Underinsurance risks unravelling the best laid retirement plans

One of the biggest threats to a baby boomer’s retirement plans could be the underinsurance of their adult children. Kevin Goss explains why all family members must be adequately insured.

For years, the financial services industry has focused on the advice needs of the baby boomer generation. To a large extent, the growth of our industry has depended on it.

Now it’s time for the baby boomers to commence their transition to retirement. In fact, the first wave of boomers has started retiring already.

So how well have we, as an industry, prepared them for what lies ahead? 

To date, much of the advice directed at baby boomers has focused on ensuring they will have the right level of pension income for a comfortable retirement. We’ve also helped many of them protect themselves, and their estate plans, with life insurance.

Now, as they reach the pointy end of the financial planning journey, they’re entitled to feel like they’ve done everything they can to prepare for the next 20 or 30 years.

Unfortunately, one major threat that remains that can hijack even the best-laid retirement plan: a financial crisis caused by the death or disability of their adult children.

The flow-on effect of underinsurance

A lot has been said and written about how Australia’s young families have inadequate levels of life insurance. But let’s take a look at how that underinsurance might play out in a real-life situation.

Sophia, a 32-year-old child care worker, gets diagnosed with multiple sclerosis. After coming to terms with the horrific news, and gaining an understanding of the treatment plan she has in front of her, Sophia sits down with her parents to discuss her financial position.

Sophia’s parents discover their daughter only has the minimum level of death and total and permanent disablement (TPD) insurance inside her super fund.

She has no trauma cover, and her employer doesn’t provide default salary continuance cover. Her private health insurance lapsed after she neglected to pay her premiums, and she never got around to renewing it.

Like most parents, Sophia’s mum and dad want to help their daughter in any way they can. That includes inviting her to move back into the family home, and helping her cover her ongoing medical expenses. 

In an instant, Sophia’s parents’ retirement plan is turned upside down. And despite the fact they had all of their own strategies and insurances in place, there’s absolutely nothing they can do about it.

The financial impact

Let’s assume Sophia’s parents have $510,000 in superannuation and $20,000 in liquid savings. They are both retired and over the age of 60, and they had budgeted on spending $45,000 per year between them. 

Taking into account any age pension, an inflation rate of 3 per cent and an assumed 5 per cent investment return, their money can be expected to last 27.7 years. 

Now let’s imagine they had to spend $400 per week on supporting Sophie over the next 20 years. 

If this were to happen, Sophie’s parents could only maintain their $45,000 per annum of retirement expenditure for 9.9 years – less than half the time they had planned for.

High stakes for families

It’s one thing to imagine your client having to support an adult child who suffered a debilitating accident or illness. But imagine that child also had a partner and children, and they were the main breadwinner in their household.

The National Centre for Social and Economic Modelling (NATSEM) estimates it costs $537,000 to raise two children to age 21.

When you consider the average superannuation balance for those aged 55 to 64 in 2007 was only $141,900 according to the Association of Superannuation Funds of Australia, the ability for many retirees or pre-retirees to take on that extra financial responsibility is clearly limited.

According to the Australian Bureau of Statistics, grandparents are already the largest providers of informal care in Australia – as they help their adult children overcome rising child care costs, and the need for many families to access dual incomes.

But caring and babysitting is one thing. Taking guardianship over grandchildren at that stage of their lives is probably the furthest things from the minds of grandparents. It’s also a scenario few will be financially prepared for.

Underinsurance among Gen X and Y 

As an adviser, you probably won’t be surprised to hear that underinsurance is particularly bad among young families – 95 per cent of which have insufficient cover according to the Lifewise/NATSEM Underinsurance Report.

Part of the reason for the enormous insurance gap in this age group is the fact that many people in their 20s and 30s are carrying a considerable amount of debt. 

Even if they haven’t started a family yet, the children of baby boomers have grown up comfortable with the idea of using debt to achieve their goals.

And to get into the housing market, they often have to take on considerable mortgages, which can take a decent bite out of their incomes. 

Of course, all of this is sustainable when they’re working full-time, or accessing two incomes. But without adequate protection for their incomes, debts and dependants, many people in their 20s, 30s – and even 40s – are highly vulnerable to sickness and injury. 

According to the 2010 IRESS Life Risk Report, a 32-year-old female has a 23 per cent chance of making a trauma, TPD or death claim by the age of 65.

She also has a 47 per cent chance of suffering a disability that will keep her out of work for three months or more.

The question is – do the adult children of your baby boomer clients even know how precarious their financial position is? Do they realise what the absence of a personal life insurance strategy could mean for their parents’ retirement plans?

Protecting clients by protecting their children

The intergenerational consequences of underinsurance have traditionally fallen outside the scope of financial advice. 

However, when you consider how easily a financial crisis for adult children could undermine a retirement plan, it’s a conversation that’s worth having with your baby boomer clients. 

Raising this topic with your clients can help spark an important conversation between them and their adult children. At the very least, this can get Generations X and Y thinking about the need for life insurance – something they may not have done already.

From an adviser’s perspective, the introduction of life insurance to the next generation can also have important implications for your business.

The dangers of a weighted business

As I mentioned, baby boomers have driven the growth of our industry for decades. And while some advisers are already targeting Generation X and Y with some success, the majority of advice practices would still have a client base that’s heavily weighted towards baby boomers. 

What does this mean for the sustainability of our industry, and the long-term value of your business? When all the baby boomers who want financial advice have received financial advice, where will our next wave of clients come from?

Your clients’ children are potentially one of your most valuable referral sources. With the level of trust you’ve built with their parents, you would make a natural choice for young adults looking to investigate their options.

By encouraging your clients to talk to their adult children about life insurance, you can help break down the ‘taboo’ nature of this topic. Not only will this be great for the financial security of the next generation, it will also help you safeguard everything you’ve been working towards for their parents.

Kevin Goss is head of insurance sales at OnePath.