One common financial disaster that can result in a significant loss of assets is a civil lawsuit. Lessons #5 and #6 will offer almost two dozen specific solutions to help mitigate litigation risks. Though malpractice lawsuits are a significant risk for physicians in today’s society, they do not pose the most significant risk to one’s wealth if proper insurance is in place.
This Lesson will explore those additional—and more devastating—financial disasters that must be addressed if you wish to achieve and maintain wealth. These risks include both health-related and financial events. More specifically, this section of the book will teach you how to:
· Protect your family from an unexpected death
· Keep paying your bills even if you can’t work due to disability
· Handle long-term care expenses before they arise
· Make sure you don’t run out of money in retirement
· Avoid healthcare and insurance threats
· Avoid employment threats
· Obtain insurance to protect against business and personal risks
Protecting Your Family From an Unexpected Death
The emotional distress caused by the premature death of a loved one cannot be exaggerated. Long before the psychological scars begin to heal, financial devastation for surviving family members may begin. If proper planning is not undertaken, the value of the medical practice, which could be a saleable asset to help the family, may be lost.
There are various obstacles to successful financial planning in the case of unforeseen death simply because none of us knows when our time will come. The 2003 National Safety Council’s study on deaths (http://www.nsc.org/lrs/statinfo/odds.htm) and the 1999 US Census Bureau’s Statistical Abstract of the United States, which surveyed the year 1997, reported the following statistics in regard to unforeseen death types:
· There is a 1 in 24 chance (4.17%) that you will ultimately die from a stroke
· There is a 4% chance you will die from an accident or the adverse effects of one
When you add these two risks together, you can see that approximately 1 in 12 people will die from an unforeseen risk. In addition, a number of people will find out they are terminally ill and their families will not be able to purchase personal life insurance to help them manage the financial burden created when they pass away.
Another obstacle to successful financial planning in the case of unforeseen death is that most people don’t enjoy contemplating, let alone discussing, the death of a family member. As a result, few families are financially or emotionally prepared for this traumatic event.
In this chapter, we will discuss two financial losses that can occur at the time of death:
· Loss of income
· Loss of an estate (via estate taxes and probate costs)
Physicians and their families can use particular insurance planning strategies to efficiently manage the risks which often result from the premature death of a family member. In addition, proper legal documentation must be created to allow for efficient handling of financial matters at death—including offering the executor of the estate the legal power to effectuate a transfer prior to the estate going through probate. If there are unnecessary delays in this process, the patients will seek another practitioner, thus diminishing the value of the practice further. This chapter aims to teach you how to protect wealth from the death of a patriarch or matriarch. Let’s explore how this can be done.
A key to successful planning is an ability to put one’s fear of death aside and focus on the financial impact a death may have on a family. The first financial impact of death, especially for younger families, is the lost income. Once a father or mother has passed away, they obviously will not earn any more income. If the family hasn’t met all of its saving goals (most don’t until they are well into their fifties), there will be a significant financial strain from the death. The key to maintaining wealth is making sure that no financial catastrophe wipes out the family. To show you how significant this loss of income can be, consider the following.
The present value of twenty years of lost income for the Average American family (with $45,000 of annual income) is approximately $636,000. That means that, at the time of death, the family would be in the same financial situation if they had 20 years of income OR had a lump sum of $636,000.
For the family of a physician who earns $300,000 per year, the present value of twenty years of lost income is over $4,200,000. For the family of a very successful specialist who earns $1,000,000 per year, the present value of 20 years of lost income is $14 million. The simple estimate implies that a family needs approximately 14 times the annual income of the breadwinner to replace twenty years of lost income. If you have a younger breadwinner or a breadwinner who just intends to work 30 more years, the multiple used to approximate the present value of future income is 18 times one year’s income.
What these examples illustrate is that a family needs life insurance in the amount of at least 14 times the annual income of each wage earner just to keep them on track to meet their financial goals (assuming that their current earnings were keeping them on track before the death). Also, this estimate assumes no adjustment for inflation. Over twenty to twenty five years, the value of a dollar is reduced by 50%. For that reason, you could estimate that a family needs between 14 and 28 times one year’s after-tax salary to replace twenty years of income. Do you have enough life insurance to protect your family and leave them in a position to meet their goals if you were to die?
In addition to lost income, the practice asset will be lost if proper estate planning doesn’t establish a trustee with a power of sale. This is the best possible option since a power of attorney expires upon death in California and the agent or executor would have no authority to sell after death. The asset value (of the practice) will be significantly diminished or lost altogether if the sale needs approval from the court. Proper estate planning and a well-crafted and documented exit strategy (like a buy-sell agreement, see Chapter 5-5) to sell the medical practice are key elements to have in place long before an unexpected death occurs.
Although Lesson #9 focuses on the most common estate planning tools Doctors should utilize, it is important for us to mention the impact an unforeseen death can have on an estate in this chapter. In particular, the second most significant financial disaster that may occur after a premature death can be the decimation of the estate through taxes and fees.
For example, if the sudden death involves the loss of a husband and a wife (or the second of the two of them passes on), there could be significant estate tax liabilities. You will learn in Lesson #9 that the death of the second spouse in a family with a net worth over $1,000,000 could result in estate taxes of approximately 50% (and taxes of up to 75% on pensions and IRAs). Estate taxes and unnecessary probate costs can throw a wrench into a family business or real estate portfolio. If there is valuable family real estate or a family business, these assets may have to be sold to generate liquidity to pay the tax bill. The most financially astute Doctors never let taxes or laws dictate when they sell their assets. They make sure that they have adequate liquidity so they can wait out poor sellers’ markets and never are forced to have a fire sale. This is a philosophy you have to adopt as well if you want to protect your family.
Many clients use life insurance to preserve their estates. The intelligent use of life insurance has helped astute families avoid financial disasters and maintain their level of affluence from generation to generation. Conversely, many Average Americans with less savvy financial planning strategies have lost valuable assets through the combination of poor planning, unlucky timing of deaths, and unexpected taxes. Because we don’t know when we are going to die, and certainly don’t know whether it will be a good time to sell assets when we do die, we have to rely on insurance policies to give our families the financial flexibility to withstand poor markets that may exist when we may unexpectedly pass away. This, and many other points, will be discussed in greater detail in Lesson #9.
Since our surviving family members are unlikely to be able (and possibly unwilling) to sup¬port themselves in the event of our premature deaths, we have to consider ways to protect our families. The easier way to do this is by purchasing the right life insurance policy. Since life insurance is cheaper when the applicant is younger and healthier, and is often unavailable once the applicant develops serious health issues, we strongly suggest you secure life insurance at as early an age as possible. Before you get upset at the idea of purchasing life insurance, you need to understand how this can benefit you and your family.
You will learn in Lesson #5 that many states offer complete asset protection of the cash values of life insurance policies. Even California, which generally has creditor-friendly laws, offers some protection to the cash value of life insurance policies. You will learn in Lesson #9 how life insurance is an important piece of the estate planning puzzle. In Lesson # 8, you will learn why the wealthiest Americans invest as much as they can into life insurance policies and how this strategy increases their after-tax investment returns significantly over those returns of mutual funds or most managed investment accounts. From this chapter, you need only understand that life insurance is the only way to protect your family from the financial disaster of a premature death. For those of you who have partners in your medical practice or outside businesses, the next Lesson will explain how devastating a death can be to a business, the partners, and the partners’ families. We provide you efficient strategies for dealing with this risk.
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