Even if a life insurance policy pays out after death, it still has valuable uses
While life insurance typically doesn’t get paid out until after the plan holder is gone, many affluent individuals still use it as an important part of their financial planning. Beyond providing for loved ones, life insurance has several advantageous features.
“An important characteristic of life insurance is that investments inside the policy grow on a tax-sheltered basis,” said financial planner Tim Cestnick in a piece contributed to the Globe and Mail. The reduced tax liability can result in improved investment returns, particularly for policies that have reasonable investment costs. Since many insurers charge low fees to manage investments within whole-life policies, the returns can be quite good.
Some wealthy individuals even go so far as to borrow money to pay their life insurance premiums, Cestnick said. Since interest rates are low nowadays, and returns inside the policies have been stable, it’s been worthwhile for them not to put up their own money when buying the policy. “Borrowing is not for everyone – but it can make sense in certain cases,” he said.
Life insurance can also be useful in equalizing estates. “Some people think it’s important to leave heirs with assets of approximately the same value,” Cestnick said. Some high-value assets, like businesses or cottages, are best left to one specific heir. If a second heir is getting a lower-value asset, like a portfolio of securities, a life insurance policy can be taken out to give that heir a payout equivalent to the difference in value. “Don’t forget to consider how taxes will affect the amounts inherited,” Cestnick said.
The third use is for charitable donations. With life insurance, an individual may be able to give a larger gift to charity than he or she would have been able to contribute in life. “[An individual] could have the charity purchase a policy on [their] life while [they] donate the cash annually to pay the premiums,” Cestnick said, adding that the donated cash for the premiums could count as a donation tax credit.
Those who have an existing policy could donate it to charity and continue to pay the premiums on the charity’s behalf; the transfer could be taxable, but there will also be a donation tax credit for the policy’s fair-market value, and premium payments donated would count as a tax credit. But Cestnick’s most preferred approach is for individuals to get a policy and name the charity as the beneficiary.
Finally, life insurance policies can be used to cover taxes on death. “If [wealthy individuals] have illiquid assets that will give rise to taxes on death, like a business, or real estate, [they should] give thought to buying life insurance to cover those taxes,” he said.
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“An important characteristic of life insurance is that investments inside the policy grow on a tax-sheltered basis,” said financial planner Tim Cestnick in a piece contributed to the Globe and Mail. The reduced tax liability can result in improved investment returns, particularly for policies that have reasonable investment costs. Since many insurers charge low fees to manage investments within whole-life policies, the returns can be quite good.
Some wealthy individuals even go so far as to borrow money to pay their life insurance premiums, Cestnick said. Since interest rates are low nowadays, and returns inside the policies have been stable, it’s been worthwhile for them not to put up their own money when buying the policy. “Borrowing is not for everyone – but it can make sense in certain cases,” he said.
Life insurance can also be useful in equalizing estates. “Some people think it’s important to leave heirs with assets of approximately the same value,” Cestnick said. Some high-value assets, like businesses or cottages, are best left to one specific heir. If a second heir is getting a lower-value asset, like a portfolio of securities, a life insurance policy can be taken out to give that heir a payout equivalent to the difference in value. “Don’t forget to consider how taxes will affect the amounts inherited,” Cestnick said.
The third use is for charitable donations. With life insurance, an individual may be able to give a larger gift to charity than he or she would have been able to contribute in life. “[An individual] could have the charity purchase a policy on [their] life while [they] donate the cash annually to pay the premiums,” Cestnick said, adding that the donated cash for the premiums could count as a donation tax credit.
Those who have an existing policy could donate it to charity and continue to pay the premiums on the charity’s behalf; the transfer could be taxable, but there will also be a donation tax credit for the policy’s fair-market value, and premium payments donated would count as a tax credit. But Cestnick’s most preferred approach is for individuals to get a policy and name the charity as the beneficiary.
Finally, life insurance policies can be used to cover taxes on death. “If [wealthy individuals] have illiquid assets that will give rise to taxes on death, like a business, or real estate, [they should] give thought to buying life insurance to cover those taxes,” he said.
Related stories:
Life insurance bottom of financial priorities list for millennials: study
Life insurance still a valuable tool for limiting tax burden, says expert
