Both Jane and John Jones were smiling as they walked into my office for the second meeting with them. The first meeting had gone well and I was excited to meet with them.
After a few minutes of catching up and pleasantries, I asked John, “If you were talking to a good friend and they asked what our office was doing for you, what would you tell them?”
John was contemplative for a moment and then started to speak. “Well the first thing I would tell them is that you have completely changed my thinking about whole life insurance and its value. You did not just convince me, but you helped me by using your special calculators, see the whole truth about how money works. In fact, I would probably tell them that your office has not tried to tell me what to think, but has rather helped me to learn how to think.”
“That is quite a compliment, thank you. I hope you have opportunities to say exactly that to people you care about,” I replied. “But I want to make sure you understand one critical thing: I never want you to assume my opinion to be correct. I want you to question everything I tell you. I want you to make your decision on your own – always. With that as a starting point, I want to approach an issue that I think is rather important. Are you ready to get into the serious side of our discussion today?”
Jane answered, “We definitely are! And, just so you know, my parents are so happy you helped us to see the wisdom in their decision to purchase that whole life policy for me when I was a year old. They send their thanks.”
I couldn’t help but smile. “Why thank you, Jane. That is very kind of you to report.” Getting a down to business, I told them about a recent study done by Lexis-Nexis. “Do you realize that 43% of American families own no life insurance? And of the 57% that do own it, 30% of those believe they have inadequate amounts of life insurance. Why do you think such a large portion of Americans are either under-insured or uninsured?”
“But I thought we were going to talk about purchasing a car – that is what we told you we wanted to talk about,” John said.
“Yes, I want to talk about that,” I replied, but humor me a little as I help you to see a very important financial truth. So why are so many people uninsured or underinsured?”
“Well, I guess it is because people have never met someone like you?” Jane said, almost questioning.
“Or maybe it is because they do not understand the value of life insurance,” John added.
“You are both on the right track.” I complimented them. “Have you noticed there is a disturbing trend in America that people do not understand the value of work?”
“Yes!” was their unified answer. “It seems that many of my peers do not know how to work or even value the fact that they have a job,” John added. “They just figure they can get another one if they don’t like what they’re doing or if something goes wrong with their employment.”
“It is a bit alarming, isn’t it?” I responded. “But an issue I believe is even more fundamental, is the confusion most people have about which of their assets is most important. What do you think most people would say is their most important asset?”
Once again both Jane and John answered together, “Their house.”
“You’re absolutely right – most people consider their home to be their biggest, most important asset. And it’s pretty safe to say that almost everyone has their house insured. But I disagree with that view. In fact, I think that perspective causes a serious lapse in financial judgment. A home – although definitely an important thing to have – is not the MOST important asset. The most valuable asset almost everyone has is the ability to earn their other assets. I believe – and tell me if you agree – that a person’s most valuable asset is their ability to work and make money. And yet very few have that asset protected sufficiently.”
John spoke up and said, “There you go again, helping us to see the bigger picture. When you put it that way, I can’t help but agree with you. I was surprised by the statistics you gave us, but knowing that information, it is even more surprising. Everyone should insure their best asset.”
“So then, how much insurance should they have on their most valuable asset?” I asked.
“As much as they can, of course. At least, that is what everyone does with their house,” John answered.
“I am so glad you said that John. Let me show you why. I want to show you another calculator called the Maximum Potential Calculator. I am going to use numbers for you both individually as you both are making about $45,000 a year. I am going to illustrate this until age 65. Let us assume that you will have a cost of living increase of about 4% each year.” Pointing to my computer screen I asked, “How much money will each of you potentially earn in those 41 years?”
“Wow that is a big number,” was Jane’s first comment. “Really? We are both on track to make nearly 4.5 million dollars by the time we’re 65?” Jane asked.
“Yes, that is the amount of money that will come into your life in the form of payment for your ability to work. Pretty valuable isn’t it?” I said. “There’s another important number to notice on this chart – what is projected to be your salary during the last year when you are 65?”
“$216,046. Wait, is that for real? It would be great to earn that kind of money.” John sounded a bit excited.
“Well John, let me ask you a question: will that $216,000 purchase more when you are 65 than your $45,000 salary purchases for you today?” I asked.
“Of course it will.” John blurted.
“Actually, the truth is this calculator shows the $216,000 salary you’d earn 41 years from now, is the equivalent of a $45,000 salary today.” I continued, “In fact you most likely will be able to purchase even less because of taxation.”
“That is depressing. But knowing that now can help me in the future. But what does all this have to do with our most valuable asset?” John inquired.
