Life Insurance as a private reserve
Cash value life insurance can provide your clients with financial protection for their families and businesses, as well as a potentially tax-free way to accumulate additional funds that they can use as a “private reserve” of cash – for major purchases, events, or supplemental retirement income.
How does this strategy work?
If your clients need financial protection and have maximized their qualified plan contributions, they can use permanent life insurance to potentially accumulate cash value in addition to the death benefit. That cash value can act as a “private reserve” that they can use to pay for major life events, such as college tuition, down payments, funds to start a business, weddings, etc. It can also provide a source of possible tax-free retirement income or can be used by business owners to provide an efficient source of dollars to reward and retain key employees.
Please remember policy loans and withdrawals do reduce the face amount and cash value of the contract. Clients may need to fund higher premiums in later years to keep the policy from lapsing.
Strategy in action
- Tom needs life insurance protection for his family.
- He makes over $100,000 a year in income and has maxed out his qualified retirement plan.
- He would like to accumulate additional funds to help pay for important life goals and events, and potentially pay for some expenses in retirement.
- He purchases a life insurance policy at age 35 and pays $10,000 a year into the policy for 30 years. By paying the maximum premium allowed by the tax law into the policy, he gets death benefit protection and the potential to build policy cash values tax free.
- Tom is able to borrow money to help start a business, and still have additional funds to supplement his retirement income from age 65 to 85.
This is a supplemental illustration and must be read in conjunction with the basic illustration. The basic illustration contains values using the same underwriting assumptions as this supplemental at both guaranteed charges and guaranteed interest rates and contains other important information. The values represented here assume hypothetical charges and interest rates. To determine how this approach might work for clients, individual illustrations based on their individual age and underwriting class, containing both guaranteed charges and guaranteed interest rates, as well as other important information, should be prepared using guaranteed rates and charges the policy would fail in year 20, at which point $200,000 in premium would have been paid.
Prospective client
- Needs financial protection for family or business
- Has maximized contributions to qualified plans such as a 401(k) or IRA
- Consistently brings in income of over $100,000 per year
- Is looking for a way to save more money to pay for major life events and retirement that offers tax-deferred growth and potentially tax-free distributions
Considerations
- Cash value in life insurance generally takes years to build. Clients will generally have limited access to the cash surrender values during the first several years of their contract.
- There is usually a surrender charge that will vary by type of policy. These charges usually run 15 years or longer and will affect the available amount clients have to withdraw or borrow from their policy at any given time. There are also the cost of insurance and other policy charges that will impact cash value.
- Clients’ cash value build-up will be determined, in part, by the performance of their policy, which is not guaranteed. When they purchase their policy, they will not know how much cash value they will have access to at any given time.
- Loans and withdrawals will reduce the death benefit and cash values associated with a policy. Excessive loans and withdrawals may require future premium payments in later years to keep the policy from lapsing and triggering income taxation on any unpaid loans.
Highlighted product(s) with this concept
Client materials
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Documents to view or email to clients
Financial Professional materials
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Marketing materials
Under current federal tax rules, clients generally may take federal income-tax-free withdrawals up to their basis (total premiums paid) in the policy or loans from a life insurance policy that is not a Modified Endowment Contract (MEC). Certain exceptions may apply for partial withdrawals during the policy’s first 15 years. If the policy is an MEC, all distributions (withdrawals or loans) are taxed as ordinary income to the extent of gain in the policy, and may also be subject to an additional 10% premature distribution penalty prior to age 59½, unless certain exceptions are applicable. Loans and partial withdrawals will decrease the death benefits and cash value of the life insurance policy and may be subject to policy limitations and income tax. In addition, loans and partial withdrawals may cause certain policy benefits and riders to become unavailable and may increase the chance the policy may lapse. If the policy lapses, is surrendered or becomes an MEC, the loan balance at the time would generally be viewed as distributed and taxable under the general rules for distribution of policy cash values.
Please be advised that this webpage is not intended as legal or tax advice. Accordingly, any tax information provided in this article is not intended or written to be used, and cannot be used, by any taxpayer for the purpose of avoiding penalties that may be imposed on the taxpayer. The tax information was written to support the promotion or marketing of the transaction(s) or matter(s) addressed, and your clients should seek advice based on their particular circumstances from an independent tax advisor. Neither Equitable nor its affiliates provide legal or tax advice.
Life insurance products are issued by Equitable Financial Life Insurance Company (New York, NY) or Equitable Financial Life Insurance Company of America (Equitable America), an Arizona stock corporation with its main administration office in Jersey City, NY and are co-distributed by Equitable Network, LLC (Equitable Network Insurance Agency of California in CA; Equitable Network Insurance Agency of Utah in UT; Equitable Network of Puerto Rico, Inc. in PR), and Equitable Distributors, LLC. Variable Products are co-distributed by Equitable Advisors, LLC (Member FINRA, SIPC) (Equitable Financial Advisors in MI and TN) and Equitable Distributors, LLC.
