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Universal Life Insurance – Part 2





Continuing from yesterday's Universal Life Insurance article (Part 1), Ed Rempel now explains the various disadvantages of Universal Life Insurance.

So, do we NEED universal life insurance? The main life insurance need most people have is income replacement. If you have anyone that is financially dependent on you (your family) and you want to know they will be okay if you die, you probably need to have some life insurance to replace that part of your income that they would need to be okay.

The need for income replacement goes away with time, though. When you retire (we call it being “financially independent”), you can live fine without working. By then, your kids are usually adults and are no longer dependent on you. Your spouse will get your investments and much of your pension, so most people have little or no income replacement need once they retire.

What life insurance do you need after that? Here is where an insurance salesperson often needs to “create” a need. The main needs usually used are taxes on your estate and avoiding probate fees.

If your estate is mostly illiquid assets that your kids will want to keep, such as a cottage, then taxes on your estate are a problem. You give your kids the cottage, but your estate first needs to pay the capital gains tax, which can be a lot. If you have no investments, then they can only pay it by selling the cottage.

For most people, however, your main assets are your RRSP’s and your house (which your kids won’t keep). So your estate has lots of cash. If your estate is $1 million and there will be $200,000 tax when you die, all that means is your kids get $800,000 instead of $1 million. Is this worth paying life insurance premiums all your life for?

Paying probate fees take some effort to be made to seem important. They can be $10,000 (on a $1 million estate)! Wow! But when you look at the numbers, you can see through it. Probate fees are between .5% and 1.5% of the assets passed by the will. Since the insurance policy names a beneficiary, the death benefit passes outside the will, so you avoid the probate fees.

However, life insurance premiums for minimum universal life are usually at least 1% of the death benefit each year. Getting 10 or 20-year term is only about 1/3 the cost. So, if you live for 2 years, you have probably already wasted more in excess premiums than your estate will one day save in probate fees.

In short, most of our clients are in their 30’s, 40’s and 50’s. Do they need insurance for life? Who knows? They usually need income replacement insurance now and to build wealth for retirement. But there is nothing that tells us they will need life insurance after they are “financially independent”. This is probably true for at least 95% of the population.

If you don’t have a need for insurance for life, then universal life insurance is a waste of money. And if you do, only buy it if it is cheaper than term 100.

The other question relates to the investments. Universal life allows you to pay extra into the policy to invest. Is investing in a universal life insurance policy a good idea?

The “need” created is usually tax deferred growth, avoiding income tax on your estate (again) and avoiding probate fees (again). However, you can get the same tax deferred growth by buying corporate class mutual funds. And the other 2 are rarely worth paying the premiums all your life.

There are some major disadvantages of investing in a UL policy:

1. You are restricted to the investments within that policy, usually all from that one insurance company.

2. Most of the investments are “segregated funds”, which are insurance mutual funds that charge .5-1% higher MER’s each year.

3. There is a 2% premium tax on the extra premium you pay in to buy the investments.

In short, you can virtually always invest much better outside of your insurance policy.

So, if hardly anyone has a need for insurance for life and if investing outside of your insurance policy is almost always better, why are so many universal life policies sold? For most insurance salespeople, every problem looks like a nail.

Of course, universal life and whole life insurance products pay many times higher commissions than regular term. It is not easy to make good money selling life insurance if all you do is term (which is all most people need). This is why they need presentations on how to “create a need”.

In short, “Buy term and invest the difference” is wise advice for almost everyone. Get renewal and convertible term, so you can convert it to a term for life IF you one day actually need it.





75 Comments, Comment or Ping

  1. 2. nobleea

    Thanks for this article. Until now, I had never really considered that life insurance is not needed in retirement. You always see these insurance ads with old people yapping about how good it is. But you are right in that, if you retire, it’s because you’re financially independent and should be self insured.

  2. 3. Gates VP

    OK, as far as I can see, Canadians don’t have any estate taxes.

    So basically, the taxes that are paid from our estate are the taxes we owed all along. I mean, an RRSP is a vehicle for tax deferral. The government basically makes us a deal and says “hey, you can keep this money and let it grow tax-free, we’ll tax it when you pull it out”. So, of course if you and your spouse die those RRSPs are taxed before they go to the children, b/c, well, you’re pulling it out and you owed the government that money.

    Now, if I’m understanding this correctly, paragraph 5 seems to imply that a Universal life insurance policy could actually help you “dodge” this tax burden? Is this correct? Can life insurance save me from paying taxes I owe?

    And what about the cottage thing? If I give my kids the cottage before I die does it get taxed then? Why does it get taxed when I die then? I mean all of the money that paid for the property has already been taxed and it’s not like the kids are selling it. I mean if they sold it, then they’d definitely have to pay capital gains taxes, but they’re not, they’re just receiving it. Or am I totally off base there?

    By the same respect then, can any life-insurance policy cancel out the capital gains taxes on properties? How else can I get around being forced to “cash out and pay taxes” on things I don’t want to “cash out”? How does this apply do collectibles, I mean what if I have an $50k, two-bedroom book collection are we collecting taxes on that stuff too? are we supposed to or does it normally just slip under the radar? Can I use the same “give to my children” trick? Could I do it over several years?

    That’s a lot of garbled questions, hopefully makes a little sense :)

  3. 4. nobleea

    RE: cottage.
    I think if you give your kids the cottage before you die, you are in effect disposing of it, which would be a sale. You’d pay capital gains tax on whatever was a fair market valuation. If you sell it to them for $1, CRA would be calling rather quickly. Of course, you’d only be paying capital gains if the fair market value of the cottage is above what you paid for it (this is the case 99% of the time). I’m not sure, but I think you can somehow include value of improvements made to decrease your gain.

  4. 5. Gates VP

    Hey, thanks nobleea, but that still leaves some questions, especially the disposal part.

    Like, is the cottage specific b/c it’s property? Should I be claiming cash birthday gifts over a certain amount? I mean, what if I bought a vintage car that appreciated in value? What about an ounce of gold received as a grad gift? And what is fair market value for something that you don’t sell (what if I don’t have neighbours?)?

    If it’s a long-term home, part of those capital gains will be due to inflation, can inflation be deducted? Can I mitigate the problem by selling the house to myself each year and then paying capital gains on that number. i.e.: pay taxes on the increased value in increments rather than a big number at the end? What if I trade the home in a non-cash transaction? My home for these shiny bars of gold? Can I then pass on the gold tax-free or do the kids have to pay taxes on the bullion value? If the kids are paying taxes on the gold I gave them, isn’t this effectively the same as having estate taxes, which we just stated don’t exist in Canada?

