Emily Arseneau (00:12)
Warning, this episode contains the words commission, annuity, and other insurance language that may be offensive to some financially savvy audiences. Listener discretion is advised.
Welcome to the Physician Family Financial Advisors Podcast, where physician moms and dads like you can turn today's worries about taxes and investing into all the money you'll need for retirement and college. This is Ben Utley. This is Nate Renekeep. So, Ben, today we got a question from a listener. This is Jeffrey in Minnesota. Hello, Jeffrey. Yes. So Jeffrey said, I'm a physician in my early 40s. My wife is also a physician.
We have two kids in elementary school. When we were wrapping up our medical training in twenty eleven, we were convinced to both purchase a variable universal life policy by an advisor in the St. Louis area. He goes on to kind of give us some background. He says, I don't think we will need life insurance after another five to ten years of practicing, but discontinuing the policies may have surrender costs that need to be weighed in the decision to discontinue. As I've learned more, I've struggled.
With what to do with the VUL policy. It is a complicated product and it is not something I would purchase again if I could go back in time. Now that we are eleven years into it, how do I decide whether or not to keep it and how can I unwind it? So, Jeffrey, thank you for this question. This is a a kind of deep in the weeds question, nuanced questions, but we see it all the time.
β and you should have received a coupon code β to get four hundred and ninety-five dollars toward the overtaxed doctor's guide to retirement twenty twenty three. It's just to show you our appreciation for this question. So thank you. I know he got the code because I I saw that it was downloaded. β fantastic. Yeah. Thanks, Jeffrey. Thanks for your question. Yeah. Yeah. And and one more just disclaimer, Ben, for the listeners. We β we are licensed to give advice about this.
Insurance. That's what we're talking about today. Is variable universal life insurance. We don't sell it. Yeah. We don't sell it. We don't take kickbacks. We don't take cuts or commissions or anything like that. We just we could just talk about it. Nate, you know, this β this thing we're talking about, Jeffrey's situation. I alluded to it on a past podcast and that's why he wrote to us. But you know, I I talked to somewhere between three and five physicians in a week.
And if I don't bump into this into this question with a with a prospective client at least once during the week, I'm usually surprised. I mean this is a very common thing. Yeah. It's common and I want to start by kind of we're gonna get into this question, but really quickly, can we talk about why people buy this? So when they're sold this product, what what are the benefits that are sold with it?
Yeah, I like the way that you say sold because nobody likes it wakes up in the morning and says, You know what? I think today's a good day to buy a variable universal life insurance. I'm gonna go out and find me some. You know, it's always like, you know, you're on your way to your your next β learning opportunity as a resident, and some guy snags you in the hallway and is like, Hey, I got this way to save taxes and protect assets, man. Are you interested? You know. And it and it just sounds really good. So they're sold
For with a few a few things. There's β some asset protection that goes with all life insurance, depending on the state, because this is a state based thing. β they're and they're sold because of some tax benefits. And and they do they do indeed have tax benefits like most cash value life insurance and annuities do. Mm-hmm. Right. Okay. That's right. So you you get basically what you're saying is you can get these tax benefits.
in a variety of ways. And this is just Yeah, yeah. It's it's just so the the policies for sure, they do have tax benefit. And I think that to a certain extent that agent was doing Jeffrey β a good because he got Jeffrey insured. But there are other ways to get these benefits. There are other forms of insurance, most notably term life insurance, which is β low cost and very effective. And then there are other ways to get these benefits. So for example, β you can get asset protection in
IRAs and 401ks and health savings accounts and 529 plans and defined benefit pension plans. You can get tax deferral and asset protection in annuities, cash value and fixed annuities. β let's see here. You can get β you can also get tax tax-free growth out of Roth IRAs. β you can get tax deferral out of your traditional IRAs. So
You know, there's a lot of a lot of other ways to get these these benefits, not to mention, you know, tax exempt income off municipal bonds. I can go on. It's like, okay, so there's β tax efficient index funds, like you know, your typical VTSAX or your S P five hundred index fund. You know, those are very tax efficient. β the thing that they don't tell you when you buy these policies is that it does grow tax deferred. But
If you put stocks or bond if you put stocks in these things, essentially if you put in β mutual funds in them, then that grows and and when you cash these things out, it's taxed as ordinary income. Whereas if you own those β those stocks, that mutual fund outside of this thing, even just in a straight up taxable account, then when you cash that out, you you pay ordinary excuse me, you pay capital gains tax rates, which can be easily half of the ordinary income tax rates. Right.
