Creating a Financial Plan 3 – Insurance Planning
“Once you Plan it, Protect it!” ~Unknown
We have Gotten Organized, discovered our Net Worth, and started to control our Cash Flow.
We have identified our investing Purpose, and changed our Portfolio to work toward that purpose following a Plan.
Now it’s time to protect what we have and what we are to build. Insurance planning comes next because it is important and advantageous.
Insurance Planning is Important
No amount of planning, investing, and tax saving will help you overcome a six-figure set-back. You need insurance to cover the unexpected and rare.
Your Roth IRA contributions are not going to make up for becoming so sick that you A) rack up $250,000 in medical bills, and B) can’t work for three years while you recover. You need good Health Insurance and Disability Income Insurance, which will solve those problems (financially, at least.)
No amount of Tax Planning will make up for a dad dying and leaving his wife and two young kids stuck with $50,000 in group life insurance on a single income with a house payment. You need term life insurance (if you are in the window). See Episode 19 for more details.
We all have homeowners insurance and auto insurance because we can’t afford out of pocket our $240,000 house burning down, or causing an accident with $400,000 of damage. Make sure its the right coverage.
Insurance Planning is Advantageous
Insurance is often solely looked at as an expense. But proper planning can reveal annual savings. When you apply those annual savings to your Investing Plan, those savings start to compound into the tens of thousands of dollars. Take the time now to do a proper insurance plan, and your future financial self will love you!
Insurance You Need
See episodes 18-20 on the insurances you need. For this purpose, we will look at how your insurance fits in with the rest of your plan, the action steps you should take to implement that plan.
Health Insurance
Often overlooked, health insurance is not only important, it represents a huge planning opportunity for many people. We didn’t cover it much in our insurance episodes, so we’ll look closer at it here.
When planning for your health insurance, don’t look solely at the premium or deductible. You want to determine the All-in Annual Health Care Cost.
Note the difference between health care and health insurance. Many people, when they talk about health care (especially in the national debate) confuse care with insurance. They are not the same.
In our financial plan, we are looking for the best way to pay for our health care. Health insurance is a great way to help pay for it, but is only part of the equation.
We ant to instead look at the All-in Annual Health Care Cost. This is composed of:
- Health Insurance Premiums
- Out-of-Pocket Costs (OOP)
That’s it. Those two items. Those make up our Health Care Cost. If we have no health insurance, than our premiums are $0, but our out-of-pocket may be astronomical. (See care accident with $410,000 of damage, plus $210,000 of health care costs. Try paying for that with you premium savings.) So we want health insurance to give us a defined premium cost and a constrained OOP cost.
Two other aspects of insurance are:
- Deductible: The amount we pay before insurance kicks in.
- Copay: The amount we need to pay alongside what the insurance company pays after our deductible is reached.
- Max Out-of-Pocket: The Maximum Out-of-Pocket we will need to pay in a year. (MOOP) After this is reached, insurance covers 100% of additional costs.
Insurance plans vary widely as to their premiums, deductibles, copays, and MOOPs. It also varies widely what your employer pays for your insurance. While we can give you some planning opportunities to look for, you will have to evaluate your own situation or hire someone to do it for you.
Let’s look at a real example. A client recently changed jobs and was presented with two plan, the Copay Plan and the HSA Plan. He was married with two kids, and below are some of the details for the family. Numbers with a slash are the individual/family differences.
| Copay Plan | HSA Plan | |
|---|---|---|
| Premium for Family Plan | $222/paycheck | $111/paycheck |
| Deductible | $350/$1,250 | $3,000/$6,000 |
| Max out of Pocket | $750/$1,250 | $3,000/$6,000 |
| Copay | $35-$300 | None |
As with many health insurance plans, preventative care was covered at 100%. So the question became what is the best way to cover non-preventative health care cost.