    Either way, I have word that the questions may be answered, so I’m holding out :)

  5. 6. Ed Rempel

    Hi Gates,

    You are full of questions! I was going to respond yesterday, but I was intimidated by the volume of questions! Somebody should have told you about the 10 question/blog maximum!

    Actually, I see what you are getting at, Gates. Here are a few comments that may clarify things.

    In Canada, we do not have estate tax, like they do in the US on the value of large estates. In Canada, we only have INCOME tax on estates. It is assumed that all assets are sold and all RRSP’s cashed in on the date of death (unless passed on to a spouse). It is not a separate tax on the value of the estate – it is just income tax that has been deferred is now all due at once.

    This applies to any real estate, other than your principal residence. Therefore, a cottage is deemed to be sold at fair market value when you die if you are passing it on to your kids. Capital gains tax will apply from when you originally bought it – which can be a large figure.

    This is mainly only a problem if the kids want to keep the cottage and there is no significant liquid investments in your estate. If you have a huge investment portfolio or if your kids are will sell the cottage, then they have the cash to pay the tax. But if you have little else and they want to keep the cottage in the family, then how do they pay a $250,000 tax bill?

    If you give the cottage to your kids earlier, then capital gains tax applies up until that date based on the fair market value. The “gift to my children trick” usually just results in paying tax sooner than if you wait.

    Having insurance doesn’t change the tax. It just gives you some money to pay the tax.

    Capital gains tax also appies to certain collectibles and personal investment assets (like gold bars, fine art), but they do not apply to depreciating personal use property like cars, or books.

    (By the way, if you have $50K of books, are none of them about income tax?)

    Gifts are not taxable and there is no limit on gifts (like there is in the US) – unless the gifts are taxable property (like real estate). Gifts of taxable property that are given as gifts or sold at low prices are deemed to be sold at fair market value.

    Interesting question about inflation. Even though most of the appreciation of real estate is inflation – all of it is taxable. Many people have argued that only growth above inflation is real growth that should be taxable, but the Tax Act taxes it all.

    Selling something to yourself is not a transaction. It you want to trigger the tax every year instead of deferring it (for some MAD reason), you have to give it or sell it to someone else.

    You have some creative ideas, Gates, but triggering tax sooner is rarely a good idea. Much better is to either have life insurance to pay for it or just invest extra money.

    Life insurance is more expensive than investing in tax-efficient investments. Fairly often, we have clients save a pot of money to pay taxes, instead of buying life insurance. Investments will build up a larger amount than life insurance – unless you die sooner than expected.

    If you are saving for an increasing tax liability (like a cottage), an investment plan can be the most effective strategy. If you want protection now, then life insurance is usually the best option.

    Did I miss any questions, Gates?

    Ed

  6. 7. Toronto Insurance Broker

    I would only recommend Universal Life Insurance policies to people who are financially already secured and they know what they’re doing. Long story short, the tax benefits alone make it worthwhile. It can be beneficial, but those who don’t keep track of it and don’t care about their finances in general, it’s more likely for them to end up with a disadvantageous policy…

  7. 8. nobleea

    Toronto Insurance Broker; Can you provide some examples of the tax benefits?

  8. 9. Gates VP

    Hey Ed, thank you very much for the answers.
    So short story is:

    House (gold, stocks, etc.) = taxable investment

  9. 10. Gates VP

    Hey Ed, thank you very much for the answers.
    So short story is:

    House (gold, stocks, etc.) = taxable investment
    Death of last spouse = cash-out time on taxable investments

    But if you have little else and they want to keep the cottage in the family, then how do they pay a $250,000 tax bill?

    This scenario happened to my fiance’s grandmother’s cottage, so I asked her most of these questions but she didn’t have an answer :) That’s why I’m curious now, the whole thing never made any sense to me at the time, but now it does (grandma had inadequate insurance and failed to plan for the kids to keep the cottage)

    You see, my logic for “sell to self” (or “sell to spouse”) is to actually take small taxable capital gains at a lower tax rate say 20% each year instead of 40% on the whole thing. Now of course, taking insurance to cover the eventual tax burden is probably easier (could it actually be less expensive though?)

    Now, I don’t actually have the 50k book collection, but my fiance and I are big book collectors, and I like my hardcovers :) I’m 26, but by the time we’re 65, I’m sure that collection will be *very* large. I’ve thought about the “save money to cover future taxes” concept, but I’m actually planning to die broke, which is a little different than most.

    You see, if I keep enough money in the bank to cover the cost of my death (funeral, legal fees, etc.) but I want to pass on the “summer home”, the “annual re-capitalization”, means that I don’t have to keep gobs of money in “the bank” or pay big insurance fees just to cover the eventual (and uncertain) taxes. I can hand off the house with a very small capital gain, that will be taxed at like 20% b/c I won’t have much income on the year that I die :)

    Now I could be totally wrong, I mean maybe insurance is cheaper, but I don’t think that insurance companies are making good money if they’re going to insure the 100k tax burden on my second home without charging me at least 100k (on average) over the life of the policy (100k ~ 200/month * 40 years). Property insurance may work that way, but death is a pretty certain thing. And if there’s someone I don’t want to challenge to a numbers duel it’s insurance companies :)

    Again, I could be wrong, but I do appreciate all of the details and time you’ve spent on this Ed. My brain has been churning all morning :)

  10. 11. nobleea

    I don’t think capital gains are ever taxed at 40%. They would be around 20% anyways. So if you waited to pay or paid a little bit each year, the amount would be the same.
    Correct?

  11. 12. Rod Payne

    Capital gains tax rate is 50% of your marginal tax rate. Given that the highest marginal tax rate in Canada right now is (I think) Nova Scotia’s 48.25%, the highest marginal capital gains tax rate would be 24.125%.

  12. 13. Earl

    In terms of the transfering of estate, it might help for people to review more details about power of attorneys.

    I’m no professional on this matter myself, but I believe there are better ways of estate preservation if you have a will and powers of attorney instead of relying on the CRA to decide your estate plans.

