Life insurance products may be designed to maximize death benefits or cash accumulation. From an estate tax perspective, the need for the death benefit design has become less important. The reason is that other than the state estate tax exposure, most people are no longer concerned with the federal estate tax, since the federal estate tax exemption is currently $5,340,000 per person. The new wave of life insurance policies are trending toward a “cash accumulation design” for retirement income, with a number of enhancements that improve cash accumulation.
The cash accumulation design is geared toward tax-free cash accumulation and withdrawal for retirement income. The pure insurance coverage (i.e., death benefit amount which is a characteristic unique to insurance, the value of which should not be undervalued) is always a part of life insurance. However, in this case it is, from a design perspective, the death benefit amount is kept to the minimum amount necessary for the policy to qualify as life insurance for tax purposes. This type of design has merit because investment fees, income tax and capital gain taxes are a drag on investment return. If the investment is wrapped in a life insurance policy, the investment fees are generally less, and the cost of insurance charges is a substitute for the income tax charges. The question becomes which costs are more of a drag on investment return? In each case, the investor /policy owner has some control of both the tax and policy cost. In the case of the investor, it is possible to determine when the capital gains tax will be incurred through a sale of the investment. In the case of a policy owner, the cost of insurance can be minimized by appropriate policy design. In addition, the insurance death benefit provides a means to provide for family or other obligations should death occur earlier than anticipated.
A valid comparison must also factor in the type of investment that is being accumulated for retirement. This, in turn, requires a consideration of the accumulation risk/reward profile, the realistic assumed rate of return commensurate with that profile, and the various policy benefits, guarantees and enhancements. The fact is that not all life insurance policies, or companies, are created equal, and it requires a level of sophistication and knowledge of product that few outside of the insurance industry possess. Finally, any comparison should consider the ability to make additional contributions to tax qualified accounts.
If all you need is death benefit protection for a defined period of time at the lowest cost (with no cash accumulation potential), then consider term life insurance. This is often referred to as “buy term and invest the difference.” In this case, do not buy just any term, or even the term policy with the lowest quoted, since you may not qualify for the lowest premium. Underwriting is a big part of insurance, and it is better to have someone with knowledge of products, companies and underwriting to help you get the right policy, from the right company, with the right features, such as conversion privileges, for you and your family.
You should always consider how to structure ownership and policy beneficiary designations. There are a myriad ways to do this, and proper owner/beneficiary designation may not only provide for you and your family, but also result in tax savings. Regardless of your situation, do not ignore and do not undertake purchasing life insurance without knowing the facts. We are experienced life insurance professionals and are ready, willing and able to share our knowledge and expertise with you.
If you would like more information on this subject, or have a client who might benefit from a discussion about it, please contact Barry Koslow at bkoslow@mkaplanners.com or (781) 939-6050.
Securities offered through Advisory Group Equity Services, Ltd., Member FINRA/SIPC. 444 Washington Street, Woburn, MA 01801 (781) 933-6100.
This article should not be considered as providing accounting, business, financial, investment, legal, tax, or other professional advice or services. It is not a substitute for such professional advice or services, nor should it be used as the basis for any decisions or actions that may affect your business or you personally. This should only be one part of your research. You should seek authoritative guidance from a qualified accountant or attorney before taking any action.
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