So β this is th this is what I heard you say. There's this there's this boogeyman out there and it's taxes. And if you don't if you don't know what you're getting yourself into, you're sort of buying into this idea that you're gonna save on a bunch of taxes and and you might save on some taxes, but it sounds like when you get into the details, there are other ways to also save taxes. So yeah, why
Is this a bad way to save taxes when compared to all these other things that you're talking about? Simply because of the cost. It's the the cost of these insurance products is high. You know, I I've seen clients say, β I don't I don't want that mutual fund because it charges zero point three five percent. Well, if you looked at the mortality and expense charges in in terms of li in life insurance, it's not, you know, fractions of a percentage point, it's whole percentage points. It's huge. Yeah.
Yeah, so it's extremely high premiums and and at the end of the day, β the taxes are sort of kind of pale in comparison to those premiums. Yeah, I mean you could take a cross country trip in a semi or you could take it in a in a a Honda CRV. And one, it's just a really expensive way to get there. And that's how your cash value life insurance is, specifically variable universal life. Just right. Just so for those who don't know.
Variable means that the thing that's in it is a mutual fund. It means variable returns. Like could go up, could go down. Universal I don't know what that means. Universally doctors get talked into these things and life insurance is life insurance. Right. Right. And and that variable part is like, well, you're still invested. You know, that's the part of how they're kind of really in here. So there's some good mixed in with with a whole bunch of
of ex expenses. Expenses that's generally, you know, how people get talked into things that aren't a great fit for them as there's No, no, you didn't you didn't ask me why why do why do the insurance people talk us into these things? And it's because the the first year commission on these things can be like ten percent of the premium. So you put a hundred thousand dollars in that and that agent got a ten thousand dollar payday. Yeah.
And that's a that's a one way trip for you, my friend. If you're buying into that, you're you're not getting back out alive. Uh-huh. Mm-hmm. Well actually let me correct that. The only way you're gonna get out of it is to die. Yeah. Yeah. Okay. So β all that to say is that you know, we recommend against β these kinds of products. And at some point, β most physicians we speak with, they sort of
wake up to this idea or they hear podcasts like this and they think, How do I get out? Because they've already purchased it. Untangling or unwinding this insurance is β difficult. And I think that the the real savings here happens in how you unwind it. So that's what we're gonna talk about today. Right. There's a right way to unwind it and a wrong way to un unwind it. Either way, it's gonna cost you.
That's just that's a fact of life with these things. The insurance company has been playing this game long, long time ago. So either way it's gonna cost you. But we're gonna talk about how to minimize that cost today. And there's there's three big steps in the process. So Nate, can you outline the three big steps and then we'll drill down? Sure. Yeah. So the the first step is to make sure you're covered, which is saying y you need insurance. Right. So maybe if this is your only form of insurance, then you gotta make sure you're covered.
The next step is to get out of the variable universal life insurance without paying too much in taxes. Mm-hmm. And then β the next step is if you have a gain, you know, whatever your gain is, there's sort of some strategy on how to get around managing that gain or or β minimizing once again the the taxes and fees with that gain. Right. So Some sometimes our podcast is β light and fluffy today. We're going into the
into the depths of the the deep end of the pool. Yes. Yeah. Fair warning. Yeah. but but it's important because many, many residents sign up for variable universal life insurance. Yeah. Okay. So step one, make sure you're covered. Can you talk about that, Ben? Yeah. So β you know, if you have this life insurance, there's a there's a chance that you do need life insurance. But that's the first thing you need to find out is do I need life insurance?
So examples of people who need life insurance are physician moms and dads, right? So you need to β have some ability to get money if you die to cover the cost of college, to pay off a mortgage, to β pay off your surviving spouse's β loans. So there's legit reasons to have life insurance and it's it is a very valuable thing to have. So that's that's the first thing. It's like, do do I need life insurance at all? Now, if you're one of our listeners and you're in your fifties,
And you've been hanging on to this VUL policy that whole time, there's a really good chance you just simply don't need life insurance at all anymore. And in this particular case, Jeffrey's married to another physician. So, perhaps that person is part time or full time, but depending on your situation, you you could make an argument that, look, I'm married to a physician. I I have you know, I have I have income. If I die, they may not need my income.
So you really have to look at your your personal situation and kind of determine β y you know, d do I need it at all. Right. Yeah. And and another someone similar to Jeffrey, or maybe even a few years past that, is β the w the factoring into whether or not you need it is how much money you have now. You know. if you've been practicing for twenty years and your kids are out of c you know, in college and you saved up all the money you needed, you might just need a lot less or not at all.