    Also in terms of UL’s I’m totally an advocate against. Feel free to read this article that opened my eyes about UL plans.

    http://perry.kundert.ca/range/finance/ul-blows/

  13. 14. Ed Rempel

    Hi Gates,

    You’re on the right track. Insurance will cost you more. If you just invest what the insurance premium would be, you will liekly be quite a bit ahead of the insurance death benefit even after tax – as long as you life close to a normal life span.

    Your idea to crystallize your gain each year can work if you are in a low tax bracket now and will be in a higher tax bracket later – when you are retired and your final tax year.

    However, paying tax early is rarely a good idea. Why not just invest the money you would pay in tax if you claimed your annual gain? If you can double that money once (7 years with rule of 72), then you have enough to pay the tax at a higher rate on your final return.

    Your “sell to self” or “sell to spouse” strategies have other issues. Selling to yourself is not a transaction and has no effect. If you sell to your spouse, you will trigger land transfer tax and legal fees.

    Assuming you are still relatively young and healthy, your best bet is probably to invest enough to build up enough capital to cover the tax.

    Ed

  14. 15. Stefan

    Nice posts, serious stuff.

    The inflation-indexed capital gains is a very interesting and fair point imho. The “Contrarian Investment Strategies in the Next Generation” book mentions about it.

  15. 16. Ed Rempel

    Strefan,

    I have no read that one. Can you elaborate on your point?

    Ed

  16. 17. Stefan

    That book (and another – can’t remember exactly, “Stocks for the long run” or “Bull’s eye investing”) was questioning if it’s fair to be taxed for the whole capital gains that would incur when selling stock. Because it comes in a kind of contradiction with the reason why we invest in stocks. Since the stocks are a healty investment into real assets (as opposed to bonds – which are simply investing in money), they protect against inflation. That’s why the capital gains are not true capital gains but they also contain the inflation component. It is thus suggested that we are in fact tricked by the government – nobody can escape the inflation in a way or another. The CGs should be indexed with the inflation.

  17. 18. sam

    hi Stefan,

    yes inflation should also be considered by the Government before levying Capital Gains..but would Revenue Canada listen…
    in some countries(like india) they have a capital
    gains indexation where the Government publishes an index for calculating capital gains..the index approximately follows the inflation …your cost price is inflated(multiplied) by the index and then capital gain is calculated with the inflated cost base in place…

  18. 19. Stefan

    wow, that’s great.

  19. 20. Ed Rempel

    Yes, that’s right. It is unfair to pay tax on your investment when it has just grown by inflation. This was a huge factor when inflation was much higher.

    I understand why CRA takes this position and I’m sure they won’t change it. For many investments such as GIC’s, bonds and real estate, 50-80% of their growth has historically just been inflation. For example, in the last 50 years, GIC’s and bonds have averaged 7% and real estate 5-6%. Inflation has been 4%, which was almost all the growth.

    If CRA only taxed growth above inflation, then these types of investments would generate very little tax.

    Ed

  20. 21. Gates VP

    Hey Ed, thanks for the input. I know it all sounded kind of fishy, but this was definitely in the “land of the theoretical”.

    As to inflation thing, it’s definitely a crock, but really, who knows? Grab a hundred friends (that don’t frequent this board :) and talk to them about the “gold standard” and the conceptual value of the dollar. Ask them if they know why their money is worth less each year or how we can run a national debt (to whom do we actually owe the money?)

    Unless you hang out in some really heady circles, the answer is likely less than 50% who actually understand what’s going on. These are all people paying thousands of dollars/year in taxes and they don’t know. Of course, with so few of those hundred friends actually investing and tracking any of it, it’s not really a voter issue, “average” voter doesn’t care, much less have independent “out-of-RRSP” investments.

    Thanks again Ed for all of the information, I’m usually the one with “too many answers” and “too many questions” so I really appreciate the input :)

  21. 22. Joe

    I have a UL policy with a face value of 84000 and additional 20000 of paid up insurance for my spouse .There is 45000 accumulated cash which pays the 300 monthly charge with the interest earned.This is called the accelerated payment plan(I think)The 45000 is lost if I should die.I have paid at least 45000 into this policy.We would like to cash out.I am 73 is this a good idea?

  22. 23. BLAM

    From my understanding a UL insurance policy gets paid out tax free to the beneficiaries, unlike rrsp’s or investments. So UL’s have a tax savings there, but I guess people are arguing that after the insurance premiums it almost works out to be the same.

    I also heard that you can use your policy amount as collateral for a loan. So if you were 55 and you had over $1 million policy against your life you can use it as collateral for a loan, in which case the loan money is tax free. When you die, the policy is used to pay your loan off and the balance goes to your beneficiaries.

    I recently looked into getting UL because of the tax sheltering but now I’m having second thoughts. The other thing my advisor suggested was to get a premium 20 times your income. The theory behind that is if you pass early, the insurance policy you get at 5% a year would be the same as your income, so it’s like you’re still around providing income to your loved ones you left behind.

    My advisor also stressed that insurance is a luxury. It helps protect your loved ones, and leave them something behind when you pass, but if you pass early it acts more like a way to keep your loved ones’ lifestyle in tact (i.e. they don’t have to sell everything to maintain the same lifestyle you enjoyed before you passed). That could’ve been their sales pitch but if the unforseen did happen it makes sense too. I guess what I’m learning here is maybe you don’t need a big policy, and UL is good if you don’t have insurance in the first place and if you want to help your loved ones with taxes on what you leave behind, etc…

    great blog by the way, I only found this yesterday and i find it hard to stop reading your archives! =)

  23. Hey Blam, thanks for sharing your thoughts. Yes, you are right, with UL the payout to it’s beneficiaries is tax free, but TERM LIFE does the same. Why pay the extra premium for UL when you don’t have to?

  24. 25. Ed Rempel

    Joe,

    The important question is: Do you need insurance (and if so, for how long)? Will your wife be able to maintain her current lifestyle if something happens to you? She would not get alll of your pensions, but she would probably need somewhat less than you need together now? Do you have a reason to have insurance for your estate (eg. pay taxes on a cottage)?

    If you don’t have a need for insurance, then you should definitely cash it in and use the money to live now (or invest it to live for the next 25 years). And even if you do need insurance, do you need it for life? If not and you are still insurable, then you might be able to get a term policy for what you need and then cash out the UL.

    One of the life insurance sales pitches is that paid up life insurance costs you nothing. This is bunk. It costs you what your cash value would be able to make if you invested it.

