This article is inspired by a sharing from Connie Chan, a regular at KCLau.com. It depicts failed considerations made by a local newly wed couple in buying MRTA for mortgage settlement purposes and their consequences. Here, as Connie has written her story in Mandarin, I would recreate a similar story without losing its essence for the benefit of all.
Link: Connie Chan’s Mandarin Article – MRTA
Now, here is a similar story:
Years ago, there was a newly wed couple namely, Mr. and Mrs. Lim.
Mr. Lim made RM 7k a month as an IT engineer. His wife earned RM 4k a month as a HR executive. They took a mortgage worth RM 450k to buy their residence. Its installment is RM 2k a month and Mr. Lim was servicing the payments in full, despite it being a 50:50 joint-mortgage.
In regards to MRTA, they bought a MRTA policy that covers RM 450k, where the sum assured was also splitted 50:50 between them. If Mr. Lim passes away, this policy will settle ‘his portion’ of their mortgage or vice versa. They thought such a policy was sufficient to cover for their home mortgage.
Then, tragedy struck.
Mr. Lim passed away. His death has led to the following questions:
1. How much is the mortgage balance?
At that time, they owed RM 400k in mortgage balance, which was close to their MRTA policy’s sum assured. As such, the mortgage balance was settled partially and was successfully brought down to RM 200k.
2. Is the mortgage installment cut into half?
No. The bank still requires RM 2k a month in installment payments as usual. For Mrs. Lim, she was burdened as the installment is 44% of her monthly income of RM 4.5k. If Mrs. Lim has other financial commitments, her cash flow situation is tight and may possibly go in the ‘negative’.
Hence, it is crucial to note that MRTA can help settle ‘debt amounts’. But, MRTA may not improve your monthly cash flow if the mortgage is settled partially and not in full. In this case, the Lim’s failed to consider this element and thus, places greater burden on Mrs. Lim’s monthly cash flow unintentionally.
Thus, instead of 50:50, they can consider having Mr. Lim to be the sole life to be assured in the MRTA policy as he is servicing the debt installments in full. If that was the case, it is possible for the loan to be fully settled upon Mr. Lim’s death.
3. Could Mrs. Lim, have the loan duration extended?
Well, she can try. But, to do this, she needs to talk to her banker and make legal payment to restructure the existing loan agreement. In the meantime, Mrs. Lim has to continue servicing RM 2k a month in mortgage installments.
4. How could such a financial burden be relieved?
There are several ways Mr. Lim could have gone about it to do so:
First, Mr. Lim can buy a life insurance policy or policies and nominate his wife as his beneficiary. Upon his passing, Mrs. Lim could inherit the insurance proceeds and choose to, either settle the full mortgage balance or service the installment on a monthly basis as usual.
The first option offers certainty in Mrs. Lim’s usage of this sum assured. But, the prices are a reduction in cash buffer, liquidity, and opportunities to invest. Here, it is possible that Mrs. Lim might not fully maximize the potential of this money, but then, we know for sure that this money is not squandered away.
The second option offers Mrs. Lim a potential to maximize wealth. But, this also comes with an opportunity to squander away the insurance money due to poor investment decisions, abuse, and luxurious spendings. There is a possibility that Mrs. Lim could come off financially worse than before.
Thus, Mrs. Lim should weigh both their pros and cons to decide better on these financial options.
Second, Mr. Lim can set up his own living trust and place cash into it. If he really did so, Mrs. Lim can collect cash payouts from the trustee if she is nominated in the living trust as a beneficiary.
Third, Mr. Lim can nominate his wife as a beneficiary to his EPF account. If so, in Mrs. Lim’s case, she can inherit his EPF money and use it to service its mortgage installments.
Otherwise, without insurance and living trust, Mrs. Lim will need to continue its mortgage installment payments out of her own savings.
5. But What About Mr. Lim’s Financial Assets?
Aren’t they automatically transferred to Mrs. Lim upon Mr. Lim’s passing?
Mr. Lim’s financial assets (cash, FDs, stocks and properties) shall be frozen upon his passing. It takes time to have them transferred to his legal beneficiaries. The amount of time taken is dependent on the existence of Mr. Lim’s will. If let’s say Mr. Lim has a written will, the process is faster. Otherwise, the entire process to expedite the transfer will be much longer.
So assuming Mr. Lim had a written will, Mrs. Lim will need to locate his will, find its executor and have the executor apply for its grant of probate (GP). Then, the executor will need to collect Mr. Lim’s estates, settle all of his debts and taxes in full, and finally distribute them to his beneficiaries. The entire process may take 1-2 years to complete. Without a will, the time taken can be up to 2-5 years.
Hence, in the meantime, Mrs. Lim has to service the mortgage installments, out of her own pocket as Mr. Lim’s financial assets were ‘frozen’. This shall add onto her financial stress.
In short, I like to leave all of you some pointers as follows:
1. MRTA is great to settle debt. But, we need to consider reducing the cash flow burden of our intended beneficiaries.
2. MRTA is more practical if the life assured is the major breadwinner or biggest income contributor of the family or partnership.
3. Estate planning is essential to ensure financial stability in a family. In the case for the Lim’s, they should use a combination of will, trust, life insurance policies and EPF to structure a financial safety net to meet emergencies in life.
Once again, special thanks to Connie Chan.
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