Use The Cash Value To Supplement Retirement
Many financial experts recommend the â4% rule,â withdrawing no more than 4% of your savings in each year of your retirement. When you own a cash value life insurance policy, youâll have access to your policyâs cash value in addition to your retirement accounts.
This allows you to be strategic about your retirement spending. For example, after a down year in the stock market, you can withdraw money from your policyâs cash value instead of drawing down from your IRA, which will replenish your IRA savings.
What Is Universal Life Insurance
Universal life is a type of permanent life insurance. These policies combine lifelong coverage with a cash value that grows over time.
Permanent life insurance differs from term life insurance, which only lasts for a specific time period, such as 20 years.
Flexibility is a unique feature of universal life policies. Most universal life insurance policies allow you to modify or skip premium payments under certain circumstances.
You can also adjust the death benefit coverage amount more easily with a universal life policy than other types of life insurance.
A common feature across all types of permanent life insurance is a growing cash value you can borrow against. Cash value gains grow tax-free.
Universal life insurance policies accumulate cash value based on current interest rates. Your monthly or yearly premiums will likely increase as you age.
However, once your cash value is large enough, you can access part of it without affecting the policys guaranteed death benefit.
For this reason, some policy holders choose to pay the maximum premium during the first several years of coverage in order to grow a substantial cash value. That money can then be tapped to cover higher premium payments in the future.
Universal life insurance shares many similarities with whole life insurance.
A major difference is that whole life policies offer predictable, fixed premiums and guaranteed cash value accumulation while universal life policies feature adjustable premiums and death benefits.
The Risk Of Lapsed Insurance
To take distributions, of course, your insurance policy has to have a cash value. That’s never a problem with whole life, but universal life policies are designed differently. Earnings on the cash value are an important component in maintaining the policynot just the premiums you pay. Often, with universal life policies, the size of the premium varies based on how the investment portion of the policy is performing. In other words, the cash value of the policy isn’t just your cash cow it’s there to help pay for the insurance, supplementing or even covering your premiums outright.
Earnings on cash value are especially important during periods when the policyholder takes out a loan against the policy’s cash value. If you take out too much money and the cost of the policy exceeds the cash value,” Wilken says, “it’s similar to being underwater on your home.” If your insurance policy lapses, not only would you lose your death benefit all the funds you borrowed or withdrew from the policy would be considered taxable income.
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What Is A 702 Retirement Plan
702 plans are essentially permanent life insurance policies governed by section 7702 of the U.S. Code. When youre researching ways to fund your retirement, you might come across these names: 702 plan, 7702 plan, 7702 private plan, Infinite Banking Concept®, Bank on Yourself®, Become Your Own Bank, high cash value life insurance. These are all varieties of a 702 plan.
Despite the official-sounding name, a 702 plan is just a marketing term for a permanent life insurance policy governed by section 7702 of the U.S. Code. Insurance agents have used this term and topic a great deal over the past few years to convince people to buy permanent life insurance, says Samuel R. Price, an independent broker with Assurance Financial Solutions who sells life, disability, and long-term care insurance.
Those selling these products or strategies say they provide returns 40 to 60 times higher than the earnings from the cash sitting in your bank account. Which isnt hard when most savings accounts pay less than 0.1% interest.
Supporters claim that these plans give you a way to borrow for major purchases without having to qualify through a lender. They also say that the vehicles are a secret type of account that the government doesnt want you to know about but that major political figures, billionaires, and bankers are pouring their own money intowhich is highly questionable.
To understand how all this relates to retirement and savings plans, read on.
What Happens When You Retire
Another key benefit, in addition to the life insurance component, is that you can tap into your universal life policy for income after you’ve retired. The cash-value account within an insurance policy accumulates tax-free. Some people use the cash value in their life insurance policy to bridge the gap from retirement to age 70 when they can receive the highest Social Security benefit,” says David Wilken, former president of Individual Life Sales for Voya Financial. Others allow their policy to mature and cash out later to receive the maximum benefit.
“In general, the more time you allow your cash-value life insurance policy to grow, the better,” adds Wilken. “A good rule of thumb is to plan to wait at least 15 years before you begin taking distributions.
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Consider Maxing Out Other Vehicles First
This doesnt mean that no one should consider funding their retirement through life insurance. Vistica suggests that if youre already maxing out other retirement vehicles such as 401s and IRAs and have a life insurance need, you might be a good fit.
But Im not a big fan of using life insurance to help fund retirement, he says. Life insurance should first be viewed as a way to protect your family or business if something were to happen to you.
If youre older and have a high net worth, youll reap the most tax savings from life insurance withdrawals, although as Buerger notes, Tax savings are still tax savings.