So that is that that's also kind of a s second part is how much do you need? And there's, you know, a variety of ways to getting to that number, but all the things you just described, what would you need if if one of you were to pass? What would you need to replace? Yeah, so good so good point. So how much do you need? β we're gonna offer a coupon code in our next newsletter that will get you this thing that I'm gonna talk about for free. It is the DIY Doctor's Guide to Life Insurance.
And it is it's something that we've been giving to our clients for years. It tells you β in no uncertain terms how to determine how much life insurance you need. So you can download a copy of that. like I say, it'll be in our next newsletter. There'd be a coupon code there, you can go and grab that. It tells you in no uncertain terms how to determine how much life insurance you need. Mm-hmm. Okay. And this is term insurance, right? term insurance, correct. Well, i you know, in this particular case,
The guide basically just talks to you about how much insurance, not right β and and that's a separate decision, β how much versus what kind. Those are two different decisions. But in my career, I have only seen one physician who actually needed the variable universal life insurance that they they had, and it was a very special situation with a a person who had some specific faith-based needs and some requirements to give upon death.
Like I say, out of the hundreds of physicians that we've served, it's the only case I've ever seen where it was really warranted. Okay. Okay, so you've now β f you've decided or you've went out to try to get insurance, you've decided how much you need. And the next step is just to get it, right? Yeah, next step is to get it. So now this is tricky because right, you already have some life insurance. But that life insurance is really expensive. In fact the the premiums on this is sometimes enough to be able to cover
all the college savings that you would need, right? So what we need is some some term, some term insurance. All right. So what you do is you go out and you actually apply for the term insurance in the amount that you need. So let's say that you need three million dollars worth of coverage. You go out β quote smith, you can go to LLIS dot com. β you apply for the coverage and if you are turned down, then that tells you that you must
hang on to this V U L regardless of how expensive it happens to be, right? Because you need to have insurance. You may just be stuck with it. Okay. But if you are still insurable and you can get insurance, then do buy all the term life insurance that you're going to need. And that that kind of sets you up for some of the next moves. Now also in the DIY Doctor's Guide to Life Insurance, I have a couple of agents in there who I trust
we're not on the take. We don't get commissions from these guys. If you if you buy something, we'll never know it. We'll we'll have no idea about it. I just put them in there because they they're not icky. They're real professional and they're gonna give you the best rates on good good policies. I know that you can do this on the internet, which is cool. you can do that as well.
But if you kind of want a little extra help, you want someone to shepherd you through the process and maybe do some pre-underwriting, that can be done. β one of the companies I recommend is LIS dot com, that stands for Lowload Insurance Services.com. They serve all kinds of clients of advisors who don't sell this product. So that's a that's a strong recommendation. I've I I've seen clients served by them for over the last two decades. Right. And just w one more note there. If you if you
If the idea of going through to this guide and figuring out how much you need, how long your term should be, if that sort of scares you, the people in the guide will be able to walk you through that. True. They know how to do this. You just you know. So how much, what terms that your agent will β will earn their commission on this stuff by helping you through that. Mm-hmm. Okay. So that's the first step is to just get insured with the good stuff.
Yeah, make sure you Make sure your family's safe. Mm hmm. The next step is to get rid of this variable universal life insurance without paying a bunch of taxes. So once again, sort of a scary thing. You call up your your old advisor and you say, Hey, I'm thinking about getting rid of this stuff and they Whoa, whoa, whoa, you're in a big tax bill because of this and you know, stop you in your tracks. So how do you avoid the the tax bill or minimize it? Yeah. So
You have to figure out whether or not you are above or below your basis. Okay. So what we're basically trying to find out is do you have a gain in this product or do you have a loss in this product? And I'm using those words loosely because we talk about gains in terms of capital gains with with mutual fund investments, but this is not that kind of gain. It's it's basically, you know, am I gonna pay taxes on this when I get rid of it or not? So
You can call your agent to find this information, but I assure you that the moment they hear these questions, they're going to be like, β this person's going to surrender the policy and it's going to be a sad day for me. So β don't call your agent for this. Call your company. You can call the life insurance company, and they might tip off the agent that you're calling. The other thing you can do is simply look at your statements because all the information that we're going to be talking about today is contained in your statements. Okay. So the first thing you want to do is find out what the cash surrender
value is. It's not the cash value, it's the cash surrender value. So what's the difference? Difference between cash surrender value and cash value is equal to the amount of the commission that has has been earned by the agent or paid to the agent, right? So if your cash value is $100,000, your cash surrender value might only be $90,000. And when you cash out this policy, the cash surrender value is the amount that you actually get.