This family is generally healthy, but they had had large health care costs in the past. Initially, the $3,000 per individual and $6,000 per family deductible on the HSA Plan were concerning. That is a lot of money to have to come up with for this family. Their initial thoughts when they’d received a preview of the benefits were to go with the Copay Plan. They reasoned it is better to pay the extra $111/paycheck than to need to come up with $6,000 in an emergency.
But let’s look at this from a Financial Planning/Insurance Planning perspective. What are we looking at? Total Annual Cost for Health Care. Let’s look at three annual health scenarios: Perfectly Healthy, One Person Full Care, Two+ People Full Care.
Perfectly Healthy
If none of the family needs care beyond preventative, then the annual cost is:
| Copay Plan | HSA Plan | |
|---|---|---|
| Annual Premium | $5,772 | $2,886 |
| Pre-Deductible OOP | $0 | $0 |
| Max out of Pocket | $0 | $0 |
| Total Annual Cost | $5,772 | $2,886 |
| Annual Savings | $2,886 |
In a healthy year, the HSA Plan is the cheapest. You save $2,886. Easy.
But that’s not the concern. Let’s look at the next scenario. A medical emergency that requires one person to reach their max out of pocket!
One Person Full Care
What’s the total cost if one person must reach their max out of pocket? Let’s
| Copay Plan | HSA Plan | |
|---|---|---|
| Annual Premium | $5,772 | $2,886 |
| Pre-Deductible OOP | $350 | $3,000 |
| Max out of Pocket | $750 | $3,000 |
| Sub-Total Annual Cost | $6,522 | $5,886 |
| HSA Contribution | N/A | $3,000 |
| Tax Savings: 35.92%* | N/A | $1,077 |
| Grand-Total Annual Cost | $6,522 | $4,808 |
| Annual Savings | $1,714 |
If one person reaches the max out of pocket (MOOP), they must shell out $3,000 on the HSA Plan, and $750 on the Copay Plan to meet their deductible, and the plan will pay 100% after that. Adding the MOOP to the Annual Premium shows that the Copay Plan is more expensive.
But there’s more! If someone on the HSA plan is paying the $3,000 to reach their deductible, they have the option to run that through their HSA. And in this case, they can contribute that $3,000 to their HSA through payroll deductions pre-tax (including FICA tax thanks to the Section 125 provision). This will save them almost 36% in taxes on those contributions, or $1,000!
In a year where one person must reach their MOOP. The HSA plan is cheaper than the Copay Plan by over $1,700!
But what about when more than one person must reach their MOOP? How much more is the HSA Plan going to cost with that $6,000 deductible? As unlikely as it may be that two or more people who have that kind of emergency, we should know the cost.
Two+ People Full Care
Almost all plans have different deductibles and MOOPs for individuals and family. Even on a family plan, there are separate deductibles for the first person, and then for the family collectively. What if we have to hit that deductible for two or more people?
This scenario in particular is when the Copay Plan looks good at first glance. $750 vs $6,000 is a HUGE difference. Let’s see how much more the HSA Plan will cost in this scenario.
| Copay Plan | HSA Plan | |
|---|---|---|
| Annual Premium | $5,772 | $2,886 |
| Pre-Deductible OOP | $1,250 | $6,000 |
| Max out of Pocket | $1,250 | $6,000 |
| Sub-Total Annual Cost | $7,022 | $8,886 |
| HSA Contribution | N/A | $6,000 |
| Tax Savings: 35.92%* | N/A | $2,154 |
| Grand-Total Annual Cost | $7,022 | $6,732 |
| Annual Savings | N/A | $290 |
Wait a minute… even in the worst cast scenario, when integrated with proper planning, the HSA Plan is cheaper than the Copay Plan. The recommendation for this family was to switch to the HSA Plan and minimally put the difference ($111 per paycheck) into their HSA.
These numbers are with funding the HSA only to the amount of expenses. But in Full Financial Planning, if the math makes sense to have an HSA plan, then the recommendation is almost always to fully fund the HSA. That’s $7,200 per year in 2021 for a family.