    If you cash in and then invest the $45,000, you should be able to get $300-350/month (and rising for inflation) of extra income for life. This could pay for a couple of extra trips to enjoy.

    Ed

  25. 26. Ed Rempel

    Hi Blam,

    A couple of comments. First, UL does not usually produce the same return, but less. The link to Perry Kundert in Earl’s post (#13) is well done and shows UL almost always leaves you behind investing elsewhere.

    My advice is to never do any investing in a UL. It is more effective to invest elsewhere – even when you include that it can pass to your estate without tax.

    The strategy of borrowing against a UL policy is ridiculous. Avoid it. You can also borrow against an investment portfolio and in most cases for similar amounts. If you borrow against a UL, you risk a margin call, just the same as when you borrow against a mutual fund portfoliio (unless you qualify for a “no margin call” loan).

    What’s more, with a UL, you lose the opportunity to get a tax deduction by borrowing – just getting it tax-free is nothing.

    With a UL or a mutual fund portfolio, you can borrow against it every year to take tax-free money (because the cash is a loan, not income). However, if you have a mutual fund portfolio, you can sell it, take an investment loan and buy the investments back (“Flintstone flip”). Now your loan is TAX DEDUCTIBLE – not just tax free.

    Many people who do this strategy of borrowing against a UL may get a margin call when there is a large market decline (unless they buy crappy investments such as GIC’s).

    The 5% of your income rule of thumb may make some sense – if your spouse will need ALL of your income to maintain your lifestyle and if you have no other insurance.

    You need to differentiate between providing for your income and paying tax on your estate. Most people only need insurance to provide income for their spouse until they retire. At that point, you have a nest egg and pensions that would mostly pass to your spouse. The need for income replacement insurance if normally met with cheap term insurance – not UL.

    UL is term for life (plus temptation to make the mistake of investing in the policy). Term for life is mainly to cover tax on your estate.

    IF you need 5 times your income of insurance, that is almost defintely term insurance for 10 or 20 years that you need. The need for UL is based on your estate taxes, and is usually a much smaller number.

    Ed

  26. 27. BLAM

    Thanks for the response Ed. I’m loving this site more and more.

    I’ll have to talk to my advisor and see what he says about all this. I read that link from #13 and it really opened my eyes.

    I’m still new to this MER, compound interest, tax sheltering, etc. business and when I get my advisor’s rebutal I’ll definitely share it with you guys.

    My first intention of getting UL was that we only had insurance through our work which I found out ends when you retire at which point I heard it would be difficult and expensive to get then. Also, the insurance policy we have at work isn’t much at all compared to the policies we could get with UL or term (which I understand now are more or less the same). And then when I read about the tax sheltering I was all for it. But seeing the points made above I’ll definitely have to re-consider. Luckily for us, we haven’t officially got the UL so we might be able to get out of it if we decide its not right for us.

    Thanks for the info!

  27. 28. Joe

    Thank you all for the help. I have learned more here then I did when speaking with an insurance agent. Their only interest is to sell more insurance and keep people in fear of poverty.

  28. 29. Ed Rempel

    Blam,

    The thing to be aware of is whether your “advisor” is actually giving you good advice for your situation or whether he is actually just an insurance salesman.

    The insurance industry is full of salesmen that call themselves advisors. I never really liked doing insurance and it is not that profitable, since we essentially only do term (which is all almost everyone needs).

    So I dedided to find an insurance specialist to join our team. It took me several years to find someone I didn’t think was just going to sell whatever he could to anyone I referred – someone I would feel comfortable referring cients to.

    Does your advisor spend most of your meetings asking about you and your family, what issues are important, and calculating in detail how much insurance you actually need – or do you find you get a few questions and then a sales presentation?

    Ed

  29. 30. BLAM

    Well with the insurance I basically went in there and said What’s UL about? confirmed the tax benefits, etc. We didn’t really talk about what other alternatives existed, i.e. disability, term, or what not. I think going in I wanted immediate coverage and an investment/tax shelter so I guess the obvious choice was UL, but he didn’t talk too much about management fees, etc, etc. Looking at the thing he showed me, some numbers aren’t clear anymore. It did do a comparison on investing outside an insurance and inside the UL, in which case outside was alot less, so I’ll have to get him to clear up how these numbers were calculated and basically send him that link from #13 and see what he says. In his defense, you could say I went in there looking for UL because of what I read in a tax planning book. The thing about term that I didn’t like was once its over you get nothing. But I didn’t realize that if you considered how much you’d have by investing the extra payments you pay in UL on your own, you could be better off. Also, the tax savings part made me think it was a no brainer, but I guess the fees over time would be greater than the tax hit. That’s the message I seem to be getting here.

  30. 31. Ed Rempel

    Blam,

    You’re starting to get it. One more thing about the tax-effiency. UL mainly saves you tax only if you don’t touch it until AFTER YOU DIE. (I hate it when only death can save tax!)

    UL saves tax if it is paid out after you die as a death benefit, but you pay tax on the growth if you withdraw your investments while you are alive.

    You can get tax-efficiency while you are alive from corporate class mutual funds. UL essentially only saves you tax if you don’t touch it until after you die.

    Ed

  31. Hi Joe:

    Before you cancel that policy consider a couple things. Find out how much of the $45,000 cash value is taxable. I don’t know your income but will it affect GIS,OAS or other tax credits? Remember the death benefit pays out tax free. Are there other ways to use the policy? You know the $84,000 will pay out tax free, what if you took a Manulife one loan against your home, and match it so the future debt is about equal to the insurance death benefit. This will give you some tax free income and may help you squeeze additional government benefits?

    If you don’t need the insurance cancel it, but think a little creatively before you do.

  32. 33. Sean

    Good post. I totally agree with you on this, I used the same logic when I purchased globe term insurance. Some think that term insurance isn’t a wise investment, but it works for me.

  33. 34. Steve

    Ed:

    I was under the impression that with UL or VUL you could take out the original amount you paid in without any tax, then the gain that you made over the year you could take out zero cost loans, there by avoiding any taxes. Naturally you would have to not take all the funds out to avoid any future taxes until you passed away.

