Physicians are often targeted by financial professionals, good and bad, because of their high income. If they don’t do their homework, doctors can end up paying a ton in fees and commissions to salespeople out to make a buck or even ethical advisors who just aren’t knowledgeable about the products being sold. Life insurance is near or at the top of the most expensive financial products.
Life insurance can be a critical component of a financial plan. But it can also be a minefield if you step into the wrong arena and can cost thousands of dollars per year in fees and commissions.
Let’s sort it all out here.
Physicians’ need for life insurance
Many doctors right now are working toward financial independence. It’s the point when a physician has built up enough money so that they can retire and live the life they want without earning an income by practicing medicine. Building up that nest egg is a slow and steady process that can take their entire career.
As physicians are building their assets, they also have a bunch of expenses ahead of them. On top of the years of regular monthly cost of living, there’s also the cost of raising kids, buying a house, cars, etc.
Ideally, physicians get to live a normal life expectancy while paying for these expenses along the way and also reaching financial independence. In that world, there wouldn’t be a need for life insurance.
But physicians know better than most that a normal life expectancy isn’t guaranteed even with good health. Premature death happens often. Aside from the personal loss, there’s also a financial risk to anyone depending on that salary if it were to go away before having the time to build up a nest egg.
That’s where life insurance policies can come to the rescue. It can bridge the gap and make sure your family members can keep living the lifestyle they’re accustomed to. Plus, it can fund the major expenses ahead without the physician salary in the event of an untimely death.
How much life insurance do physicians need?
There are three major factors that determine how much life insurance a physician should get:
- Future expenses ahead
- Amount of savings already built up
- Spouse’s income situation
Think of it this way: Let’s say a physician is the sole breadwinner and has two dependents — a three-year old and a one-year old — plus a $500,000 mortgage. They want to pay for their kids’ college and support them through age 22. Right now, they’ve saved only $50,000.
Let’s just say each kid will cost $300,000 to raise, including college. That means this physician would want to look at $600,000 to support the kids, plus $500,000 to pay off the mortgage. But that doesn’t include money their spouse would need to live off of. Right now, they only have $50,000, so if something happened without life insurance, the physician’s loved ones would not only be hurting emotionally but also financially.
The surviving spouse would have to go back to working full time. The house could need to be sold since the family would no longer be able to manage the mortgage payments. They’d have to uproot life as they know it — not fun to think about. Life insurance is a must in this situation.
Fast forward 25 years. The house is paid off. Kids are done with school and financially independent. The physician and spouse have built up a $5,000,000 nest egg and spend about $10,000 per month. Now they probably don’t need life insurance. All the major expenses are behind them (excluding any assisted living expenses), and they’ve built up a net worth that can more than support them.
These examples show the purpose of life insurance: It bridges the gap while physicians build up their nest egg. Once they have enough to live on, the need for insurance isn’t really there.
Life insurance for physicians equation
How much life insurance a physician needs can be calculated any number of ways. But here are some rules of thumb:
If you’re looking for a simple calculation, Dave Ramsey has a pretty good one. Get coverage for 10 to 12 times your income. So, if you earn $250,000, then you should get between $2,500,000 and $3,000,000 of life insurance.
Me personally? I’d want to pay off any remaining debt, fully fund my kids’ college and have enough left over to support my family. That would jumpstart my family because they would have no debt payments and wouldn’t have to worry about funding future major expenses. They could just use the proceeds to keep the lifestyle that they live month to month. It’s a little more complex, but here’s the equation:
Life insurance amount = Outstanding Debt + [Projected college expense x Number of kids] + [(Annual expenses – Spousal take-home pay) x 20-25] – Current savings and investments
Don’t just take my word for it, though. I suggest using two to three life insurance coverage calculators from a site like Policygenius to determine the benefit amount that makes sense for your specific situation.
How does med school debt affect life insurance for physicians?
It all depends on what kind of student loans a physician has.
For example, federal student debt is discharged upon death in almost all instances, so it doesn’t have to be factored into a physician’s life insurance needs. I recommend you read through the Federal Student Aid website to see how this could apply to your situation.
However, private student loans usually won’t be discharged due to death, so life insurance should be taken out to cover paying these back. A physician with private debt ought to check with their loan servicer to see how it handle the debt in the event of their death.
Cosigned loans typically won’t be discharged, either. So, if you cosigned for someone else’s loans or someone cosigned for you, talk it over with the other cosigner to see how to handle the debt, plus speak with your loan servicer.
The two main types of life insurance options
There are two main types of life insurance products: term and permanent. You’ve probably heard of term before but maybe not permanent.
Term is pretty self-explanatory. You pick the amount of coverage you’d like and specify the number of years you want it in place (e.g. 20-year term). You’ll pay premiums over that period of time. Then when the term is up, you stop payments, and the coverage goes away. This is what I do personally.
