Why I Disagree with Dave Ramsey’s Insurance Advice (Part 1)

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More than once someone has come to me, about to make a life insurance mistake because “Dave Ramsey said…”.

I admire Dave as he has done a ton of good; but regarding insurance, I have to take issue.

Here is one of Dave’s insurance commentaries which I think miss the mark.

One recent article was entitled “8 types of Insurance You Can’t Go Without”: auto, homeowner/renters, umbrella, health, long-term disability, term life, long-term care, and identity theft.  A young person with school loans and/or credit card debt needs to keep overhead low, so I hate to saddle anyone with all those premiums.  Because most people pay more into insurance than they get out of it, Larry Burkett used to say, “The cheapest form of insurance is self-insurance”, and “Don’t insure that which you can afford to pay for yourself.”  Dave promotes insurance liberally; Larry did sparingly.  I agree with Larry.

There is a very real danger to consumers to waste money on premium dollars that could be employed paying off debt and saving for future needs.  Debt free trumps well insured any day.

Dave: “You need 10–12 times your yearly income in term life insurance.  That way your income will be replaced if something happens to you.”

Mike: For those who need it most (folks with young children), Social Security Survivorship benefits are substantial. First get a good handle on how you are insured already.  Remember most pay on a term policy 20 years and throw it in the trashcan.  Using multiple-of-salary to determine amount of life insurance leads to overbuying.  Thinking through this first step more carefully saves even more than shopping for the best rate.

Dave: “What about singles with no dependents? …If you’re debt-free and have enough cash to pay for your burial, you can hold off on life insurance, but why would you? The younger you are, the more affordable term life insurance is, so there’s no reason to wait until you have a family to get insured.” [This sounds like a classic sales line.]

Mike: I recently worked with a 32-year-old new dad who had bought a 20-year level term policy eight years ago when single. Now he has an infant daughter with only 12 years left on his policy.  What he bought is not enough, he’s having to start over, so it didn’t save money but wasted it.  He should have used those premiums to pay off student loans, save for a house, or fund a Roth.  Wait till you need insurance to buy insurance.

Dave: “Whole life insurance is a rip-off!  It often costs hundreds of dollars more a month and includes a “savings” plan with a terrible return.”

Mike: I never recommend whole life, but when someone has an old cash value policy with one of the better companies, the rate of return on cash values may be quite good (4% tax-free).  Know what the cash value rate of return is before you drop it.  If favorable, consider turning it into a reduced paid-up policy and using that it as your emergency fund.  Don’t throw the baby out with the bath water.

Dave Ramsey has helped so many, but don’t blindly follow his insurance advice.  Get a second opinion.

 

Insurance Should Be Third Tier

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I just finished a case that showcased how smart people are tricked by the insurance industry. As I reflected on it I thought of a simple exercise that can keep others from falling into the same trap. I’d like to share the story and solution with you.

This client is a surgeon– a pretty smart guy. Yet he did something so inappropriate I could cry. He bought a cash value policy from Northwestern costing $3000/year. What’s wrong with that?

Sometimes (rarely) cash value life insurance is OK, so don’t automatically cash in your old policies. It depends. But this client had much debt and was eligible for a Roth he couldn’t afford to fund each year. These are two key points. They shout of the inappropriateness of cash value insurance, and the simple paradigm I’m about to share puts it in clear focus.

Here’s the paradigm. Most financial planning decisions fall in one of three broad categories: repaying debt, saving/investing, or insuring. Yet financial planning decisions being made every day are more detailed: buy this stock or that mutual fund, accelerate the mortgage or fund a 529 plan, a Roth or more in the 401k, etc. It’s easy to lose sight of the forest for the trees.

So here’s the plan. It’s worth its weight in gold. Clip it and save it and use it for the rest of your life. It will help you avoid many costly mistakes.

When confronted with a decision of where to send your precious few discretionary financial planning dollars, first step back and view the decision from a higher altitude. First put the decision at hand in one of these three broad categories:
1. Repay debt
2. Save/Invest
3. Insure

Initially don’t sweat the small stuff, don’t swallow the camel while straining at the gnats, and don’t be pound foolish while trying to be penny wise. The abundance of similar maxims testifies of this strong human tendency that trips people up. For now, simply put the decision in its general category; one of three; simple.

