Life Insurance: An Efficient Way To Pass On Wealth

Life insurance has been a challenging financial product to manage in the last year or so and we have written often about the issues that surround this asset. But we also believe that this is a powerful financial tool. In our last blog entry we wrote about its use to mitigate the negative effect of a tax law change that may occur in 2017. At ITM TwentyFirst, we manage life insurance, we do not sell it. In fact, we are one of the few firms that manages life insurance without earning any compensation from sales. We show our support not just by managing in-force business as efficiently as possible for trustees, grantors, and especially beneficiaries nationwide, but also by pointing out the value of life insurance as a tool to efficiently leverage assets for the next generation, especially in a trust setting. We believe strongly that life insurance, when selected properly and managed efficiently, can be one of the most important assets a person owns.

For many insureds, the internal rate of return on a life insurance policy held in trust is appealing compared to alternative fixed investments, even if fixed interest rates begin to kick up a bit over the next few years. And the use of life insurance for older aged insureds can actually make the golden years more enjoyable by freeing up additional cash flow.

Here’s an example: A couple, both age 65, have come to an advisor for financial advice and estate planning as they enter their retirement years. Assuming that both are in good health (preferred, non-smoker underwriting), they could purchase a $1,000,000 Survivorship Guaranteed Universal Life (SGUL) policy from an A+ AM Best rated company for an annual premium of about $13,420. If you have attended any of our education sessions, you know that a GUL policy has a required fixed premium, one that, if paid in full and on time, guarantees the policy death benefit no matter what happens with interest rates or other market factors. (1) A survivorship policy, often used in estate planning cases, pays a death benefit at the second of the two insureds’ deaths.

If we calculate the internal rate of return (IRR) on the death benefit (2), in this example, we see that the policy’s rate of return (shown in spreadsheet to the right) is extremely attractiv1-irr-fixede. Even if the insureds do not pass away until their mid - 90's, the rate of return on the premium funding the policy will be over 5%. Should death occur earlier, the rate of return will be much higher. Remember that a life insurance death benefit is received free of income tax and, if placed in a trust, is not subject to estate taxes. With this particular policy, the death benefit is guaranteed, locking in the returns. (3) What other asset can your clients purchase that will enable them to pass on wealth this efficiently?

For the client who wishes to maximize his or her retirement lifestyle while also leaving a legacy, life insurance can actually help to smooth out retirement income. Though an annual premium payment will have to be made to the trust (in this case, equal to 1.34% of the death benefit), the comfort in understanding that a known, completely tax-free amount will pass to beneficiaries at death can free up additional funds for retirement activities.

Life insurance is a powerful financial tool. When properly designed and managed wisely, it can create a legacy more efficiently than almost any other asset. As we mentioned in our last post….The next few years will provide challenges and opportunities for…advisors to help clients rethink their financial plans and goals. ILITs will remain a viable tool for leveraging assets.

  1. ITM TwentyFirst does not sell life insurance, nor do we advocate one type of life insurance. Every life insurance purchase should be based on the personal situation (health, cash flow, risk tolerance, etc.) of the insured. There is no one “best policy” for all situations.
  2. The IRR on death benefit is the net rate of return that would need to be earned if the cumulative premium were invested in an alternative asset.
  3. The policy death benefit is guaranteed as long as the premium is paid in full and on time. While market risk is eliminated, carrier risk must still be monitored.