Insurance: Build Your Future's Safety Net

Physician's Money Digest, April15 2003, Volume 10, Issue 7

It's well documented that doctors canbe notorious procrastinators when itcomes to income tax preparation orplanning for retirement. Such is not thecase where insurance is concerned. Muchhas been written on the subject, so theimportance of insurance is well understood.What is less understood, however,is that there are different types of insurance,all equally important, and all needingto be well coordinated.

"Home, auto, and umbrella liabilitydon't touch upon any professional liability,"explains William R. Driscoll, CFP®, ofDriscoll Financial. "A lot of people don'tunderstand that. It's important to approachboth personal and professionalliability with the same vigor."

For example, on the personal side, lifeinsurance protects your family in theevent that you're no longer there to providefor them. Disability insurance providesincome protection in the eventthat you're unable to work. Both products,however, are also important from aprofessional standpoint, especially forphysicians who are partners in or whorun a practice. Neglecting to use them assuch could leave you financially and professionallyvulnerable.

1. Life Insurance

A physician's career goes throughstages. In the early years of joininga practice, for example, a physicianmight incur considerable debt inthe form of carryover from medicalschool loans as well as the cost ofbuying their way into an establishedpractice. Still, if the physician has afamily, there's a need for protection.

"That time period in a physician'slife can be addressed through termlife insurance," explains DavidMalkin, CLU, ChFC, principal of NewJersey Life & Casualty Associates(www.njlc.com). "Early on, physiciansare growing their practice, payingoff debt, and they don't have alot of disposable cash. So the thingto do is buy term life insurance toprotect the individuals they careabout. And that's what term lifeinsurance is, pure protection."

Term life insurance policies can bepurchased for 10-, 15-, or 20-yearperiods, during which time premiumsremain level. At the end of thepolicy period, it's likely that a physician'sfinancial situation will bemuch more stable. That's when it'stime for a physician to purchase permanentlife insurance.

Malkin explains that there arebasically 3 types of permanent lifeinsurance: basic, which offers no riskfor the policyholder; universal; andvariable universal, where risk is shiftedfrom the insurance company tothe owner of the policy in terms ofhow premiums are invested.

"Universal life is interest-sensitive,"Malkin says. "It's like havingyour premium going into a moneymarket fund, with the expenses andcost of insurance deducted fromthat fund. If the interest rate that'sbeing credited is greater than theexpenses, it becomes cash value andgrows each year." Variable universallife, on the other hand, isn't interest-sensitive; it's sensitive to themutual fund investments that thepolicy owner chooses. "The cashvalue in the policy will reflect howfortunate the policy owner is inmaking investment decisions."

On the business side, life insurancecan play an equally valuable role. If aphysician is a partner in a practice, aproperly funded business continuationplan—including elements such askey person insurance and buy/sellarrangements—is critical. And life insurance,according to Roy Patterson,JD, CLU, ChFC, advertising and salesconsultant for Hartford Life, is thebest way to fund that plan.

"One of the most important partsof a buy/sell arrangement is stipulatingthe fair market value of thepractice through an independent,third-party appraisal," Patterson explains."If the physician-partnersdon't do that, the IRS will, and theIRS valuation will be a lot differentthan that of the physicians. The factthat you have a life insurance contractwith a death benefit comparableto the practice's fair-marketvalue, supports the contingent thatit's a legitimate value."

In short, in the event of an untimelyor premature death of 1 of thephysician-partners, a business continuationplan that is well fundedthrough life insurance is going tohelp the surviving partner or partnerscontinue the business. It will also alleviateany potential burdens from thedeceased physician's spouse or heirs.

2. Disability Insurance

Physicians—in particular, certain specialists—have worked hard to developtheir skills. The thought of not beingable to use those skills to earn a living fora period of time, or possibly forever, isunthinkable. But it happens, and that'swhy disability insurance is so important,not only to the individual physician, butalso to their practice. The problem is, it'snot always easy to purchase it.

"Not only do you need to be healthy,but disability carriers don't want toover-insure," Malkin explains. "Theincentive is for the insured to go back towork, not to remain out of work, so youcan't insure 100% of your income. Andwith some specialties, many carrierslimit how much they'll pay and for howlong. So it's very important to have aqualified insurance advisor who knowsthe marketplace and can obtain quotesfrom several carriers."

Equally important is the inclusion ofthe "own occupation" rider in a disabilityinsurance policy. This provision statesthat if you can't perform the duties ofyour occupation, and those duties haveto be specifically defined, the insurancecontract will pay off. "If you're a physician,you're well trained to do lots ofthings in the medical profession," suggestsCharles Brown, CIC, LUTCF, vicepresident at Baker Welman Brown. "Butif you're a surgeon, you probably don'twant to go back to being a family practitioner.It's something that could easily bedone if you had a limited disability, but isthat what you want to do? That's whyhaving the ‘own occupation' clause is animportant consideration."

In addition, make certain to check howlong the own occupation rider applies.Some carriers will limit the time period inyears or until you reach a certain age. Addthat to your checklist of what's importantin a disability insurance contract.

