FEGLI – Is it really good for me?

First published on PSRetirement.com
http://www.psretirement.com/fegli-good-for-me/

FEGLI –It sounds like a fancy pasta dish…Is it really good for me? by Gary Fouts

A “Recipe” for success with FEGLI!

Is FEGLI really good for me? Like all other benefits that are offered by our employers or the government, it DEPENDS! We need to take a quick look at how to evaluate life insurance in general and then take a deeper dive by reviewing the basic features that FEGLI dishes up (I know–a real stretch for a recipe analogy!).

Here’s the “Big Picture.” Federal Group (Term) Life Insurance = FEGLI. It is just that–Group Term Life Insurance. It has pros and cons, but we must understand insurance basics before we can master the FEGLI ingredients.

“Do I need Insurance?” You might have found yourself asking that question. We must understand that Life Insurance, in general, is a tool used by individuals to transfer the risk of their pre-mature death on to a company or companies and share that risk with a larger pool of people (premium payers). Next, ask yourself what are the most popular reasons why people purchase life insurance? Is it purchased for providing their loved ones a source of income, pay off outstanding debts, prepare for large purchases in their absence (college/wedding), or perhaps estate planning? In all cases, one must choose the correct type and amount of insurance to accomplish his or her intended objective. (SPECIAL NOTE: In almost all cases, you will have passed away when these objectives are met!)

Be Sure To Read Other Gary Fouts Articles

At this point you are probably thinking okay, so I may need insurance, but how much and what type of life insurance will it be? The “Type” we will address a little bit later–for now let’s take a look at the amount of insurance that might be needed. It would be great if we could provide the perfect equation so that you could determine, down to the penny, the exact amount of insurance you will need. Simply put it is not that simple! However, let’s use some practical wisdom as guidance to assist us in answering this question.

For instance, if you are just addressing the life insurance question as a result of the debts in your life, then it can be pretty straight forward. Total all of your large outstanding debts and expenses that you have now or intend on funding in the future. This is your debt based need for life insurance. For example,

Mortgage Debt – $200,000

Auto Debt – $ 25,000

Emergency Fund- $ 30,000

2x College Funds- $ 80,000

Revolving Credit- $ 20,000

FINAL Expenses- $ 25,000

TOTAL DEBT BASED NEED $380,000

If, on the other hand, you are going to use insurance to provide income replacement for your family, it can be a little tricky, but it might look something like this:

Annual income needed for Surviving Family- $ 131,000

Subtract the guaranteed income sources- ($ 45,000) (SSA, Survivor Pensions, possible investments…)

Subtract spouse’s Income- ($ 36,000)

Your Adjusted Replacement Income (ARI)- $ 50,000

Multiply ARI by the Number of years needed- 10 years (can be between 5 and 20 yrs)

TOTAL REPLACEMENT INCOME NEED $500,000

Remember your purchase can also be a combination of the two examples above. It is possible that a need upwards of $880,000 is in order in this example! This will all depend upon what one is trying to accomplish with the life insurance purchase and the other family demographics/dynamics.

Okay, now what about the type of life insurance? To answer this question, let’s draw a fundamental distinction between the two largest categories of life insurance–Term (temporary) or PERM (permanent). Term insurance, as the name suggests, will cover your life for a “term” or a specific but limited period of time–5, 10, 15, 20 years, etc. Its primary advantage is low cost because it is less expensive than permanent insurance. Permanent insurance, on the other hand, will provide you with a lifetime of death benefit coverage as long as you meet certain premium payment requirements. It is a more costly option but comes with a host of other features such as cash value accumulation possibilities, tax deferred growth on that cash value, and health and wellness riders that assist with your aging continuum of care. Finally, so long as you pay your premiums, it will be there when you need it! Now that we can distinguish between the two basic categories, let’s address the question “what type will I need?”

Think of those earlier paragraphs. Do you plan to use the insurance on a permanent need (e.g. income generation) or a temporary need (e.g. mortgage debt)? If you are going to solve a temporary need, then, by all means, use a temporary product–term insurance–to accomplish this. It will almost always be a more cost-effective solution. Have the term insurance amount and the term length cover the size and duration of your debt. If you are attempting to solve a more permanent solution like a survivor’s income, use a permanent product to accomplish this endeavor, such as whole life, universal life, or indexed universal life insurance. While it may cost more initially, over the life of the policy, you should be able to reclaim 100% of the premiums that were paid in to the policy. With this base of understanding, we are now able to tackle the FEGLI ingredients.