If you dont need life insurance yet and havent reached your peak earnings, youll get a better deal with a Roth IRA. And if youre not contributing the maximum to your 401 and IRA, consider working these into your budget before branching into life insurance.
About the author:Alice Holbrook joined NerdWallet in 2013 and is an editor on the home/mortgages team. Her work has been featured by USA Today, MarketWatch, Newsweek and The Washington Post.Read more
There Are Two Parts To Every Premium Payment
The wealth-building component
The COI covers the cost of providing the death benefit and life insurance company administrative fees. Its typically the minimum premium needed to keep the policy in effect, and the COI rises over time because it is based mainly on the policyholders age.
Any premiums paid over the COI amount add to the policys cash value, subject to an upper limit set by the IRS. Different policies calculate cash growth in different ways. With Guardian, the minimum interest rate is guaranteed never to be lower than 2% annually and it can go higher.
Note that minimum premium payments reduce the accumulation of cash value. As COI rises over time, it can result in cash value erosion, to the point that the insurer may require higher premiums in later years to prevent coverage lapse. Thats why many people choose to build the cash value by paying maximum premiums for the first several years then using those funds if needed to help lower premium costs later on.
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Can You Fund An Early Retirement With Life Insurance
There are several ways to fund an early retirement, and life insurance is just one of them.
With permanent life insurance, you can take loans or withdrawals at any age, and there are no taxes due unless your withdrawals exceed your basis, which is, generally, the amount youve paid into the policy. However, other strategies, such as a Roth IRA or taxable brokerage account, allow you to withdraw funds before age 59 ½, and they dont require you to pay interest to access your money or keep funds in reserve to avoid a policy lapse.
For example, with Roth IRAs, you can withdraw your regular contributions at any time with no taxes or penalties. If you have money in pre-tax retirement accounts, you can establish a series of substantially equal periodic payments, also known as 72 payments, to avoid early withdrawal penalties. Alternatively, if your employer offers a 457 plan, you might be able to take withdrawals with no early withdrawal penalty.
Your taxable holdings generally are available at any time, and if you take long-term capital gains, the tax implications might be acceptable. Explore your options with a CPA because tax laws periodically change, and mistakes can be expensive.
How Does Universal Life Insurance Work
Universal life insurance is a type of permanent life insurance. It can cover you for the duration of your life, as long as the premiums are paid. Some forms of universal life insurance also offer a cash value component.
The cash value can build up investment gains .
You can take money out of cash value via a withdrawal or loan. The insurance company will reduce the payout to your beneficiaries by the amount of any withdrawals or outstanding loans if you pass away. But for some buyers, accessing cash value is more important than a full payout to beneficiaries later on.
See Forbes ratings of the best life insurance companies for cash value policies.
Like other life insurance policies, including whole life insurance and term life insurance, you can add a variety of riders to universal life policies. Riders are a way of adding extra coverage or features, usually at extra cost.
One example is an accelerated death benefit rider. Often included with policies at no additional cost, it lets you take money from your own death benefit if you are diagnosed with a terminal illness. Other common options are chronic illness riders and long-term care riders, which both let you take money from the death benefit when you have certain health conditions.
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Dont Have A Financial Professional
North American can help connect you with a financial professional today.
The term financial professional is not intended to imply engagement in an advisory business in which compensation is not related to sales. Financial professionals that are insurance licensed will be paid a commission on the sale of an insurance product.
1. Policy loans from life insurance policies generally are not subject to income tax, provided the contract is not a Modified Endowment Contract , as defined by Section 7702A of the Internal Revenue Code. A policy loan or withdrawal from a life insurance policy that is a MEC is taxable upon receipt to the extent cash valueof the contract exceeds premium paid. Distributions from MECs are subject to federal income tax to the extent of the gain in the policy and taxable distributions are subject to a 10% additional tax prior to age 59½, with certain exceptions. Policy loans and withdrawals will reduce cash value and death benefit. Policy loans aresubject to interest charges. Consult with and rely on your tax advisor or attorney on your specific situation.
Neither North American Company for Life and Health Insurance® nor its agents give legal or tax advice. Please consult with and rely on a qualified legal or tax advisor before entering into or paying additional premiums with respect to such arrangements.
How Can You Use A Lirp To Fund Retirement
Using a life insurance retirement plan is a fairly simple process: just overfund the policy during your saving years and let the cash value in the policy grow. Then take out distributions from the policy in the form of tax-free loans during retirement. When you die, your beneficiaries will receive the full death benefit minus the amount that you withdrew while you were retired.
