Think twice before substituting insurance for survivor benefits
The pitch can be so persuasive. "Maximize" your pension by foregoing PERA’s Survivor Options and, instead, protect your loved one by purchasing life insurance. It is an alternative that should be looked at critically—it often doesn’t work.
One thought to keep in mind—all of PERA’s retirement benefit options are actuarially equivalent. They are designed to pay out the same amount of money over your lifetime and that of the individual you choose as your survivor. Since the combined life expectancy of two people will always be longer than for one, the reductions for our Survivor Options are calculated so they distribute the same total benefit over time as the Single-life Option. Any life insurance policy sold as equivalent, or better, has to have a built in margin of profit for the insurance company and the agent selling it. There is no profit margin for PERA should you select a Survivor Option over a Single-life pension.
Comparing apples with apples
Just because an insurance policy proceeds may replace the monthly income that would be provided by a Survivor Option today does not mean it will do the same 10 or 15 years from now. You see, PERA retirement benefits, including survivor benefits, increase over time. Every year PERA retirees see their benefits increase. If there is an inflation component attached to the insurance policy, it will come at a price.
Also, many insurance agents are not familiar with PERA’s pensions. In addition to the automatic annual increase, there is also PERA’s automatic "bounce back" feature. Unlike many other annuity plans, choosing a Survivor Benefit option with PERA does not always mean a lifetime reduction for the retiree. Should your designated survivor die before you, the amount of your benefit automatically bounces back up to the Single-life benefit amount for the remainder of your lifetime. That means any advantage paying insurance premiums may have over the reduction for a survivor option would disappear upon that person’s death.
What kind of insurance?
If someone is proposing that you purchase term life insurance as an alternative to our Survivor Options, what happens when you reach the end of the policy term? Renewing the policy will probably require a significantly higher premium. Then there is no guarantee that 10, 15, or 20 years from now when the policy expires you will still be insurable. Our Survivor Options are all lifetime benefits. By definition, term insurance is not.
If the policy being proposed is a universal life or variable life product, what is the value of the policy if interest rates fall or there is a downturn in the market? It may result in a smaller benefit or require larger premiums to maintain its value. If the beneficiary annuitizes the policy when interest rates or the value of the policy is down, it may not generate the income he or she may have expected when the policy was purchased.
Does that mean it never works?
Not necessarily. Each case should be considered individually. If the designated survivor is significantly younger than the PERA member, perhaps purchasing insurance is a viable alternative. However, for a 60-year-old member, a survivor would have to be 26 years younger before the reduction under the 100 percent Survivor Option reaches 30 percent—It never reaches 40 percent, no matter what the age of the survivor.
An insurance agent will show you the advantages of Pension Maximization, but you may not be told the entire story of how it may impact your survivor’s financial security.
Before considering insurance as an alternative to a lifetime Survivor Option, discuss the matter with a disinterested third party, such as an accountant or financial advisor.
You’ve earned your PERA pension—a benefit that will continue for your lifetime. It can also provide your survivor with the security of a benefit he or she cannot outlive. Can Pension Max promise the same?
For additional information on our pension options and Penson Maximization, you may wish to read this exerpt from our Preretirement Workbook.