    Steve

  34. 36. sam

    hi,
    i am hoping someone good with spreadsheets/figures can help me out…
    i am 38 years old..i need a life insurance of $200,000
    option 1-
    permanent insurance..the monthly premium i need to pay till i am 100 years..that’s for the next 62 years is $84.83…
    my beneficiary is assured of $200,000 when i die,irrespective of when ..if i die before 100 my premium payment stops…

    option 2-
    Term 20..
    my beneficiary gets $200,000 only if i die before
    85 years(ie within the next 47 years)..if i die after 85 years they get nothing.

    the monthly premiums from year 1 to 20 -$21.17
    the monthly premiums from year 21 to 40- $255.33
    the monthly premiums from year 41 to 47- 1,292.83

    again if i die before i am 85..my premium payment starts….

    I have heard the argument buy term invest the difference….what kind of return does my investment need to make..for the Term investment to work better than permanent insurance..

    thanks in advance..
    Sam

  35. Sam, if I can make a suggestion for you…

    Rather than worry about the difference between term & life – just buy life and don’t buy so much of it. You are 38 now, so getting a 20 year term insurance is not unreasonable but why do you need this insurance from age 58 to 78 and then after that??

    Once you have enough money to retire (or get close to it) then you don’t need insurance anymore unless you have a special circumstance.

    Mike

  36. 38. Gates VP

    Hey Sam;

    FP makes a great point, but I’d like to take it one further (no offense FP, your blog is still better):

    i am 38 years old..i need a life insurance of $200,000

    You’re missing a key piece here. You’ve asked a question about the total cost of premiums, so you’re going to get an answer, but that answer will not be relevant b/c the question you’re asking does not contain enough information to be adequately answered… does that make sense?

    When purchasing life insurance you need to know:
    1. How much do you need? (200k it seems)
    2. How long do you need it for? (62 years? 47 years? until you retire? we’re guessing here based on your current age)
    3. When will these needs change? (kids moving out? retirement? semi-retirement? job-change?)
    4. If you die at 90 (or some other advanced age), how much money do you actually need left over (still 200k?)

    You gave us #1, but not #2, #3 & #4 which are also equally important. I can plug all of those numbers into a spreadsheet for you, and find break-even points and provide running totals, etc. But it’s pointless, the resulting numbers will be insignificant b/c I’ll just be analyzing bad data (which tends to give bad results).

    Why not try to predict both your current and some of your future needs and then work from there. Do you feel like it’s your duty to have an insurance policy for your kids when you die at 95? Do you just want to leave them the money that you have left? Will you have money left, are you meeting your “retirement” savings goals?

  37. 39. Greg

    Does the new Tax Free Savings Account (TFSA) announced in the 2008 budget not kill this argument?

    I’m thinking of ditching my UL policy in favor of a cheaper TERM policy and invest the difference in the TFSA, which can later be taken out 100% tax free, or transfered to spouse and/or children.

    I assume the TSFA will allow for investments such as funds, ETF, bonds etc.

  38. 40. burned

    I visited my first financial planner in 1995.The last thing I wanted or needed was insurance.His one recomendation for my immediate savings was a universal life policy. This was hyped to the max.The only risk disclosed was that the government could close this ‘loophole’.Colourful graphs promised eye catching multi year payments.All this with very conservative yields.Tax sheltered,premiums paid pretax,50 percent greater return than gic’s or bonds in a taxable account.No mention of fees ,commissions,premium taxes,loads and other drags on returns. $12000 a year for 15 years as illustrated at point of investment now looks to be $2500 a year.Yikes! Never any equity investments just term investments.Total return not 50 percent more than term investments but 50% Less! Remember I did not seek or require insurance.This screams for litigation.I have full documentation.I want to know who will or can help me in this matter.Retired and living on less in Vancouver.

  39. 41. sue

    hi their my question is how can u say after 20-30 you will be paying same fees and capial gains.. and your saying term is good but today i might get term for $30 per month and after 20 years it will be $60 per month and as we get older will be $500 to $1000 month plus if we get any illness then impossible to get life insurance ….for my UL policy i m paying $70 per month and i will be having 100,000 cash sitting their by my retirement in case i need that money i can use it or take loan againts it…..term is just waste of money….and for cottage too i think govenment will sell the assets in ur kids are not able to pay the taxes u must be knowing power of sale….they have to arrange the money within 90 days if not they will sell the assts cos it just happened in r family so i know.

  40. 42. DF

    Has anyone compared the Manulife Performax concept with the Universal Life Insurance? The life insurance is cashable and transferrable to your beneficiary. My parents bought life insurance for me. They only need to pay 10-15 years for the plan. It’s more expensive than term life insurance but you only need to pay for the first 15 years.The money will then grow and pay for the rest of the term. If I die, they get the death benefit. If I live, and they retire and need money, they can withdraw money from the cash value portion. When they die, the life insurance will become mine and I can name my children as my beneficiary. I can let it grow and withdraw cash when I need money anytime. The cash value matches the deposit at about 20 years but the death benefit almost triple at 30 year point if you don’t withdraw money from the plan.

  41. 43. aolis

    The “need” for Universal Life is created when a young couple cashes out their RRSP to buy their first house. They sit down with an insurance salesmen who tells them the best thing to do is buy UL. Worried about the expensive house and the little baby that is on the way, they buy it and don’t give it a second thought.

  42. FT,

    Paying less tax with permanent life insurance and having more more in retirement.

    I have a new calculator on my web site http://www.rightinsurance.ca
    Under free financial tools go to person A vs. person B.

    Person B has less money than person A…yet has more money and pays less taxes in retirement.

    Brian

  43. 45. Jeff

    Can someone give me their opinion about the last Mutual company in Canada, Equitable Life, and their par-whole life product which gets a lot of praise in the industry. I like the idea of having insurance forever and passing on a legacy as I expect my income to grow over the years.

    I’m a 34 year old male, looking at a 500,000 policy with lifetime paid up additions enhancement. The monthly premium is $350 (the actual cost of insurance is around $172 and the forced savings component is around $178. If I look at the forced savings component, that’s around $64,000 I’ve spent by the time I’m 65. Their is a guaranteed cash value at 65 of $104,000 in this plan. The total cash value projection (and I know this is an illustration and not reflective of future performance) shows $261,000 cash. I know Equitable Life has been paying over a 7% dividend every year, and their par account has been strong showing a 7-8% gain on average and even in 2008 when the s+p was -30% they were still a positive 5%.

    Seems this product is stronger than UL in many areas.

    Can someone help me wit this decision?

    Thanks
    J

  44. Jeff,

    Equitable is a fine company, if you are looking to fund this for 20 years (or more) based on your age over time in fact it is a better choice than UL.