“The whole goal of home insurance is to replace your home if there is a complete loss. The same is true of life insurance. What is being replaced is your ability to work and earn money. In order to know how much life insurance you need, you need to estimate how much you will earn over time. Let me put this another way – what amount of money would you need in today’s dollars compounding at the same 4%, to be able to replace your ability to work and earn money? But we are getting ahead of ourselves. First, we need to look at another calculator, this one is called the cash flow calculator. Again using the same 41-year time frame we are going to use your net income ($29,250) instead of your gross income ($45,000) because the government will always get their share.” Pointing to the screen I asked, “what is the compounded value of your total net income?”
Looking for the red circle, John answered, “$7,367,704.”
“Great, but that is in dollars of 41 years from now. What we need is to know the present value of that amount in today’s dollars.” I quickly brought up a present value calculator and input the numbers. “What amount of money do we need today to make sure your ability to work and earn money can be replaced?”
“About a million dollars,” John said. After thinking a moment, John looked at Jane and said, “It looks like we each need an insurance policy for $1,000,000.”
“Yes, we do. We better do as we are learning and do the most important things first,” Jane said. Turning to me, she said, “We need to get going on protecting our family’s most valuable asset.”
“I am glad that issue is out of the way. I wanted to cover that with you before we got to your questions about purchasing a car. Like John said, we like to help our clients discover, learn and understand the whole truth about their financial environment. When you understand the whole truth, it becomes easy to know what decisions need to be made first. You two are great students and have a bright future ahead of you,” I said. “Now on to another important concept, purchasing a car….”
“Did you get the proposal we sent to you?” John asked. “You know that 0% interest loan seems like a no-brainer to me. But Jane really wanted to get your perspective before we made that purchase.” John added.
“I am so glad you did because there are a few nuggets of truth you need to understand. To start off, answer this question for me, ‘How does a car company make money?'” I asked John
With a puzzled look on his face, John answered, “By selling cars.”
With a little chuckle, I said, “You are right. But think further; why do all the major car manufacturers offer to finance your car for you? Is it possible they make money financing cars for people? In fact, the car companies make more money financing the purchase of cars than selling their cars.” I explained. “But then there is the interesting offer of 0% financing. If the financing is the major way they make money, why would they give that up?”
“I am not sure why they would, but isn’t that what they are doing with the 0% financing?” John answered and asked at the same time.
“How much does the car you are considering cost if you financed it with the manufacturer?” I asked.
“$35,000.” Jane volunteered. “Which will give us a monthly payment of $729.17.”
“Great. How much will it cost if you pay cash or finance it through an outside source?” I asked.
John beat Jane to answer, “$32,500.”
“So the car company will give you a rebate of $2,500 if you pay cash and drive off with the car. Let me show you what the car company is actually doing by using my rate calculator. “I input the numbers, using the rebate cost of the car with the SAME car payment. I then asked, “What interest rate are they charging?”
“3.68%?” Jane asked, confused.
“Yes, that is correct. By just raising the price they can call it 0% financing.” So here is the next question: should you purchase the car from the manufacturer, using your policy as collateral or should you finance it at the credit union?” I smiled as I asked them.
Thinking out loud, John said. “Well, at the manufacturer’s dealership our payment will be the same as at our credit union if they charge us 3.68%. But they have offered us a rate of 2.99%. So the better interest rate is at the credit union. I know using our policy is a great way to minimize opportunity costs.” Looking at me he then asked, “How much does it cost to get a loan from the insurance company?”
I wanted to jump up with excitement. At our first meeting, this 24-year man wanted to get rid of his wife’s policy, but now he wanted to use that policy to finance a car. “John,” I started “you are beginning to understand the real value of a whole life policy. But as I have said, a number of times, the whole truth is important. If you use your policy as collateral for a loan from the insurance company, the interest rate will be 5%.” I then waited to see what they would say next.
Again thinking out loud, but also looking at Jane, John said, “It seems to me that the credit union is the best way to go, unless I am not understanding something.”
“You are right. You have to remember that just because you have cash values doesn’t mean you have to finance everything possible using those cash values. You only use them when it is to YOUR advantage. This time, it appears the credit union is the best way to go,” I said like a proud teacher.
“Ok then, it is settled. This has been a great meeting. We will fill out an application for a $1,000,000 term policy for each of us right now. We will buy the car using the credit union as the financing tool and set up a time for our next meeting. Sound good?”
“Sounds great,” I said.
-Jason Henderson for Truth Concepts