So that's the first step. And you can find the cash surrender value policy value on your annual statement. Next step is to sum up all the premiums that you've paid into this policy. So it could be monthly premiums, annual premiums, quarterly premiums, and any lump sum premium that you may have put into this thing at some point or the other. So that forms your basis. It's all the money that you paid into the policy forms your basis. All right. Third step is to compare the cash surrender value to the basis value. Okay.
If your cash surrender is less than the basis, then you would get less out of this product than you put into it. You would have a loss. If the cash value, that cash surrender value is greater than the amount of the basis, then you would have a gain in this product. And typically you're going to see gains in the products after you've had them for five plus years. β so anyhow. So now you know whether or not you have a gain or a loss. All right. If you have a loss.
That's like the end of the journey. All you have to do is contact the insurance company directly and tell them that you want to surrender the policy. That's simple. You can call up, there may be a form to fill out. You may have to send in a letter, you may have to send back the policy. But that's that's what you do. You surrender the policy, you'll have a loss, you cannot write it off against your taxes. That's just the way it goes. Okay. No. So you you may not have heard it, Ben, but I just let out a big sigh.
'Cause that hurt that's painful. So make me feel better about that. Wait, wait. Let's let's side together, Nate. Let's let's breathe in the pain and feel it β man. What a bummer. Right. I have to realize what I what I what I got. And I was is this is why we call it vulnerable no more, because when you're young, when you're in residency, you're vulnerable. You're vulnerable to new ideas and your family is vulnerable. Right? So β it's good that you're coverage, but it's it's bad that the industry takes advantage of people and
we're here to set that right today. So next next step, let's say you have a gain in the policy. Okay, so if you have a gain in the policy, then you have to figure out how to manage that tax gain. Okay. How are we doing that? Okay. So β first you have to quantify that gain. So let's say that you have a gain of five thousand dollars in this policy. Well, adding five thousand dollars to the to the taxable income on your tax return.
It's really not that big a deal. I mean, it it might cost you fifteen hundred dollars in taxes to get rid of this policy if you have a five thousand dollar gain. However, if you have a fifty thousand dollar gain in the policy, I don't think anybody wants to pay fifteen thousand dollars to get rid of it. So you have to make a decision, am I gonna bite the bullet and pay the taxes and be done with this whole insurance thing? Or am I gonna continue to play the insurance company's game, albeit β in a better way?
All right. So if you decide to cash it out, then you're done. You pay the taxes. No big deal. β if you're on the cusp of retirement and you're gonna retire in a new tax year, you might wait until you retire to cash this out so that you'll be in a lower tax bracket. Okay. I think that's probably not most of our listeners. Most of our listeners are a lot like Jeffrey, where they woke up and they're like, Holy cow, how'd I get my how'd I gnaw my arm off and get out of this trap? Right. Mm-hmm. So
The next thing to do is figure out how to get rid of the life insurance and thus the super high premiums that go with these things. There is this thing called a 1035 exchange. That is a tax-free exchange. And what it does is it allows you to take the cash value, and this in this case the cash surrender value of a variable universal life insurance product and exchange it into an annuity. Okay, so there's there's one of the dirty words that we were worried about at the at the top of the show, annuity.
We are in the land of dirty words. We might as well speak speak this language. Okay. So an annuity is a is a cash value life insurance product where you can put some money into it. You don't get a tax break. It grows tax deferred. And then when you get in retirement, you can take it out and pay ordinary income. The other thing you can do with an annuity is you can choose to take a series of payments over the course of your life that literally never run out. Like you cannot outlive an annuity, which is the neat feature of annuities.
β we very seldom use these, but they they are useful in some circumstances. But in this case, it's just gonna be a way for you to keep your t your cash value without paying taxes and without continuing to pay premiums. Depending on the state that you're in, you'll also continue to get asset protection and in all states you'll continue to get tax deferral. It gives you some options. So you can kind of think of it like an IRA, but not at all an IRA. Okay. So you conduct a ten thirty-five exchange. Now,
It's too complex to go into on the show, but suffice it to say that there are some resources in β both the Overtax Doctor's Guide to Retirement twenty twenty three and in the DIY doctor's guide to life insurance. Specifically, I would be doing I'd be doing this with an agent. I'd be using like L O I S or one of the other agents that we that we name in the in these products. Right. So yeah, you said annuity is kind of this
this bad word that we don't use very often, but this is just β kind of the lesser of two two bad things. And really annuities they they do carry some benefits that that are pitched to you at the beginning when you buy these products. Like you said, some of the taxed tax benefits that come with V U L you get through an annuity. Right. And so it's not the greatest thing, but it's better to not continue to pay pay or make payments into this kind of stuff.
