Life insurance does more than cover the basics after you die. Find out how a policy can support your retirement, fund end-of-life care, and finance a future for your loved ones.
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Senior Manager, Case Management
Published June 25, 2020|6 min read
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Your retirement years may seem far away, but it’s best to prepare for them sooner rather than later. Most people want their retirement planning to address a few key things: maximizing retirement savings, covering the cost of long-term care or a funeral, and providing for your loved ones when you’re gone.
Life insurance can support all of these goals. Read on to learn about plans and riders that can help you prepare for your golden years.
Policies with a cash value are another avenue for retirement savings if you’ve maxed out 401k or IRA options
You can earmark funds for costly end-of-life events with final expense and long-term care policies
The death benefit can be a tax-free inheritance for your dependents
An irrevocable life insurance trust protects your death benefit from estate taxes
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When people suggest using life insurance as a retirement savings vehicle, they’re generally referring to a permanent life insurance policy with a cash value amount like whole life insurance. The cash value of these policies grows as long as the policy is active, and in some cases you may be able to borrow against the policy or cancel the policy and take the cash value with you.
When you buy a policy with a cash value, that value accrues interest as long as you keep paying your premiums. After it grows, you can use that cash value to supplement your retirement. Unlike a standard retirement fund, there are different rules around how much you can contribute to your life insurance cash value and many insurers guarantee a minimum return on your investment.
Be aware of modified endowment contracts (MECs): when a cash value life insurance policy is overfunded and exceeds federal tax limits. When a permanent life insurance policy becomes an MEC, you can no longer make tax-free withdrawals from the cash value. Before age 59 ½ you'll pay taxes and a 10% fee to access your money. After age 59 ½ you'll still pay taxes, but with no additional penalty.
Depending on your policy, there may be rules and regulations around withdrawing from your policy. And because of the cash value component, these policies tend to be more expensive than term life policies.
Some cash value insurance also allows you to take a loan against your policy or take the cash value with you if you surrender the policy. Taking a loan against your policy might help you pay for unexpected expenses, but note that your policy may place some restrictions on borrowing. And if you don’t pay back the loan with interest, the insurer will take what you owe out of the death benefit available to your beneficiary.
If you surrender your life insurance policy, you’ll be able to walk away with the current cash value amount — minus taxes, fees, and administrative costs — as long as you’re out of the policy’s surrender period. Of course, taking the cash value in this scenario means canceling your policy, so you should have a plan for having life insurance coverage going forward.
Investing with your life insurance policy is worth considering if you’re an aggressive saver who maxes out your 401k and IRA contributions each year and doesn’t want to put your remaining savings in a traditional investment account.
For most people, a 401k or IRA is a safer option. These accounts typically have a higher rate of return, and tying your retirement savings to a significantly more expensive permanent life policy puts you at greater risk of losing out if you let the policy lapse.
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A key concern in retirement planning is the cost of medical care and other end-of-life expenses. If you want to earmark money for specific needs like a funeral or nursing home care, some life insurance policies and riders offer that flexibility.
Of adults who live to age 65, 70% will ultimately require some form of long-term care before they die. Long-term care policies support the costs associated with chronic illnesses and old age, such as memory care facilities, home health care, and nursing home care.
Long-term care insurance can be costly and may be too expensive to buy when you reach retirement age, but it can help support you in your final years if you anticipate needing specialized care as a senior. You may also consider adding a long-term care rider or accelerated death benefit rider to a term policy, which may increase your monthly premium but likely cost you less than long-term care insurance.
Final expense insurance is a type of permanent insurance in which the death benefit is meant to go toward end-of-life expenses. This type of policy doesn’t require a medical exam and remains in force as long as you pay the premiums, but the death benefit amount is lower than you’d receive through a term life policy.
Final expense policies don’t legally require the beneficiary to use the death benefit for final expenses, so make sure your beneficiary is aware of your intentions. Most people put the death benefit toward medical expenses and things like a burial, funeral, or casket.
If you’re primarily concerned with burial and funeral costs, a pre-need policy essentially allows you to plan your funeral in advance. You enter into an agreement with a funeral home or director for their services at a set cost so that your loved ones don’t have to worry about the details or payments. However, these plans usually cost more than other, more flexible life insurance policies and might not be honored if the funeral home closes or its ownership changes.
If you’ve saved up for end-of-life expenses, the life insurance death benefit can easily become a nest egg for your loved ones. And for high net worth individuals, life insurance might be a tool for managing your estate taxes.
Unless you have a particularly large estate, the death benefit passes to your beneficiaries tax-free after you die. You can designate portions of your policy to any of your loved ones who might need financial support when you’re gone. That could be your parents, your children, or loved ones who might need specialized care into adulthood such as a child with special needs or family member with a hard-to-manage health condition.
While the death benefit is generally not taxable, the benefit amount is factored into the overall value of your estate if the policy is owned by an individual. This is why high-net-worth individuals may choose to use an irrevocable life insurance trust, which can remove the life insurance policy from the estate and help pay estate taxes indirectly after death.
It might be enough for your beneficiaries to apply some or all of the death benefit to the estate tax, then financially support themselves using the assets distributed in your will. Some couples choose to use a survivorship policy for this purpose, since the death benefit isn’t available until both policyholders die.
To lower your estate taxes overall, you might put your policy in an irrevocable life insurance trust, as mentioned above. In this scenario you pay into your trust’s cash assets, which are then used to fund your life insurance premiums.
Life insurance terminology doesn't have to be confusing. Here are definitions of the most common terms and phrases you'll find in a policy.
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