FEGLI is made up of 4 primary components (ingredients in our recipe analogy), and a good understanding of each is important. FEGLI provides Group Term Life Insurance for the Group members. It builds no cash value and expires when premiums are not paid or certain conditions of the TERM are not met. A member of the group does not need to medically qualify for this type of benefit. Let’s investigate these ingredients:

FEGLI BASIC Coverage -This is the base of your recipe. All other options will build upon this base. If you are an eligible federal employee, you are automatically enrolled in this benefit. It is automatic based upon joining the group. You may refuse coverage at time of hire if you desire. The benefit is calculated as follows: Your basic pay rounded up to the nearest thousand dollars plus $2,000 dollars. It is referred to as your Basic Insurance Amount (BIA). Here is an example: John Q Federal makes $59,672 annual basic pay. His FEGLI Basic would equal $59,672 rounded up to $60,000 plus $2,000 or a total BIA of $62,000. One caveat: If you are under age 45 you will automatically have additional coverage referred to as “Extra” coverage without the need to pay additional premium costs. Once you reach the age of 45 that Extra coverage will vanish. The BIA can be carried into retirement for the Federal employee. The BIA can be eliminated or reduced by 50% or 75% as you head into retirement, depending upon your desires. Each has a reduction in the cost of the insurance. SPECIAL NOTE: Choosing the 75% reduction option will allow you to quit paying premiums at age 65 and the value of the Death Benefit will reduce to 25% of its retirement value. Put simply, the above employee could have elected a $15,500 ($62,000 x 25% = $15,500) death benefit and never paid another premium after age 65!

FEGLI OPTION “A” Coverage – This is like a little secret ingredient of insurance spice. It seasons or complements your Basic Coverage. It is set at a fixed $10,000 in coverage. You will be permitted to carry it into your retirement years if you so choose, but it will automatically be reduced when you turn 65. It will reduce by 2% a month until it reaches a 75% reduction at $2,500 dollars. Remember, it is FREE starting at age 65. It is age band priced and at ages 60 to 64 the current rate is $13.00 per month. It can be that nice little spice to your BIA.

FEGLI OPTION “B” Coverage – This is an additional protein in your recipe–it can have some real meat to its value! The amount of coverage is determined by multiplying your final basic pay rate rounded up only (no additional $2,000 added) to the next nearest thousand dollar increment. You may have up to five (5) multiples of this type of coverage. Using the example above: John Q. Federal has a basic pay of $59,672; therefore, his OPTION “B” amount would be rounded up to $60,000 per multiple with up to 5 multiples or an additional $300,000 of coverage. The OPTION “B” Coverage may also be carried into retirement so long as you have had it in effect for the last 5 years prior to retiring from federal service. It may also be reduced by 50% or 75 % like option BASIC, but it will still cost you in ALL years you keep the coverage. As mentioned, the cost can be very steep. After we highlight OPTION ”C,” we will look at a sample cost benefit analysis of a Federal Employee’s full FEGLI election.

FEGLI OPTION “C” Coverage – This family coverage is the tasty topping in this recipe. It is both favorable in cost and effectiveness while you are working and raising your family. You can have up to five (5) multiples of this coverage for your spouse and children who are under age 22 (special conditions apply for children out to age 26). The spousal death benefit coverage is in multiples of $5,000 while the children’s death benefit is at $2,500 per child covered. When you retire, you may either elect to keep this coverage at age banded rates or reduce this coverage, as well.

Let’s take a look at 63 year old retiring Federal Employee John’s FEGLI Decisions. He elected this benefit over 29 years ago and took the full FEGLI Coverage Option. He has Basic, Option “A”, 5x OPTION “B” and 5x Option “C”. He believes he is going to keep it all into his retirement. How does that break down?

Here we go with our example:

John Q. Federal Annual Salary $59,672

BASIC Coverage $62,000 ($59,672 rounded up to nearest $1,000 = $60,000 plus $2,000)

OPTION”A” Coverage $10,000

OPTION “B” Multiple Amount $300,000 ($59,672 rounded up to the nearest $1,000 = $60,000 x 5 = $300,000)

OPTION “C” Coverage $25,000 (Spousal only at this time since all children are over age 26)

Option 1 – Fully loaded FEGLI Election with NO reduction in any benefit option:

BASIC

OPTION A

OPTION B

OPTION C

BENEFIT / COST

Age 63

$62,000 / $140 per mo.

$10,000 / $13 per mo.