    What a lot of people don’t know is you can get this money out tax free, if you repay the loan the money still grows as if you never touched it (with interest). There is more to this but beacuse of space I will leave at that.

    I have a new calculator on my web site http://www.rightinsurance.ca
    Under free financial tools go to person A vs. person B.

    Person B has less money than person A…yet has more money and pays less taxes in retirement.

    Where UL is better is if you are older and need flexible payments.

    Hope this helps.

  45. 47. Jeff

    Thank you Brian.

    If I may pick your Brain once more,

    Are there high MER’s associated with whole life as in UL? Do you see any real benefit in going with the last mutual company left in Canada?

    thanks again

    J

  46. 48. Future Money-Bags

    Make sure you read the entire contract (at least the important parts). Cash value means that cash is slowly accumulated inside your policy and if you wish to borrow, you must take out a loan (a loan from yourself, with interest). Now keep in mind you are paying more to have this cash value in place, and paying way more if you wish to actually use it. In the first half of the policy, you wish to draw ‘cash in’ the cash value, depending on the contract, you usually have to pay much more than its worth.

    Instead of paying a huge $350/month for 500k insurance, why not just purchase term for $100/month, and invest the difference yourself. That’s $250/month for investing.
    with a moderate 8% ROR, until the age of 64 like you said, you could have $350,000, instead of the $261,000.

    Since you will be expecting higher income in the following years, you could make yourself invest 5% more each year. this would bring the total to far over what your policy is worth, thus making it unneeded.

    There is always another option..

  47. Jeff,

    The difference between UL and Whole Life is where you put the extra money.

    The whole life cash value is pooled money that is invested in bonds, real estate, some stocks (low percentage) mortgages etc. The fees is around .20. Since premiums also have to purchase life insurance life insurance the cash value for the first 10 years is poor! After 20 years the cash value grows much higher than you started with, plus the insurance policy keeps growing every year.

    With UL you have lots of choices but the MER is higher, plus lets face it the market exposure is not worth it. If you want to be more convervative the GIC route is better higher rates than can be found at any bank.

    In general my thoughts is insurance is really risk management so keep the investments apart from insurance.

    The key with insurance and cash is it grows tax free. With open accounts you have to pay taxes…if you like the TFSA then this is the next step above.

    The 8% ROR comment above sounds good in theory, but I doubt if she pays no taxes and never experiences a downturn. With a policy like a whole life, dividends have been paid every year in some case over 100 years! Your cash value can never go down.

    If you have say $100,000 in stocks…the bank will not loan you $100,000 or even $90,000 because of the markets going up and down. With a cash value policy, you can borrow up 90% plus skip loan payments if you wish.

    The keys here is there an insurance need or want? Do you want to grow money tax free? Do want or wish to have access to this money tax free? Do you have a twenty year time frame?

    Your last question …
    Do you see any real benefit in going with the last mutual company left in Canada? If you own a whole life policy you are an owner in the company.

    Lets say Equitable gets bought by say Sun Life. Sun Life has to give you shares…plus you still keep the policy!

    An example was my Father in-law bought a whole life policy with Maritime Life which was bought out by Manulife. The cash value of the shares was over $50,000 and he kept the policy!

    cheers,

    Brian

  48. 50. Ed Rempel

    Hi Jeff,

    Are you interested in UL just to leave a legacy, or do you have an actual insurance need?

    Why would you not just buy a term to 100 for $172/month? What would you do with the extra money in the future?

    $500,000 is not a large legacy. Don’t forget inflation. If you live an typical life, say 48 more years, with 3% inflation, $500,000 would buy roughly what $121,000 would buy today.

    Does a legacy of $121,000 of today’s dollars achieve what you want? That could be a down payment on a house for one person.

    If you want to leave a legacy that would buy what $500,000 would buy today, you would need about $2.1 million.

    If you invest $350/month at 8%/year (which is quite a bit less than the stock market has averaged), you end up with over $2.1 million after 48 years.

    Whole life does not have high fees – just very low returns. To get your cash value at age 65, your $178/month is making $2.75%/year. It’s roughly like a high-interest savings account. Or roughly equal to inflation.

    It is only tax-free if you wait until you die. If you ever want to use it, you have to cash it in and pay tax (like any other investment) or you have to borrow against it (at rates much higher than 2.75%).

    You are still young, Jeff. Are you a GIC-type person looking for everything to be guaranteed, or are you able to tolerate market risk, Jeff?

    By the way, why do you say it get’s lots of praise in the industry and where did you get those rates of return?

    Ed

  49. Ed,

    There is a number of things I think you may not understand about UL and whole life insurance.

    One is the life insurance grows every year. Unless one if paying for the death benefit only. I don’t think Jeff is talking about that.

    The cash value can be taken out as a tax free loan. If you use this to purchase investments this is tax deductible. If you pay back the loan interest is still credited to the cash value account, as if money was never taken out.

    The 8% ROR…not to put you on the spot, but that seems high, where are you putting peoples money now, to get that kind of return now? If you have some examples that would be great.

    For an example of dividends paid go to Canada Life. This is has a history of
    dividends going back to 1975…dividends have been paid by Canada Life as an example for over 100 years. Equitable almost 80 years.

    http://www.canadalife.com/web5/groups/common/@public/documents/web_content/s5_009630.pdf
    cheers,

    Brian

  50. Hi Jeff,

    I am getting different numbers than your last post…

    I’m a 34 year old male, looking at a 500,000 policy with lifetime paid up additions enhancement. The monthly premium is $350 (the actual cost of insurance is around $172 and the forced savings component is around $178. If I look at the forced savings component, that’s around $64,000 I’ve spent by the time I’m 65. Their is a guaranteed cash value at 65 of $104,000 in this plan. The total cash value projection (and I know this is an illustration and not reflective of future performance) shows $261,000 cash.

    What I am getting death benefit at age 65 of $716,357 and a cash value of $357,357… Can you clarify this for me?

    The death benefit starts at $237,278 at age 34. The excelerator option is $170.56 instead of $178 based on the insurance premium of $350 per month. Payments or over 20 years.

    This is using Equitable’s software

    cheers,

    Brian

  51. 53. Ed Rempel

    Hi Brian,

    The problem with whole life insurance is that it is not your money – it is the insurance company’s money.

    You can borrow it, but at rates that are more expensive than borrowing from your bank.

    The dividends add to the insurance company’s money – not to your money.

