RISCARIO INSIDER

March 30, 2013

THE BATTLE BETWEEN TEMPTATION AND PERSONAL RESPONSIBILITY

It's all your fault. You’re not a baby.

If you're eating too much, that's your fault. No one is shoving food into your mouth. If you're saving too little, that's your fault. No one is telling you how to spend your money. If you're gambling, that's your fault too. No one is dragging you to the casino.

We are adults. We make our own decisions. We accept the consequences. Unfortunately, there are big forces working against us. They don't take responsibility because we are supposed to have the education how to choose wisely.

On the money side, we have financial literacy but does the financial sector make more money when you make better financial decisions (see do your advisors help with your financial literacy and Pound Foolish).

On the food side, we have eating guidelines. On the gambling side, we have warnings.

The Other Hand

Unfortunately, we also face temptation wherever we look. Isn’t that the purpose of marketing, advertising and sales? There are ways to manipulate us and deplete our willpower (see Dan Heath explain the radish experiment). Our decisions suffer.

Food companies earn more when we eat more. Unfortunately obesity rates keep increasing. In the US, 35.7% of adults are already obese and the trends aren’t changing (Reuters, Sep 2012). Food consumption has increased 600 calories a day since 1970 and bagels have doubled in size since 1990 (Reuters, Sep 2012). In Canada, adult obesity is at record highs (Toronto Star, Feb 2013). Maybe food is a factor?

Financial companies earn more money when we buy high margin products like mutual funds. Casinos and governments win when we gamble.

Shareholders demand profits. You expect them to but there are consequences. Since habits start young, even children get targeted. Within three years of a new 1988 campaign, 90% of six year olds knew about Joe Camel (Seattle Times, Dec 1991). Market share among underage smokers grew from under 1% to over 32% (Wikipedia).

Big Food advertises to children and the offerings are not always healthy choices. Taco Bell proposed a fourth meal between dinner and breakfast — and not fruit or veggies (AlterNet, Nov 2012).

Better Decisions

Rather than waiting for the world to change, we need to make ourselves understand how the world works. That helps us make better decisions. Since we are responsible for the outcome, we might as well learn how to decide better. Decisive, the new book from Chip and Dan Heath may help (my blog post).

Lots of research goes into how we make decisions … and gets used against us. It's worthwhile understanding how irrational we are. Dan Ariely is running a free course over the next 6 weeks on Coursera: a beginners guide to irrational behavior. Sign up here.

Podcast 213

direct download | Internet Archive page | iTunes

PS This weekend, the Easter Bunny is making temptation tough to resist.

March 23, 2013

BUDGET 2013 PUNISHES THE INNOVATION OF “10-8” INSURED LEVERAGING

Ernst & Young’s most recent research shows 88% of global survey respondents across a wide number of industries agreed that innovation was the one genuine differentiator and advantage they have over the competition.
— The Globe and Mail (Mar 22, 2013)

It’s Spring. One of the saddest songs is Flowers Are Red. It’s not just because Harry Chapin died early but because innovation gets punished. A child starting school gets forced into conformity. What a loss.

The 2013 federal budget punishes innovation in life insurance by wanting to remove the tax advantages of “10-8” insured leveraging strategies which were first introduced in the 1990s.

The Problem

Besides a tax-free death benefit, life insurance offers other advantages such as tax-sheltered growth (to learn why, see How Pink Floyd’s insights on mortality help you). Unfortunately, investing inside life insurance has consequences.

With term life, you can’t invest. With whole life, you can’t choose the investments (among the perils of whole life insurance). With universal life, you pick the investments but face two major drawbacks: limited choice and high investment expenses like mutual funds (see what are you doing about your high investment expenses?).

If only you could invest in the “real world” with options like ETFs, stock, bonds and real estate.

Leverage

Insured leveraging provides a solution:

Deposit cash into a universal life insurance policy (tax-sheltered growth)
Borrow against the savings (secure collateral that continues to earn tax-sheltered growth)
Invest the proceeds (investment flexibility)

This process allows tax-sheltered growth on the loan collateral, the flexibility of investing in the “real world” and deductions on the loan interest. If your investments earn more than the after-tax cost of the loan, you’re ahead.

There’s a risk. The gap between what you pay on the loan and earn on the collateral fluctuates. With “10-8 leveraging”, the gap is guaranteed at 2%.

Several insurers introduced “10-8” strategies (RBC Life, BMO Life, National Life, Industrial Alliance, Transamerica). Before becoming independent in 2009, I worked for two. The strategies were endorsed by leading accounting firms and sold by top advisors across Canada.

Flagship

Insurance products are essentially commodities (similar designs, similar prices, similar compensation). Strategies (packaged solutions to specific needs) offer a competitive advantage to the insurers. Since there are oodles of advisors, the ones who master new strategies have an edge too. Innovation brings rewards.

“10-8” strategies became the flagship offerings for the life insurance sector — much like the S-Class in automobiles (see Mercedes’ next flagship does the commuting for you in Wired, Dec 2012). Few advisors had the skills to sell “10-8” or suitable clients. Even so, the attraction of “10-8” opened conversations. There was demand for presentations that insurance advisors, accountants and clients could understand. Communication became the battleground for innovation.

CRA

Strategies which help you can hurt tax collections. The Canada Revenue Agency was unhappy about “10-8” strategies. This lead to legal challenges which ended in 2011:

During the court proceedings, the CRA was forced by the court to produce some documents of its own — material revealing that the CRA, apparently in conflict with some of its public statements, believes that 10/8 products probably conform with the formal requirements of the Income Tax Act, if not its spirit. — CRA rebuked for ‘fishing expedition’ (Investment Executive, Dec 2011)

The future of properly-implemented 10-8 strategies looked good, though Jamie Golombek warned, "We have to wait and see whether Finance issues a comment, announces legislation or just stays out of it." (Investment Executive, Dec 2011)

The 2013 Budget

Two days ago, the March 2013 federal budget proposed changes to eliminate the appeal of “10-8” leveraging and leveraged insured annuities. You’ll find the details in Investment Executive.

The Future

Vast resources were committed to “10-8 leveraging” prior to the introduction and ever since. I invested years and did countless presentations to advisors, accountants and clients. I prepared many proposals too.

When innovation gets punished, there’s less innovation in the future. We all lose. We soon see flowers as red and leaves as green. To quote Harry Chapin:

There’s no need to see flowers any other way
Than the way they always have been seen.

Podcast 212

direct download | Internet Archive page | iTunes

PS Do you have a fave Harry Chapin song?