Do I Need Life Insurance in My Estate Plan?

Do I Need Life Insurance in My Estate Plan?

Not sure why you need to consider life insurance when planning your estate during retirement? You’re not alone if you don’t fully understand the value and benefits that life insurance can give you as part of a retirement plan. Kiplinger’s recent article, “Don’t Overlook Advantages of Making Insurance Part of Your Retirement Plan,” says many folks see life insurance as a way to protect a family from the loss of income in the event a breadwinner passes away during their working years.

If that’s your primary purpose in buying a life insurance policy, it’s a solid one. However, there are many additional benefits that life insurance can bring to your estate plan during retirement, including that income-replacement function.

When a spouse passes away during retirement, the surviving spouse frequently struggles financially. Some living expenses might be less when there’s just one person in a household, but the reduction in costs rarely makes up for the drop in income. One of the two Social Security checks the couple was getting goes away, and a pension payment may also be lost or reduced by 50% or 75%. Life insurance can be leveraged to make certain there’s sufficient cash to compensate for that missing income. This lets the surviving spouse maintain their standard of living in retirement.

Aside from income-replacement, life insurance programs can be good tax planning. There are several sections of the tax laws that give life insurance some income tax and transfer tax benefits. For example, death benefits typically are paid income-tax-free to beneficiaries and may also be free from estate taxes, provided the estate stays under the taxable limit. Also, any benefits paid prior to the insured’s death because of chronic or terminal illness also are tax-free. This is called an accelerated death benefit (ADB) and is a pretty new option. If your insurance doesn’t have this coverage, it can probably be added as a rider. Finally, cash values can grow within a permanent life insurance policy without being subject to income tax.

A life insurance policy can also provide some needed cash flow. Any cash value in the policy that is more than the policy owner’s tax basis can be borrowed income-tax-free as long as the policy stays in effect. But take caution when borrowing against your policy: if you were to pass away prior to paying back your policy loan, the loan balance plus interest accrued is deducted from the death benefit given to the beneficiaries. This may be an issue if your beneficiaries require the entire amount of the intended benefit.

Another consequence to consider is that interest that accrues during the period when the loan remains unpaid is added to the principal balance of the loan. If the loan balance increases above the amount of the cash value, your policy could lapse. That means you could you risk termination by the insurance carrier. If a policy lapses or is surrendered, the loan balance plus interest is considered taxable, and the taxes owed could be pretty hefty based on the initial loan and interest accrued.

Keep in mind, though, that life insurance comes with some costs that should be considered in light of your entire estate plan. There are fees that can include sales charges, administrative expenses, and surrender charges. That’s in addition to the cost of the insurance, which grows as you age.

The most important thing to remember at the end of the day is this: just because you’re retired doesn’t mean you don’t still need the protections and benefits life insurance can offer you and your family.

Reference: Kiplinger (July 10, 2019) “Don’t Overlook Advantages of Making Insurance Part of Your Retirement Plan”