$300,000 / $381 per mo.

$25,000 / $29 per mo.

$397,000 / $563 per month

Age 65

$62,000 / $120 per mo.

$10,000 / FREE

$300,000 / $402 per mo.

$25,000 / $34 per mo.

$397,000 / $556 per month

Age 70

$62,000 / $120 per mo.

$2,500 / FREE

$300,000 / $741 per mo.

$25,000 / $39 per mo.

$397,000 / $900 per month

Age 75

$62,000 / $120 per mo.

$2,500 / FREE

$300,000 / $1,170 per mo.

$25,000 / $52 per mo.

$397,000 / $1,342 per month

Age 80

$62,000 / $120 per mo.

$2,500 / FREE

$300,000 / $1,560 per mo.

$25,000 / $71per mo.

$397,000 / $1,751 per month

Option 2 – Possible Streamlined FEGLI Election with an understanding of the ingredients: (75% Reduction in BASIC and OPTION”A” and a Full Reduction in OPTION “B” at retirement)

BASIC

OPTION A

OPTION B

OPTION C

BENEFIT / COST

Age 63

$62,000 / $20 per mo.

$10,000 / $13per mo.

$300,000 / $338 per mo.

$25,000 / $29 per mo.

$397,000 / $400 per month

Age 65

$62,000 / FREE

$10,000 / FREE

$300,000 / REDUX – FREE.

$25,000 / $34 per mo.

$397,000 / $34 per month

Age 70

$15,500 / FREE

$2,500 / FREE

FULL

REDUX.

$25,000 / $39 per mo.

$43,000 / $39 per month

Age 75

$15,500 / FREE

$2,500 / FREE

$25,000 / $52 per mo.

$43,000 / $52 per month

Age 80

$15,500 / FREE

$2,500 / FREE

$25,000 / $71per mo.

$43,000 / $71 per month

As can be seen by the above examples, there are many choices. In option 1, John is funding all of his post service insurance needs with this Group Term insurance. It can be very costly–look at the age 70, 75, and 80 costs of insurance! He is likely to overreact and drop all this FEGLI coverage due to cost. Why not keep the FREE insurance and cover only those things he really needs insurance for? Perhaps he has a need for 10 more years of coverage for a mortgage risk and needs an additional $100,000 of coverage above his $18,000 he already gets FREE from FEGLI. He could keep the FREE FEGLI as depicted in Option 2 and find private insurance for the remaining $100,000. This is all based upon his ability to qualify for private life insurance through medical underwriting. In this scenario, we left the coverage for his spouse so that John could take care of her final needs with the $25,000 coverage he kept on her.

There are many options to choose from when you are making your FEGLI Life Insurance choices. As we mentioned at the beginning of this article, the correct choice is…IT DEPENDS! We generally recommend the following 4 pieces of advice to all FEGLI participants:

DO NOT DROP FEGLI COVERAGE TOO EARLY. Do not throw away your FEGLI benefits until you have had a thorough insurance evaluation. Evaluate both your understanding of your FEGLI options and your ability to qualify for a private alternative to FEGLI. You are not able to re-instate FEGLI after you have discarded it. You can accomplish this evaluation by yourself, or you can seek the guidance of an advisor. Make sure that your advisor completely understands the FEGLI options inside and out and is an excellent financial planner, not just an insurance sales person.
USE THE CORRECT TYPE OF INSURANCE. Be sure to compare in a fair and unbiased fashion a permanent solution using permanent insurance strategies. Do not get tricked into solving a permanent problem, like a lifetime of income for a family, with a temporary solution such as a 10 year term policy. Your term will inevitably expire right before the family needs it. This is the number one thing I see in my office. FEGLI is misunderstood, and people replace the wrong elements of it with the wrong type of coverage.
FREE IS A GOOD THING! Keep the FREE FEGLI insurance. Remember, a well executed FEGLI plan will give you and your loved ones some amazing benefits for a very low cost if selected properly!
INTEGRATE INSURANCE DECISIONS INTO YOUR RETIREMENT PLANNING. Like all benefits, in order for you to master the recipe of your FEGLI decisions, make sure that you or someone you trust has integrated the understanding of insurance and FEGLI into your overall retirement plan. Insurance decisions made in isolation can be dangerously costly for federal employees!
FEGLI can be a great benefit. Do not just throw it away without understanding what you have. I am sure that if you follow this common sense recipe, you will be pleased with the result!

FEGLI – Is it really good for me?

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