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Practice Management

Insuring Versus Budgeting: What Some Clients Don't Get

May 29, 2014

When it comes to planning for retirement, advisors should tell their clients to budget for likely events and insure against unlikely events.

This Practice Management article is intended for financial advisors only (registered representatives of broker dealers or associated persons of Registered Investment Advisors).

Americans have numerous problems in planning for retirement, but one that is seldom discussed is a common confusion of budgeting versus insuring.

This is according to finance professor Moshe Milevsky, who spoke earlier this year at the annual Bank Insurance & Securities Association conference in Hollywood, Florida.

People tend to underestimate the chances of dying from likely causes, like heart failure or cancer, while overestimating the chances of dying from unlikely causes, like murder, Milevsky said. In one survey, fully 10% of people thought they would be murdered when specifically asked how they thought they would die, he said.

But the difference between "likely" and "unlikely" in this scenario is important, because you should budget for the likely events and insure against the unlikely, Milevksy said. As one example, he said that you might be in a car wreck and get sued for $1 million, but you don’t set aside that much money just in case. You insure against that unlikely event.

These factors contribute to Milevsky’s conclusion that it’s misleading to tell clients they may live to be 100 so they need to save a lot of money for that scenario. Instead, he said that advisors could better help clients by insuring with a combination of guaranteed income products.

He offered one way to start the conversation based on an interesting experiment he previously conducted. Sixty people were given poker chips that represented their nest egg. Next, he gave them six boxes labeled as retirement ages (70–75; 75–80; and so on, until 95–100) and had them dole out portions of their 60-chip nest egg.

No matter how they allocate their "savings," having clients do this kind of exercise is an easy way to start an important discussion about retirement and death without using phrases that tend to stop a conversation, such as "legacy" or "longevity risk."

And because there is so much uncertainty surrounding retirement, Milevsky said, clarifying clients’ misunderstandings is crucial for any meaningful advisory relationship.

--Lee Conrad

Lee Conrad is a bank investment consultant.

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Insuring Versus Budgeting: What Some Clients Don't Get

When it comes to planning for retirement, advisors should tell their clients to budget for likely events and insure against unlikely events.

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Inspired by our mission, we are committed to creating long-term financial security for our clients, empowering our people, advancing our communities, and ensuring a vibrant future for our planet.