The agent directed his focus to preparing for death with a $75,000 whole life policy. Knock out that issue with a policy that pays after your term ends. Sound good? But it’s out of context. For this client, buying the policy is obviously insurance, category 3. He could quickly realize that’s the lowest priority and until the top two are satisfied, he shouldn’t spend extra insuring. He still had unpaid consumer debt (1) and an unfunded Roth (2), so expensive cash-value insurance should’ve stayed relegated to the back seat until 1 and 2 were satisfied.

Why are these ranked in that order? It’s as simple as asking which advances your net worth in the most surefooted manner:
1) By saving interest, debt-repayment dollars are guaranteed to increase your net worth, from day one; 1) investment dollars may do the same, depending on transaction costs and how invested (it could go down);
2) insurance dollars (for most people), decrease your net worth because transactions costs are the highest of the three and for most the insured peril does not occur.

For this client, these dynamics were extreme. His most expensive debt was at 11% interest and the cash value policy he bought, after three years’ premiums totaling almost $10k, had a surrender value of only $2000. In defense of the insurance sale, the doctor did not have this high interest debt when he bought the policy. Incriminating the sale however is that the company sells other policies building cash values much quicker. This was clearly commission driven.

No sense in cursing the darkness (caveat emptor), so how could this client have avoided this mistake? By stopping to put the decision at hand in its broad category. Insurance should be third tier in the scheme of financial priorities.

An agent will try to make it first tier… so expect it. Your emotions will also lure you to give it a higher priority than appropriate. Seldom do emotions lead well in finances.

If you relegate insurance to the back seat, you’ll make better decisions. There will be some exceptions, and that they are …exceptions, not the rule. Postpone them or deal with them a cheaper way (term insurance), but hold fast that pecking order.

What might that look like? Higher deductibles, not insuring old cars for collision, skipping dental insurance for most people, term life insurance often at smaller amounts, tinier long-term care policies or none at all, recognizing that self-insurance is the cheapest form of insurance and not insuring that which you can pay for yourself.

It’s not just that insurance is so bad, but that other options are so priority. You can’t do it all. Tenaciously keep right priorities: honor God with the tithe, be at least somewhat generous to others as you’d want done to you, avoid debt like the plague (and aggressively work to get out of it), keep a reasonable emergency fund, fund your matched 401k and maybe a Roth.  This will likely moderate your use of insurance and help you come out ahead.

Is Insurance Biblical?

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The mathematical chassis upon which insurance is built is commended by Scripture: utilizing numeric strength to meet the needs of some through the strength of others and thus level out some bumps along life’s path.

  • Two are better than one because they have a good return for their labor. For if either of them falls, the one will lift up his companion. But woe to the one who falls when there is not another to lift him up. …. A cord of three strands is not quickly torn apart. Eccl 4:9ff
  • For this is not for the ease of others and for your affliction, but by way of equality- at this present time your abundance being a supply for their need, so that their abundance also may become a supply for your need, that there may be equality; II Cor. 8:13ff
  • And all those who had believed were together and had all things in common; and they began selling their property and possessions and were sharing them with all, as anyone might have need. … And the Lord was adding to their number day by day those who were being saved. Acts 2:44ff

The goal is to meet needs through sharing, but it’s on a volunteer basis motivated by trust, obedience, and generosity, rather on a contractual basis motivated by fear and greed. It’s sort of like the difference in a wedding covenant “for better or worse” versus a prenuptial contract.

However the motivation by which insurance is frequently promoted (encouraging worry and worse-case-scenario thinking) and bought (fear and forgetting God) is not Biblical. What pleases God and testifies to the world is when this is done on a voluntary basis in faith.

Let me add an important word here about our emotions, for although fear can lead us astray, God created emotions and realizes that we are emotional creatures (“but dust” Ps. 103:14). He gives babies mothers to hold them close, he wept with Mary and Martha at the death of Lazarus despite knowing He was about raise him to life. He also gives us some very practical advice that will make us feel secure and it is primarily about debt: have none, have some reserves. Also, tithe and test Me in the process. Learn how I will meet your needs.

This is a very important distinction. The subprime mortgage crisis was not caused by too little insurance but by too much debt. Too little insurance will not be the downfall of America (in fact shrinking it would help); debt is much more likely to be our downfall. A debt-free person is stronger than a well-insured one.

God doesn’t just throw us out unclothed into a harsh emotional winter and say, buck up. He gives us very practical priorities which will strengthen us for real life contingencies that insurance never will: bringing your wife home to care for kids, losing a job, underemployment, a decline in real estate values, emergency outlays, helping a friend; as well as an “early” death, disability, or casualty loss (commonly insured events).