You it's funny, this this thing we're talking about today, Nate, it it occurs to me is so common. The very first physician that I ever served, who by the way I'm still serving today after twenty plus years of working with her, was in this trap. She had cash value life insurance and we did a ten thirty five exchange into an annuity and she still has that annuity today, and she's in her late fifties. Right. Yeah. Super common. So β
Folks, if this is you, don't beat yourself up. Just you know, just look at that agent and say, Hey, good on you, you fooled me once, but you're not gonna fool me twice. Right. Yeah. Okay. So that's our that's our ten thirty-five exchange. Now there are a couple other options. So let's say for a moment that you are still insurable and for some reason you want to keep you want to stay in a life insurance product. Okay. You can take the money that's in the original variable universal life insurance.
And roll that money over through a ten thirty five exchange into another cash value life insurance product, perhaps one with lower premiums or one with l with lower internal insurance expenses. So that's that's also an option. And I can think of two or three other things that you can that you can do with it. Mm-hmm. Yeah, I think the hard part is that once you've been bit by that agent, it's hard to go back to them and say, Hey, can you help me get out of this thing you sold me that I don't like?
Yeah, and I want to speak to that too. So, β you know, there are some bad guys in the insurance industry, but there are also some good guys and gals in the insurance industry. many times we have clients that were sold a product and we've decided to keep the product and but we don't want to keep the agent that went with it. So you can change the servicing agent on a product. You contact the company and say, Hey, I want this new person to service my product. So
It's very common for us to in a a situation where there's a hostile or a pesky agent to move that policy to L L IS and let them be the agents of record on it. And they're they will not pester you. They might ask you to make sure that your premiums are paid, but they're non pestering because they work with financial advisors who cannot sell insurance to their to their clients. So that's that's another way. You don't you don't have to leave your product to leave your agent. You can just leave the agent and keep your product. Right.
Yeah, and then once you get over there, you ha they have it in their hands and you can make a good decision. Yeah, you get you get all kinds of information that otherwise you'd have to sit through sales presentations or take grief about. So yeah, there's there is relief without even getting rid of the product. Yeah. So one more time we're gonna we're gonna kind of face reality here. There's no way to get out a VUL once you're already in it without paying the insurance company. That that's correct.
W once you accept that, you can move on. Yeah. So let me tell you how this works. So the agent who sold you this product had a huge payday on the date that you signed that paperwork and stroke that check. Okay. Huge payday. Now, if the next day that insurance agent quits the insurance company, they're gonna take their money with them, which means that the insurance company could never, never get that money back from the insurance agent. All right. So that money for the insurance company is gone.
And if you turn around and you get rid of the product, then they're they're gonna want to be made whole for the money that they paid out to the agent. They don't see that as just a cost of doing business. They see that as a loss. And so they're gonna take that out of your skin in the form of a surrender penalty. All right. So that's if you buy this thing and you turn around and you you get rid of in a in a short period of time.
Now, these surrender penalties age off. They decrease over time. And the schedule can run from five years to twenty years. And typically the surrender penalty becomes less and less and less. And so the temptation is, β well, I'll just hold this product until the surrender penalty rolls off. Wrong answer. Because inside these products, you're paying a very high expense for the privilege of having that β tax deferral. Okay. So that is kind of the wait and see game that the insurance company pays because the longer that you stay with them,
the more money they make. And that's another way that they can recoup on the commission that they pay to the agent. Okay. So whether you you stay a short time or you stay a long time, the insurance company is going to recoup the money that they pay to that insurance agent plus all the profits that are on this. So you once you're in this thing and you you're past your free look period, you cannot win. You if you're going to get out of the trap, you must absolutely gnaw your arm off. Right. It's period dot dash, end of sentence. No other way around it. Yep.
Okay. And that's that may feel like it kind of we're ending on negative notes, but what that should do is free you to just do it. That's how I view this. Just do it and move on. Stop. Yeah, and kinda kinda be done with it.
So that's our show for today. Thanks for listening to the Physician Family Financial Advisors Podcast.
