Do You Need Life Insurance for Life?

May 4, 2021

Not everyone needs life insurance. Some of those that do can be handled with simple solutions. Others may be best served by more complex planning.

Determining Your Need for Life Insurance

Insurance of any kind is simply a transfer of risk. Premiums are payments to shift the financial risk from you to the carrier. Life Insurance can be used to cover a risk of losing income, settling an illiquid estate, or paying an estate tax liability. If none of these risks apply, then it’s likely no coverage is needed.

Term Policies

Your income is likely the source of funds for the family’s lifestyle, college tuition, and mortgage payments.  If a spouse passes away, your income may be affected either by reducing work or incurring new costs such as childcare. A term policy provides the temporary coverage necessary until there is no longer a financial risk to the survivors of affording their lifestyle.

Illiquidity Issues

A bigger concern for farmers or small business owners is when wealth is tied to an illiquid asset. Life insurance can provide cash available for final expenses. It can also provide means in order to prevent a quick sale of the asset at a deep discount. Depending on other available assets, a term policy may again be a simple and easy solution if there is a plan to sell the asset in the future.

Large Estates

For individuals that have amassed wealth exceeding the exemption amount (either Federally or at the State level), insurance protects the heirs’ inheritance from being reduced by taxes. In this scenario, the premiums paid during life ‘pre-pay’ the tax bill at death. With careful planning, the benefit can work to offset the tax bill. This allows the full estate to be distributed to the beneficiaries, net of tax. At this level, things can get complicated.

Life Insurance and Estate Taxes

The right kind of life insurance can help cover estate taxes incurred on your assets. It is important to remember that policies you own on your life are included in your total estate. If estate taxes are a concern, and life insurance is even part of the solution, properly titling the policies within your overall estate plan’s scope is important (i.e., using an Irrevocable Life Insurance Trust).

The estate tax exemption is a moving target (and can change if you move!

  • Currently, only 12 states (plus D.C.) impose their own estate tax, and
  • 7 have some form of Gift or Inheritance tax

On the federal level:

  • The exemption doubled in 2017 with the Tax Cuts and Jobs Act, and is indexed to inflation ($11.7 million in 2021)
  • It’s scheduled to sunset in 2025 back to pre-2017 levels (~$6-7 million in 2025 dollars), and
  • It’s a hot topic in Washington right now for sweeping change (a potential decrease to $3.5 million?!)

Taking all of that together makes it a very tough thing to plan for. Not to mention the impossibilities of predicting death!

Permanent Policies for High-Net-Worth Estates

If you are in a position to have a taxable estate, there is a good chance it will be a risk for as long as you live – unless your wealth decreases in value, is spent down, or the tax itself goes away. Instead of covering a ‘Term’ of years, you may need protection that is more… permanent.

There are three types of permanent policies: Whole, Universal, and Variable. Each has its pros and cons as well as variances between carriers and specific policies of each. However, all three (and any of their variances/hybrids) provide ‘lifelong’ coverage.

Instead of spending your time trying to distinguish the nuances between the universe of options – and what makes sense for you, give your BDF team a call. We are happy to be your counsel during the decision-making process and walk together through any steps you decide to take.

Josh Larson is a Wealth Manager at BDF and sits on the firm’s Financial Planning Committee, which is responsible for educating the BDF team on financial planning topics and improving the team’s processes to ensure each client benefits from proactive, best in class financial advice. He studied at Aurora University and earned degrees in Accounting and Business & Commerce. Josh is a CERTIFIED FINANCIAL PLANNER™ professional.

No representation is being made that any strategy shown will or is likely to achieve results similar to those shown in this presentation. BDF does not provide legal, tax, insurance, social security, or accounting advice. Clients of BDF should obtain their own independent tax, insurance, and legal advice based on their particular circumstances. The information herein is provided solely to educate on a variety of topics, including wealth planning, tax considerations, insurance, estate, gift, and philanthropic planning.