Disability insurance is also an importanttool from a business perspective. Keypersondisability insurance can enable avery active practice to address businesscontinuation expenses in the event of atemporary or long-term loss of a physician."A practice may have contractualrelationships with large medical centers todeliver a certain level of care," explainsJohn Finnegan, CIC, president of Macomber,Farr and Whitten(www.maineinsure.com).The payout from a key-persondisability policywould enable a practice tooffset the loss of a physicianby bringing in someonewith similar skills.

A critical point to remember,Malkin says, is that the premiumson a disability insurance policy shouldbe paid directly by the physician as after-taxdollars. In that way, the benefitreceived is income tax-free. If the practicepays the premium and deducts it as a businessexpense, the insurance benefit becomestaxable, and net incomewould be reduced accordingly,depending on thephysician's tax bracket. Thisalso allows physicians thebenefit of purchasing less insurance,thus paying lowerpremiums, because the paymentsreceived are tax-free.

3. Long-Term Care

When you're hot, you're hot. Andmost insurance professionals willagree that right now, long-term careinsurance is heating up.

"It used to be that individuals had acertain period of time, about 3 months,to get rid of their assets, and thenMedicare would basically pay for longtermcare," Brown says. "Not anymore."

Long-term care insurance is designedto cover home care, nursing home care,and assisted living facilities. Brownexplains that there are basically 2 typesof long-term care policies. One type isstructured like a health insurance policy,paying a set amount in benefits for aspecific period of time. There are alsoseveral companies offering what is basicallya life insurance policy that can beused to pay for long-term care.

"There's always a chance you won'tneed long-term care, that you could diein a car accident, and the money you'vespent in premiums is gone," Brownsays. Some carriers are now offering lifecontracts that will work as life insurancepolicies and pay proceeds to a benefi-ciary if the insured dies. However, if theinsured goes into a nursing home orneeds home health care, it will work asa long-term care policy and make paymentsaccordingly. "A lot of people likethat," Brown adds, "but sometimeswhen you buy 1 policy that's designedto do 2 things, it won't do either onevery well. It's important to compare."

Long-term care insurance is not justfor the elderly. Case in point: Malkin hasa good friend, age 49, who recently contracteda case of Lou Gehrig's disease."There is no reversing this disease,"Malkin explains. "First he'll want homecare, but ultimately he may need to gointo a nursing home. Any type of traumacould put somebody in a position wherethey need full-time care."

Changes in family structures havealso brought about an increased needfor long-term care insurance, Brownsays. Many individuals don't live close torelatives, so they lack a support structure.People used to start consideringlong-term care in their 60s; now theylook into coverage in their 40s and 50s.

"People are considering long-termcare insurance at a younger age becausethat's when their earnings are higher,"Brown explains. "Some carriers will letyou pay up on a policy over a set numberof years, usually around 10, and nothave any more payments left. Peoplelike this option because they can pay forthe policy while they're earning more,and have a safety net when they retire."

Brown also suggests that physicianstalk with their accountants or financialadvisors because there are different taxramifications, depending on how thelong-term care premiums are paid.Physicians who have their own practicecould pay the premiums through theircorporation and deduct them as ahealth care business expense.

4. Homeowner and Auto Insurance

They may seem insignificant, but auto andhomeowners insurance areimportant components of awell-rounded package.

Driscoll says that whenhe looks at insurance coverage,he tries to anticipatehow he could best mitigatea catastrophe. In the case of homeownersinsurance, there are 2 potentiallyproblematic elements: structure and liability.The latter is of greater concern tohigh-income individuals.

"On the liability side, it's really a 2-stepapproach that relates to auto as well ashomeowners insurance," Driscoll pointsout. "Most carriers peak liability coveragebetween $300,000 and $500,000. That'snot really a lot for somebody who mightbe making that much each year." He suggeststhat physicians add a personal liabilityumbrella on top of their home andauto insurance, as well as other coveragethey may have for vacation homes andboats. The umbrella will providean extra layer of liability,typically $1 million andup. "Some companies willstart coverage at $500,000,but practically speaking, youmight as well just go for themillion or more because theextra cost is nominal, butthe peace of mind is phenomenal."

An additional element of the personalliability umbrella is that it can include specifictypes of liability such as slander, libel,and defamation of character. By adding apersonal liability policy, you're picking upadditional, broader liability coveragethan what the underlying policies have.

As for coverage on the structure of ahome, Driscoll says that as long as theunderwriting guidelines of the insurancecarrier allow it, make sure your policy hasa guaranteed or 100% replacement-costcoverage. Essentially, the coverage statesthat if you insure your home per insurancecompany guidelines and by somequirk the cost of rebuilding is greaterthan the actual limit of liability for thedwelling, the insurance carrier will pickup the difference.

"An inflation adjustment is includedannually, usually between 3% and 5%,and you have to accept it in order tomaintain the guaranteed replacementcostrider," Driscoll adds.

What's a good strategy for deductibles?Driscoll suggests going as high asyou can handle. The reason, he says, isthat you shouldn't file lots of claims forsmall amounts, because multiple claimswill likely threaten your ability to retainthe policy. And if you're not going to fileclaims for small amounts, then it doesn'tmake sense to have a low deductible thatwould only encourage you to file them.

"Every year or so, reevaluate yourinsurance coverage," Driscoll says. "Life'scircumstances can change dramatically.As children come along, or additionalliabilities are added in the form of realestate or additional cars, the potentialfor an accident increases because youhave more exposure."