    People don’t realize that you don’t get both the account value and the death benefit – you get one or the other. The dividends generally add to the death benefit.

    The only part that is your money is the cash value, which generally grows by about 2%/year.

    If you cash it in, it is taxable. It is only tax-free if you never touch it during your life.

    We think that whole life is hugely oversold. If you are a GIC person that wants no market exposure and you are saving only for your kids (or beneficiaries), then whole life may be useful. But whole life is not an option compared to investments, since it is designed to be passed on only after you die.

    8%/year is a conservative market return. The TSX has averaged 10%/year since 1950. You can get that type of return with an index fund. Top fund managers beat the index long term. We use 8% for retirement planning purposes, since it is a conservative assumption for an equity investor with a good investment strategy.

    Ed

  52. Hi Ed,

    I really don’t want to put you in a spot so here goes…

    You made some interesting points… I will address a few here. The 8% you are talking about for equities I think is high. Even if I assume you are geting 8% with the “top fund mangers” I don’t think you have any you can name any who has been around even twenty plus years if you can, please tell me.

    From my data the TSX composite index (no fees) is 5.97% after 20 years (as of June 30th 2010)…GlobeHysales

    The returns go up and down like a ….seat. So someone who is near retirement is still be 100% in equities? Will they get 8% or better? I don’t think so.

    Assuming you have to pay capital gains, 2% gets lost to taxes. So the real return is a generous 6%.

    Using life insurance you have the opportunity to pay less taxes have more money in retirement with less risk. In retirement many people worry about running out of money and can not recover from a market correction so the equities is not going to work.

    For one example please review my new calculator on my web site http://www.rightinsurance.ca
    Under free financial tools go to person A vs. person B.

    Person B has less money than person A…yet has more money and pays less taxes in retirement. If needed, cash can be taken out of the insurance policy at the end of 20 years (age 85) every year even if he lives beyond 100! He spends more money and leaves money to his family instead of the government.

    cheers,

    Brian

  53. Hi Ed,

    Since I have not heard back on the question of who the mangagers who are beating the index I will address some other points you made in error.

    The long term returns for whole life is about 5% (after 20 years) and remains at that level. This is with over 100 years of experience in Canada… far longer than any mutual fund sold here. This return grows tax free. Loans can be made tax free for the first 15 years at that point the ACB will have been reached. Currently, loans charged by some insurance companies and banks is 4%. Loans can be made up to 90% of the cash value.

    Since money can be used tax free the insurance company credits the dividends as if no money was taken out.

    An example would be $30,000 borrowed from a policy for a 35 year old male at year by year 11, the cash value would be worth $65,347 by year 16. The cash values never go down… unlike stocks which can fall in value.

    So buying real estate, stocks etc. would be tax deductable. Using a loan with a life insurance policy.

    The idea of the insurance policy is not to replace stocks or real estate, the best idea is to have this as a swiss army knife. If one gets sick the policy will continue to be funded by the insurance company to age 65, if a wavier of premium is bought.

    If you need or see an opportunity the life insurance policy can be used. In retirement you can pay less taxes and have more money to spend than with out it.

    With investments if they are doing well why not borrow and buy more? The insurance allows you to do this and covers the debt against death or disability, you could even skip payments.

    Ps. the ten year return for the TSX (as of July 2010) is 1.19% (no fees). This does not factor taxes payable during this time as well! This would be paid out of pocket or out of the investment.

  54. 56. georgi jarvis

    what brian says is mumbo jumbo .listen to Ed ! I have owned one of these products for 17 years .you will be FAR better owning term deposits or bonds in a taxable account .They do not grow tax free .tax is only deferred .Your original costs in fact depreciate over the life of the policy .this results in your paying tax twice on much of your final return.in most cases probably at a greater rate .COMMISSIONS are huge on this product.this along with layers of fees and othercharges create great leakage to total returns .This product is all spin .Stay away !!

  55. Hello Georgi,

    It sounds like you may own a UL policy with the excess invested in the market.
    As you already know the markets have not gone anywhere for years. In general the mers are higher. Perhaps you can tell me details on what you own. If you read my comments regarding whole life the money is invested in government and corporat bonds, real estate, some stocks, mortgages etc. The fees are around .20.

    The UL topic I have use in the past is using gics please read Using UL with corporations.

    As far as commissions go I make more money selling term than most permanent life insurance policies based on the same yearly dollar amount paid.

  56. 58. georgi jarvis

    Hi Brian , I truly appreciate you prompt response .The investments held in this product have been from the inception 5 year Government of Canada bonds .This is still the case and has never varied .It was and still is meant to satisfy a portion of my fixed income asset allocation .So it is very easy to compare with the returns that I would have received in a taxable account .After tax return in this product turns out to be 50% less .50% more would have been achieved investing in the identical bonds in a taxable account .See comment #41 on this stream .This will provide further info .looking forward to your response .Would love to have Ed weigh in as well !

  57. Hi Georgi Jarvis,

    The best I can say on this would be to sent me a copy of the illustration and the last statement showing the cash value of the policy.

    What maybe happening here is the majority of the money has gone to pay the insurance premiums. Having said that I have a few ideas, to turn this policy around for you without leaving your insurance company. If need be I maybe able (or give you) questions for the insurance company to ask. Again, without understanding facts all I can really do is guess what you may have.

    Feel free to drop me a line first, if you wish.

  58. Hi Georgi Jarvis,

    I am still waiting to hear from you.

    Brian

  59. 61. georgi jarvis

    would love to hear what you have to offer .A fair bit of info provided in my previous comments .thanks brian .

  60. Hi georgi jarvis,

    The information is very limited. For example are you buying more insurance with the premiums, is it max funded. Without details, I nor anyone else can’t help you. This is for a second opinion, not to change what you have. If you re read my story about annuities, you may be able to increase your income and pay less taxes. It is hard to say what choices you have with the insurance company.

    What you are asking is like phoning a doctor with limited information, who can not run some tests or see the patient. The other idea is to contact your insurance company and try to get them to help you, or have some one guess at what is going on with out details. Best of luck.

    Brian

  61. 63. Big E

    “People don’t realize that you don’t get both the account value and the death benefit – you get one or the other. The dividends generally add to the death benefit.”

    Can someone (Ed or Brian perhaps) explain this comment further? Can you not take out a loan that is guaranteed by the cash value, which is repaid upon your death, AND have the death benefit paid out?

