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Do Federal Employees Need Life Insurance During Retirement?
Do federal employees need life insurance after they retire? Most employees have a need for some life insurance coverage while they are working -- for example, income protection for dependents and to pay the balance of a large debt such as a mortgage in case of an untimely death. But as retirement gets closer, some if not all of these reasons for having life insurance go away.
Many in the insurance industry would disagree that life insurance is not needed during one's retirement years. Certainly, there are retiring employees who are carrying a mortgage into retirement and want to make sure their mortgage will be paid off using life insurance proceeds in the event they die before their mortgage is paid off. Along with an uncertain economy, many individuals today are seeking ways to build up savings and protecting loved ones during their retirement years. But as explained below, life insurance should not be a substitute for a survivor annuity from a federal employee's CSRS or FERS annuity.
Unfortunately, there are some life insurance professionals who often pitch life insurance to older individuals as a pension supplement, an investment or an estate-creation tool. But since most federal employees by the time they retire have a fairly good size estate with their CSRS or FERS annuity, their Thrift Savings Plan (TSP), IRAs and other savings and investments, they should not need life insurance as a means of building a savings "nest egg" for loved ones.
It is true that life insurance can be an effective tool as an estate planning or charitable giving strategy for wealthy individuals. For example, death benefits from a life insurance policy can be used to pay federal and state estate taxes that would otherwise have to be paid by selling investments or liquidating assets at a discount.
But for most federal employees, buying life insurance during the years close to their retirement date or carrying a large amount of life insurance into retirement is likely unnecessary.
The following are some considerations for federal employees who are getting close to their retirement with respect to their life insurance needs during retirement.
- Keeping full Federal Employee Group Life Insurance (FEGLI) "Basic" coverage during retirement results in a nearly 700 percent increase in premium costs. Those employees who are enrolled in the government's FEGLI group insurance plan will pay significantly more in FEGLI premiums if they choose to retain their full amount of FEGLI coverage.
- Term life insurance bought from a private life insurance company is increasingly more expensive as an individual gets into their mid-to-late fifties. This assumes of course that the individual can qualify for life insurance by furnishing evidence of insurability, such as having the insurance company check their medical records and perhaps going through a medical examination. For example, a healthy 40 year old male can buy $500,000 of a 20 year "level term" life insurance policy at a cost of $500 per year. That same individual could pay $6,000 a year for the same coverage if it is bought at 65.
- Cash value life insurance is actually more expensive than it appears. Cash value life insurance policies combine a pure death benefit- term insurance- with an investment account. Policyholders pay the premiums on their policies each year and the insurance company deducts fees, commissions and the cost of insurance from the premiums. The problem is that with a cash value life insurance policy the premiums are "front loaded", meaning that most of the premiums paid in the early years of the policy are paying for the pure death benefit, leaving little of the premiums paid in the early years of the policy to be invested and subsequently grow.
- Cash value life insurance is a costly investment. Sale commissions and fees can consume almost all of the premiums paid in the first year. High annual costs can offset much of the policy investment income earned in subsequent years of the policy. Moreover, when individuals invest in "open ended" funds, the funds are required by the Securities and Exchange Commission to disclose their fees on an annual basis. This makes it difficult to find out how a cash value life insurance performed as well as to determine the cost of the insurance and other expenses.
Life insurance agents typically show illustrations of how much a cash value policy will grow over the years. If the growth estimated is overly optimistic and the actual growth is lower than illustrated, then the annuitant may be forced to contribute higher premiums in later years. This could end up being a financial challenge to many annuitants.
- Life insurance as a substitute for a CSRS or FERS survivor annuity. For years, some life insurance agents have advised and encouraged federal employees nearing retirement to elect to take their CSRS or FERS annuity as a life annuity that will end at their death, instead of electing a reduced annuity which will provide for a survivor annuity -- usually paid to a spouse - at the time of their death. The survivor annuity, as much as 55 percent of what the annuitant was receiving at the time of death, would continue over the life of the survivor annuitant.
The monthly savings resulting from a life annuity with no deduction for the cost of a survivor annuity would be used to buy a life insurance policy. At the death of the annuitant, the insurance proceeds would be paid in a lump sum payment to the surviving annuitant. If this sounds rather simple, it is not. In order to make that strategy work, one would need to estimate the value of the annuity payments that the survivor annuitant would forfeit, and buy enough life insurance to replace that amount.
If a CSRS or FERS annuitant elects -- with the written notarized consent of their spouse not to give a spousal survivor annuity -- then at the death of the annuitant a non-federal employee spouse would lose the government's health insurance benefit, the Federal Employees Health Benefits (FEHB). While some insurance agents are aware of this, they choose not to mention or ask this of an annuitant. This is not surprising given that the insurance industry does not profit when an employee elects a full survivor CSRS or FERS annuity.
About the Author
Edward A. Zurndorfer is a Certified Financial Planner, Chartered Financial Consultant, Chartered Life Underwriter, Registered Health Underwriter, Registered Employee Benefits Consultant and Enrolled Agent in Silver Spring, MD -- and the owner of EZ Accounting and Financial Services, an accounting, tax preparation and financial planning firm also located in Silver Spring, MD. Zurndorfer is also is an instructor at federal employee retirement seminars throughout the country and writes numerous columns and books on federal employee benefits.