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What Is The Cash Value Of A Lirp
The cash value is the savings component that comes with all cash value life insurance policies . The cash value earns interest at either a guaranteed or variable rate. With whole life policies, the rate is guaranteed. With universal life policies, the rate is variable and fluctuates in tandem with the prevailing interest rate environment. With indexed universal life policies, the rate is linked to the performance of an underlying financial benchmark index such as the S& P 500 Index. The interest paid in a variable universal policy is based upon the performance of the mutual fund sub-accounts inside the policy.
Average Cost Of Guaranteed Universal Life Insurance
Averages below are examples of annual rates for a $1 million GUL policy for healthy non-smokers, guaranteed to age 100 or older.
Averages are based on the five cheapest quotes we found online for a $1 million guaranteed universal life policy, for healthy non-smokers of average height and weight.
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Life Insurance Retirement Plan Pros And Cons
We previously mentioned the option of using life insurance retirement plans such as Index Universal policies. Although it is indeed an option, is it necessarily the best option for you? Heres a look at life insurance retirement plan pros and cons, and factors you should consider before purchasing a policy.
Types Of Universal Life Insurance
There are a few common types of universal life insurance policies and its crucial to understand what youre buying. Their costs and features are quite different.
Compare: Types of Universal Life Insurance
Guaranteed universal life
Might lapse if you miss even one payment
Participation rates and caps can limit your cash values upside in a good market
You usually need to manage your sub-accounts and could lose your cash value if your investments drop
Heres how universal life policy types stack up in terms of premiums being paid into them, according to LIMRA, an industry research group. This based on total individual life insurance premiums in the first quarter of 2020:
- Guaranteed life: 10%
- Variable universal life: 7%
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Is Iul Really Worth It
So is there anyone who would clearly be better off with an indexed universal life policy? There is an argument to be made for having one if you are a high-net-worth individual and do not want your family to face a giant tax bill after your death. Irrevocable life insurance trusts have long been a popular tax shelter for such individuals. If you fall into this category, you probably want to talk with a fee-only financial advisor to discuss whether buying permanent insurance fits your overall strategy.
For just about everyone else, though, its hard to find a compelling reason to choose IUL over term insurance, especially if you have not yet maxed out on contributions to your retirement accounts.
Life Insurance Retirement Plans Explained
A life insurance retirement plan is a permanent, or cash value life insurance policy that is funded over time, in order to build up a substantial amount of cash value by the time you retire. You can use any type of cash value policy to do this, but some types of coverage have historically grown faster than others although the policyholder might have had to take on some market risk to get there. LIRPs are designed to provide retirement savers with a supplemental source of income on top of their IRA and retirement plan distributions, after they stop working.
LIRPs do not offer some of the tax advantages that IRAs and qualified plans can provide, such as pre-tax or deductible contributions. But they can also provide a few benefits that IRAs and qualified plans cannot match. For example, there is no age requirement for distributions from a LIRP. IRAs and qualified plans will penalize you for any distributions taken before age 59 ½, unless a qualified exception applies. Furthermore, LIRPs can often guarantee the investors principal and interest, unless the investor is contributing to a variable universal life insurance policy.
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Life Insurance Retirement Plans Vs 401s & Iras
Regardless of which kind of life insurance policy you decide to buy, dedicated retirement accounts such as a 401 or an IRA should still be the primary way you fund your retirement. Cash value life insurance has limited investment options and relatively low rates of return compared to dedicated retirement investment options.
A401 is a retirement savings plan that employers offer to employees. Many employers also match a certain percentage of employeesâ contributions to their 401s.
AnIRA is a retirement savings plan that you open and fund on your own. IRAs can be used alone or in addition to an employer-sponsored 401.
What Is Indexed Universal Life Insurance
Indexed universal life insurance is a type of permanent life insurance coverage. When you buy a policy, youre covered for the rest of your natural life as long as your premiums are paid. When you pass away, the policy pays out a death benefit to your beneficiaries.
During your lifetime, an IUL insurance policy can accumulate cash value. Part of the premiums you pay are allocated to a cash-value account. That account tracks the performance of an underlying stock index, such as the Nasdaq or S& P 500 Composite Price Index. As the index moves up or down, the insurance company credits the cash value portion of your policy each year with interest.
IUL is different from fixed universal life insurance or variable universal life insurance. With fixed universal life insurance your rate of return is guaranteed, making it the least risky of the three. With variable universal life insurance, your cash value account is invested in mutual funds and other securities so youre exposed to more risk. An indexed universal life insurance policy fits in the middle of the risk spectrum.
Cash value that accumulates inside an IUL insurance policy grows tax-deferred. You can borrow against this cash value if necessary, though any loans left unpaid at the time you pass away are deducted from the death benefit.
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