My beef with insurance is that it’s often a distraction from what strengthens us most, when on average it shrinks every dollar. God wants us to be secure, not merely feel secure and insurance is often more illusory than real.

One purpose of IIA is to help you avoid some of the unbiblical ways it’s promoted and bought which lead to excess. It’s easier for us to do this since we are not compensated based on how much you buy.

The High Cost of Idolatry

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Can Insurance become a form of Idolatry? Please bear with me here, if you think I’m nuts, for the point of this question is not merely esoteric. It affects your pocketbook.

Where do you look for security? Would it be more threatening to not pay your tithe or not pay your premium?

You’ve probably heard the humorous story of the man who falls off the cliff. He grabs a root near the top and as he holds on for dear life yells, “Help! Can anyone help me?” The response comes, “I am God and I’ll catch you. Let go.” After a brief pause, he replies, “Is there anyone else up there that can help me?” We smile because we relate; faith is unnatural. Man has always been reluctant to trust God. Even in the Garden, Adam got suspicious. So we make our provisions.

In I Samuel 8, Israel was led by Samuel, God’s priest. However they wanted to be like the other nations and have a king to “go out before us and fight our battles”. They wanted something more concrete and visible; they wanted something that would make them feel safe; they wanted to do it the way those who did not know God did it; they wanted to walk by sight rather than faith. God didn’t like that, but He allowed it. Then He explained a very important consequence.

This king will “take your sons and make them serve, He will take your daughters … He will take the best of your fields and vineyards and olive groves … He will take a tenth of your grain and of your vintage … Your male and female servants and the best of your cattle[c] and donkeys he will take … and you yourselves will become his slaves.” You can have him, but the cost is high. One day you will regret it.

A major part of smart insurance buying is choosing an amount. While folks will agonize over getting the best rate, they often overbuy in amount. (Straining at gnats and swallowing a camel.) This is exacerbated in the typical sales context where there is no incentive to carefully bring out how one is insured already. If you forget God, insurance can become an idol, and you will tend to overuse it. Larry Burkett asked, “If you die, does God die with you?”

Most insurers are inefficient financial intermediaries. They have a very high cost of acquiring business, state premium taxes, and then like any corporation have overhead, profit to stockholder, etc. Most people pay more in than they get out.

We often compartmentalize our finances when choosing an amount of insurance, but it’s usually smart to carefully consider other resources that might help us. Would my wife work, might she downsize the house, is there a future inheritance, Social Security? Then use insurance sparingly rather than liberally.

Fear or Faith – What’s Motivating You?

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When we have a problem, awareness is the first step to cure. Consumers have a problem. As much as some may point the finger at insurance sales practices, the fact is insurance consumers are ripe for manipulation without a sales agent.

Fear is rooted in the core of every human heart and it’s the invisible foundation upon which is built all those insurance company buildings that punctuate most large city’s skylines. Sure there are unpredictable events that occur on earth (that’s part of the problem too), but those are events over which we have little influence. It is our emotional response to those possibilities that make us buy poorly.

Ever since that one act of original sin, that reluctance to trust and rest in God alone, man has been fearful. (Genesis 3:10) It was a result of the curse. Our fearful nature makes us very vulnerable to mistakes. Here are a couple of examples.

Our fears tempt us to focus on worse case scenarios, “What if?” and we list out all the potential problems. But if Jesus emphasizes, “I will never leave you or forsake you”, or “don’t worry about tomorrow for tomorrow will care for itself”, then worse- case-scenario thinking must not be of Him.

Fear can be good if it leads you in the best direction, but insurable fears are often distractions from the tried and proven path to financial freedom.

Good fears:

Fear God and honor Him with the tithe. He is your provider and protector.

Fear debt and recognize it as enslavement. Get free.

Fear the fact that you don’t know what tomorrow holds. Have an emergency fund.

Misleading fears:

So we buy a life policy, but mom gets pregnant and needs to come home from work (it helps little); we buy a disability policy, but get laid off; we buy dental insurance, but the transmission goes out. Due to the narrow nature of insurance it often doesn’t help out, whereas God’s priorities are broader and would have helped out with all three.

We are born with embers of fear smoldering within us. Commissions tempt agents to fan those embers. This negative synergy wastes a lot of dollars.