from you is looking after their best interest and not yours.
Why is that? Well, remember that $60,000 premium you’re about to pay? The commission on that policy is probably worth about $81,000 to the person who sold it to you. That’s not a misprint. It’s not unusual for the upfront commission on these policies to exceed 136% of the first year premiums.
If you haven’t already been approached by someone about “investing” in a life insurance policy, you probably will be. Be careful and do your due diligence. If you have any questions or concerns please feel free to contact our office. It would be our pleasure to walk you through the specifics and potential risks.
After you’ve finished reading this, I would really appreciate if you’d forward it to your colleagues. I think everyone deserves to know what’s been happening and what’s about to happen.