That equates to $2,586 per year in tax savings for this family. Let’s look at the total annual cost of each scenario while fully funding their HSA. (Annual Premium + MOOP – Tax Savings = Total Annual Cost.)
| Copay Plan | HSA Plan | Savings | |
|---|---|---|---|
| Healthy Year | $5,772 | $300 | $5,472 |
| One Person Full Care | $6,522 | $3,300 | $3,222 |
| Two+ People Full Care | $7,022 | $6,300 | $722 |
These savings are every year! Invest your HSA and let those savings compound over decades and your are not reaching impact in the hundreds of thousands from a few key decisions.
To be clear, in most plans, the HSA option is not cheaper in every scenario, but always in healthy options and often in low care scenarios.
It is worth evaluation your health insurance from a planning position to see if you can save money.
Schedule a time during your Open Enrollment to review your options and make a change. If you aren’t confident in your ability to evaluate your options, schedule a call with us and we can help you.
Disability Insurance
If you come sick or injured and are unable to work, will you make it? Or will your whole financial plan implode?
Many of use have group long-term disability through work. Often that covers 60% of our pay. Will that be enough
Look at your paystub. What is your current take-home pay vs your current gross income. Most people take home 65-70% of their gross. So 60% income replacement in your disability policy may be enough. But if the group insurance is free to you, then it is taxes. So your 60% will likely be closer to 50%. Dropping from 70% take-home to 50% take-home is a 30% pay cut.
Take your current take-home pay and drop it by 30%. $4,000/m becomes $2,800. $7,000/m becomes $4,900. Will that be enough?
What about your employer 401(k) match and subsidized health insurance and other benefits. If you can’t work, you loose all that.
Add it all up, the a group insurance policy is rarely enough coverage.
Get an individual disability policy for yourself to cover that gap. Protect the plan.
Term Life Insurance
If you don’t have it and you have people depending on you financially, you must get term life insurance. Period.
If you have permanent life insurance, you almost certainly should drop it. In a financial plan, you can do much more with those premiums.
Home, Auto, and Umbrella
You need full coverage on your home and auto. Not state minimums. You likely need an umbrella as well. Shop these out every two years as rates change and you can save big money that can be applied to other areas of the plan.
Action Items
We looked in depth at the savings you can get by planning your health insurance. Similar savings may be possible with your other insurances as well. Here are your action items.
- Calculate your Term Life insurance need. Get coverage through a life insurance broker*.
- Get gap income protection with a long-term disability policy through an insurance broker*.
- Get updates quotes from a personal lines home & auto insurance broker*.
- Set a reminder to plan your health insurance at open enrollment to get the lowest total cost of health care.
*A Broker is an agent who represents many companies, not just one. Insurance companies focus on different areas, and in my opinion, there is no such thing as a company that is best at all insurances.
Seek the best value to protect your plan at the lowest cost. This almost certainly means you’ll have one company for home & auto, one for life insurance, and one for disability. You may have to go to two different brokers, as some will specialize in home & auto, for example, but be unfamiliar with disability.
If you have an insurance agent, and they are recommending you get all your insurances from one company (or even your life and disability from the same company), then you likely don’t have a broker. You probably have someone who can act as a broker, but is incentivized to sell one company. As of this writing, I have yet to find a case where it has been best to get insurances from the same company.
(The exception is home and auto insurance, which is why I group them with an ampersand. These two are almost always bundled, often with umbrella, and that is almost always the best rate for these insurance.)
Plan your finances. Protect them with the best possible value. Take the savings and apply elsewhere.
This article is educational only and is not intended to be investment, legal, or tax advice or recommendations, whether direct or incidental. Again, this is not investment advice. Consult your financial, tax, and legal professionals for specific advice related to your specific situation. Never take investment advice from someone who doesn’t know you and your specific situation. All opinions expressed in this article are the opinions of the people expressing them. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.