There are various types of permanent insurance, so it’s a little more tricky. The idea here is that this kind of insurance will cover the rest of your life, not just 20 to 30 years. There are other nuances to that, but let’s just keep things simple for now.
The name “permanent insurance” isn’t widely used, but many have probably heard of “cash value” life insurance or the subcategories called “universal life insurance” and “whole life insurance.” It includes an investment account of sorts along with the death benefit.
Permanent insurance is an extremely convoluted, costly way to insure, and most physicians don’t need it. Besides, nearly all term policies can convert to permanent without a medical exam if someone has a negative medical event.
Cash value seems appealing, and life insurance agents are masters at making it sound amazing. But there are some key facts that make it one of the most expensive ways to buy life insurance and “invest.”
Let me explain that in greater detail so you understand.
What is cash value — and is it good or bad?
The idea of term life insurance is that you pay a premium (payment), and that premium covers the death benefit. Permanent life insurance premiums with the same death benefit are often 10 to 20 times more expensive than term. That extra premium above a term policy goes to build up cash value.
Basically, the additional premium goes into an investment account held at the life insurance company. This investment account is the cash value in the policy. As people age, the cost to insure rises, so cash value is built up to be able to fund the astronomical future life insurance premiums into your 70s and beyond.
The cash value is put into the insurance company’s investment portfolio, which is usually diversified between cash, bonds, equities and real estate. If it’s a “mutual” life insurance company, it will also distribute some of the business profits to the cash value by way of dividends.
This all sounds great, right? Cash value is a diversified investment portfolio that grows tax-free and also gets a boost from company profits. Heck, that sounds like a phenomenal deal.
The problem is that it’s wrought with monster fees and commissions combined with the cost of getting the money out. In my experience, many life insurance agents don’t actually know how this works — but I do.
Super-high commissions and fees
If you’re looking to invest, do so at a place like Vanguard or Betterment, which will charge you less than 1% to manage your investments. If you invest with life insurance, the fees and commissions are literally 100x that in the first year.
The typical commission on life insurance is 100% in year one and 50% in year two; it trails down to 3% to 5% after five years. That means a physician who has a cash value life insurance premium of $2,000 per month just forked over $36,000 in commissions in fees in the first 18 months. Poof! Essentially, a physician has invested nothing over those 18 months, despite parting with $36,000. That’s egregious!
By the way, that’s how commissions work whether it’s a term or permanent policy. Would you rather get a $2,000,000 term policy for $80 per month and pay $1,440 in commissions in 18 months while still getting your coverage? Or pay $36,000 in commissions for the same coverage when you’d only pay $200 to Vanguard?
Now put yourself in the life insurance agent’s shoes: Would you rather get $1,440 or 25x more from the same client? Those incentives are insanely out of whack!
You need to borrow your own cash value
If those ridiculously high fees weren’t enough, you can’t access any gains on your cash value without borrowing against it and paying 6% to 8% interest to borrow your own money. Let’s say that you pay $240,000 in higher premiums over 20 years ($1,000 per month), and it grows to $400,000. Well, you can make withdrawals for that $240,000, no problem. But if you wanted to take out the gains of $160,000, you’d have to borrow that.
I personally don’t want to pay super-hefty commissions, then have to borrow my own money. Often times people end up in a better spot if they “buy term and invest the rest.” In other words, if you can get a $2,000,000 term life policy for $50 per month and the whole life would be $1,500 per month, you’d pay a lot less in fees and keep more of your money if you bought the term and invested the remaining $1,450 instead.
How physicians can save money on life insurance
Term insurance is by far the best and least expensive way to go for physicians. Remember that life insurance people are incentivized to sell you the largest premium policy possible, and they are really good at what they do. Many of them are nice people and mean well, but they’re just drinking the Kool-Aid and have their eyes light up with what their commissions could be.
I recommend working with someone who can shop for the lowest rates at various insurance carriers and isn’t pressuring you to buy a permanent (universal or whole life policy) life insurance. Zander Insurance is a good one, as well as Policygenius. Both you can do online. Be sure to go with a highly rated insurer.
Revisit your policy anytime you have another child or make a major purchase with debt, like a house.
Term insurance is less expensive than you think. It’s OK to buy an extra $250,000 to $500,000 if it makes you feel more comfortable. Also feel free to take the term out an extra five years for peace of mind. That coverage will bridge the gap as you build up your net worth and get past the major expenses while working to becoming self-insured.
Life insurance for physicians is a critical component of their financial plan. The key is getting it in the most effective but least costly way possible. We want to make sure they get to keep as much money in their pockets as possible and set themselves and their beneficiaries up for financial success.
Feel free to email me at [email protected]. I’d love to hear your feedback and answer any questions. I personally don’t sell life insurance, so I can be an objective third party.