Family Financial Planning -- Mortality Benefits for your Dependents

Surprise, surprise! I have yet to meet a client eager to speak about their own death.

Of course when engaged in family financial planning, one is often dealing with younger individuals so investment returns and retirement goals are obviously far more interesting and pleasant to talk about.

Nevertheless, it is an important part of my job to confront a client’s mortality, because the consequences of not doing so could be devastating to their family.

Capital needs in the event of death will vary significantly according to your specific circumstances. For example, if you are the sole breadwinner with young children or are supporting your parents financially, then this should be the main focus of your financial planning whereas a wealthy individual might need only to consider capital needs within the context of optimising an estate plan, regardless of whether or not there are financially dependent children.

Overall there are two basic principles to bear in mind when assessing your family’s capital needs, should the proverbial bus knock you over.

1. The source of capital for your family's requirements is not that important

   Capital can come from investments, assets or life insurance cover.

   Ideally assets and insurance should be inversely related, so as investments and savings increase over time, your life insurance cover can decrease.

   Most people are likely to reach retirement age rather than die at a young age, so it makes no sense to pay for unnecessary life insurance cover. The money could be put to better use by investing it for retirement or paying off debt.

   However, the average South African is badly under-insured and life cover should form an important part of most portfolios. Bear in mind that it becomes more difficult and more expensive to obtain life cover at an older age, due to declining health.

2. Understand How Much Capital Your Dependants Will Need

   Calculating the amount of time that your capital lasts can lead to a shocking realisation.

   With regard to living expenses, here is a rough rule of thumb. R1m should provide your family with an income of R5,000 a month, increasing with inflation, for 20 years. This yield may seem a bit low at first glance, but remember that the R5,000 does need to increase with inflation each year to maintain purchasing power. In addition, it is unrealistic to rely on high investment returns if regular withdrawals are going to be made from the capital.

   A breadwinner should ideally leave behind enough capital to pay off the bond on the family home and other debts as well as providing for ongoing living expenses. Although it may be possible for your family to source capital by selling the family home and moving into a flat, this may not be preferable for lifestyle reasons and a big change like this is not easy for a family already reeling under the blow of a traumatic loss.

It is important to consider capital needs whenever you review your estate planning.

The large increases in property values and share market gains over the past few years, and the introduction of capital gains tax in 2001, have changed the planning landscape. Unless your assets are transferred to your surviving spouse, they will be revalued at death and your estate will be liable for capital gains tax. Given that your estate may also require cash for specific beneficiary bequests, settling debts, paying executor fees and estate duty itself, it is possible that there could be a cash flow shortfall. This could result in the forced sale of assets, and selling prices would probably be significantly below market value.

Capital needs on death can be managed years in advance with careful planning.
Depending on an individual’s wealth and circumstances, it may make sense to transfer growth assets into a trust. This would reduce your overall estate and reduce many of the problems highlighted.

Trusts can also be appropriate where beneficiaries may be financially irresponsible or naive, as the trustees should protect them from squandering their money. However, use of a trust must be considered carefully. Compliance costs are increasing and recent court cases have emphasised that the settler of a trust must be prepared to relinquish exclusive control over the trust’s assets.

If you are likely to need all your assets and investments to fund your retirement, then setting up a trust may not be a good idea at all.

It is clear that there are a number of issues to consider. My advice is to engage an independent, fee-based certified financial planner who is focused on your best interests and can provide impartial advice. If you do not have such a financial planner, visit the website of the Financial Planning Institute on www.fpi.co.za to select one.

Richard Sparg, BBusSc CA (SA) CFP, is a certified financial planner and works for Netto Financial Services.