We had three clients in the last month tell us that their mortgage broker/ accountant has told them to cut all costs (including life insurance!). These clients are now exposed to financial risk as they head to the bank for a mortgage on their new home.

Key Points:

• What is the risk?
• Where is the liability for advice?
• What are the options for people caught in this trap?

A real-world example: A 31-year-old male business owner, concerned about the effect it would have on him if he was unable to work for a period due to illness. He had a new policy for modest trauma and total & permanent disability benefit in place. This was cancelled because his mortgage broker advised him to cut all costs but the bare essentials.

Is this sound advice? I understand that banks consider income and expenses to make their lending decisions. I also appreciate that trying to get a mortgage can be very difficult (especially with the shifting goal posts of the current housing market).

That said, whose risk is it anyway?

There are too many examples of people who delayed getting personal insurance cover, often for very good reasons, only to have a life-changing event. The family in Christchurch who cancelled their policy for 6 months because times were tough; they couldn’t afford the funeral costs when the father died. The guy who thought his trauma was too expensive, so he just cancelled the whole lot, then had a heart attack within two months of cancelling. In this industry we hear these stories many times over.

In a country where institutions such as the FMA (Financial Markets Authority) and Financial Services Council lament the low numbers of insured people, could we do better? By many reports, only 30% of adult Kiwis have life insurance. Only 16% have income protection. Yes, 16%. ACC is great, but let’s remember what the name stands for: ACCIDENT. Most off-work claims are not accident related. The life insurance industry is trying to change that of course, trying to bring new people into the industry by having adequate cover. We’ve had regulatory change to ensure that we do this properly and are held accountable to the advice that we give.

So how does this advice framework apply to mortgage brokers and accountants? I am sure that I will open a can of worms here, but let’s see where this goes… Mortgage brokers are held to the same standards as financial advisers. The essential difference is that we can only give advice on our specialised area of expertise. My expertise is personal insurance. A mortgage broker’s expertise is with… mortgages. And for the accountants out there… there is not any liability with this type of advice for them.

Now, I will back up the truck a little… We don’t not know for sure that any particular mortgage broker or accountant specifically advised their clients to stop their life cover – but, as we have had stressed by the FMA, implicit and inferred advice can be confusing.

If the mortgage broker is not liable for advancing the idea of all costs being cut, and the accountant is not liable, what happens? If the insurance agent advised a client to cancel their policy, then the client died, that adviser would (in all probability) be held liable for that advice. Not so for the other advisers.

So, whose risk is it? The client’s, of course.

Our friend in the example could be diagnosed with motor neurone disease at 31. Within 6-12 months, he may be unable to work, and would have his life expectancy reduced to 2-5 years. If he were insured, would be paid out on both of his benefits, enjoying as best he could his end-of-life experience while covering the essential costs that go with this type of illness.

But our friend doesn’t have any cover anymore. Due to the advice he was given so that he can get a mortgage. It was implied that nothing bad will happen to him as a result. Which adviser is going to own that decision?

We all have choices. I get that. The housing market is crazy. I get that. But what options are we giving people with the advice we give?

Could our friend have made some other life choices so that he keeps his $30pwk cover? Maybe. For other people who are in a similar situation, what options are there? Choose your insurance stack wisely to cover your key risks, and match those to your budget. Get some help early on with personal money management, so that you are fully prepared for the bank application in 1-2 years’ time. Above all, when being told to cut your automatic payments so that you can meet your cost benchmarks, be sure to consider the risks. Stopping your gym membership for a few months is not the same as stopping your personal insurance for a few years. With one, you might gain a few extra kilos, with the other you might have financial ruin.