  62. Big E,

    It depends on what the extra cash value is invested in. Lets assume it is GIC’s you could borrow up to say 80-90% of the cash value. If you die, the insurance would cover the loan and you would have a small death benefit…assuming you do not repay the loan.

    If you pay back the loan, the cash value keeps growing as if you never took the money out in the first place.

    The question to ask is how will this help me in retirement or much later in life? If you like annuities, or have a cottage you want to keep in the family, children who need extra help, a pension you wish to pass on to a spouse…and many more ideas, a UL policy may make sense but it is not for everybody.

  63. 65. Big E

    Thanks for the response Brian. While I’ll admit the returns on the cash portion of the insurance isn’t great, it at least paid dividends when my entire investment portfolio tanked. I also see this as a way to make sure my kids get something since I don’t plan on renewing my term insurance after my 20-year is done.

  64. 66. Stephanie

    Hello, I must say you have me hooked to reading each comment….very interesting, thank you. I found your column while trying to figure out what my husband and I should buy as far as life, or and health crisis insurance. I have spoken with two different insurance people whom I know. One is my FP and one who has been in the Ins. business for approx 20 years. We are each lets say 44 years of age; I am expecting and due to have our first child in two weeks. We each do well but at the moment a little land poor :-), we have realestate assets,ie home, and land worth a fair bit. We have life insurance through my husbands work and I have a critical illness policy that costs me approx $70.00mth for $100,000. We just bought a piece of land and are wondering what type of insurances we should have to pay off approx $400,000 for mortgage and land if something were to happen to us over the next 20 years; with a young child to think about now. We would prefer not to sell anything if something happened to one of us. If something happened to both of us we would want our child to have a comfortable life. If we buy term 20 that takes care of the $400,000. but no more. We have the insurance through my husbands work but what happens when he retires; I know his work has flex dollars….sorry cannot remember all the details. Can someone tell us what would be the best product or products we should buy? thank you

  65. @ Stephanie, I’m far from an insurance pro, but I’m a believer of insurance covering debt and needed cash flow from the passing of an income provider. Here is an analysis I did a couple years ago that may help you get started: http://www.milliondollarjourney.com/determining-our-life-insurance-needs-i-criteria.htm

  66. Stephanie,

    Insurance is a wants product. Do you want coverage and for how long. Over the years we change what we want as life changes. For example having a family means you think differently than someone who has no kids. In my case I have two twin boys. In Ed Remple’s case (my understanding) is he has no childern, which means he has no kids which gives him a different perspective on insurance in general. Again insurance is wants product.

    If you read my article on annuities you could use the insurance as a way to guarantee a high after tax return in retirement. You don’t have to worry about returns. You have to look at cash flow. If money is tight maybe term is the only way.

    I sell a lot of insurance and a lot of investments. When I started out 16 years ago with Investors Group (I am independent now) I was taught you could expect 12% returns every year …later 10% ….later 8%. Now advisors are talking about 5 to 6% in retirement! So the idea of buying term and investing the difference seems good on paper but does not always work. There is much more I can add but I will leave it here for now.

  67. FT,

    Here is some new information your readers might want to review. From the Toronto Star
    By James Daw | Mon Oct 25 2010

    The cost today of insuring a life, no matter how long it may last, has remained roughly the same for many years.
    Statistics Canada and similar agencies in other countries do not track the cost of life insurance in their national consumer price index. But insurers can point to certain permanent life insurance policies that are cheaper now than 16 years ago.

    So coverage became more affordable for middle- and upper-income earners as wages rose. But, now, Canada’s leading seller of certain permanent policies is saying today’s prices cannot last.

    Manulife Financial Corp. says it expects interest rates will remain low, and there are not enough savings to squeeze from gains in efficiency, from policyholders living longer or from policyholders letting their coverage lapse early.

    My understanding is to also expect term rates to increase shortly as well.

    regards,

    Brian

  68. 70. uptoolate

    Hi Ed – at the end of the article, your quote goes,

    ‘In short, “Buy term and invest the difference” is wise advice for almost everyone.’

    Could you elaborate on who the very few individuals are who can benefit from having a UL policy?

    Happy New Year. Thanks. John.

  69. @John,

    Life insurance does two things provides a guaranteed amount for a family (at death) and in retirement, it allows one to have several options such as getting an annuity for some of the retirement funds (currently paying 8% or better in some cases, for life also guaranteed).

    Where else can $100,000 produce $7,000 to $8,000 or better in retirement every year guaranteed as one example?

    see http://www.milliondollarjourney.com/how-annuities-work.htm

    Life insurance rates have gone up because of the low interest rates, also as one gets older as well.

    The goal is to spend and enjoy you money in retirement, without having to worry about rates of return and pay less taxes.

    cheers,

    Brian

  70. 72. uptoolate

    @Brian

    Thanks for trying Brian but not really the kind of answer I was looking for. Was hoping Ed might have something to say on the topic as it’s pretty clear that permanent life is only an appropriate product for a very small portion of the population if really for anyone at all. If there is a group that would benefit in his mind, I would like to know who they might be and how the numbers break down so as to make the product beneficial too them.

  71. 73. George Jarvis

    Brian ,does policy holder receive the additional advantage of having premiums and other costs being paid within the policy with pre tax dollars generated within the policy during the years the policy remains active ? Thanks George

  72. 74. eric

    just want to share my experience. i bought manulife perform max in 1995. I was 28 years old. I paid about $60k over 6 years. when manulife went public (ipo), i got shares and sold it for more than $60k. my policy is really free. Now, the cash value is about $145k and growing by more than $10k a year. death benefit is like $750k. Not a bad investment. In my opinion, if you can afford it. Buy a little as early as possible. Yes, the cash value is not the greatest. However, it is an investment that you don’t have to be involved much. over long run, it returns is reasonable and tax free. Unlike term insurance, the death benefit goes up as time goes. If you live a long life, you can leave a large sum of money to your children or borrow money against it at late life.

  73. Good for you Eric!

    I think the main objection to Universal life is how the money is handled.
    Higher management fees etc. The Whole life policies (a different animal) grows more steadily and never goes down.

    The cash value always looks poor for the first 10 years. At year 15 plus it grow much better.

    I had a father-in law who had an old Maritime Life policy which was bought out by Manulife (he was paid over $50,000) and kept the policy. If you have the right type of policy you are in fact a owner (like a share holder).

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