Life Insurance as a Senior Asset
You have finally retired. Your children are secure. Your grandchildren are your greatest joys. You have some funds that you don’t think you will have to use for your retirement that you would love to leave to your grandchildren. But, in today’s volatile economy, where is a safe place to put it? Is there a safe place that can hedge against market fluctuations?
In considering the answers to these questions, don’t overlook one of the safest and simplest tools, life insurance. Many people overlook life insurance because they are in good health and feel that they can invest the money elsewhere for larger returns. However, if the senior does not anticipate needing the money for a number of years, but wants to be able to easily access it should it become necessary, and safety and simplicity are their goals, then life insurance should definitely be considered. Life insurance looks even better if there is a strong likelihood that the senior will not use the money.
Mr. Singleton is 60 years old, a standard non-smoker and has a substantial sum to invest. Currently, he is in a 35% tax bracket. He has sought advice because he wants to hedge all of the current market fluctuations, but still have a good return. He hopes that he can leave it to his grandchildren.
He finds that he can use the lump sum available for investing as a single premium for a whole life policy. The life insurance† would have a face amount of approximately two times the single premium for a whole life (permanent) life insurance contract.
Graph 1
In Graph 1, the blue line represents the death benefit of the new life insurance policy. The graph compares an alternative savings program ‡ earning 5% before taxes every year. At life expectancy, 18.2 years for a male age 60, the life insurance death proceeds would be about 25% greater than that of the alternative savings plan. The breakeven point would be after 24 years – if death occurred prior to age 84, the life insurance would have the greater gains. If death occurs after age 84, the alternative savings would have the larger gain.
The life insurance values and gains are very attractive if death occurs in the next 24 years. But what if Mr. Singleton needs the money for an emergency, or whatever? Although some values could be obtained from the permanent life insurance, the values would be less than those of the alternate savings program, as seen in Graph 2.
Graph 2
Even though Mr. Singleton thinks he will hold this investment until death, he must consider the values available for an emergency.
Of course, the rate of return for the life insurance is very high if death occurs in an earlier year. The alternative savings has been assumed to earn 5% before taxes throughout.
Graph 3
Graph 3 shows the life insurance returns will be quite high if death occurs sooner than life expectancy, but only slightly lower if death occurs after life expectancy.
Life insurance that has almost no market fluctuations is a very good long-term asset, especially if it is anticipated that it will be held until death.
PlanLab News provides no investment advice nor does it offer any opinion with respect to the suitability of any transaction. Clients should consult their legal, tax, and/or financial advisor before taking actions based on this information.
† Based on a major US life company’s policy illustration for a standard male non-smoker with a one-time premium payment of $100,000.
‡ The 5% return is hypothetical earnings for purposes of this illustration. It is assumed that 35% of the earnings each year are used to pay the taxes on the earnings.
This is a great article. We’ve been using a similar approach for about a year and have seen some decent success with it.
It would be incredibly awesome if Impact came out with a customizable module for “Life Insurance as an Asset Class.” Our company would subscribe to it in a heartbeat and include it in our wealth planning suite.
My only feedback on the article is that I wouldn’t refer to the area after the crossover point as the “insurance loss at death” because the clients are not necessarily losing anything. The death benefit provides a meaningful benefit in all years and doesn’t go backwards or “expire worthless.”
Also, the assumption is that the “investment” strategy gets a consistent rate of return every single year. Obviously this is not reality if there is any exposure to equities in the portfolio and so the death benefit, because of it’s predictable nature and the fact that it’s not correlated to other common sectors of the marketplace, can help “hedge” against future fluctuations and volatility in the transfer of wealth during the “post-crossover” years. The key word with the investment strategy is “hypothetical” whereas the death benefit is predictable and defined!
The IRR will typically still look decent on a pre-tax equivalent basis in post crossover years as well and if you compare the difference in IRRs between the death benefit and the investment during these years, the difference may not be all that dramatic compared to the considerable enhancement and leverage that the death benefit provides in the earlier years. This is especially true when comparing the IRR on the entire portfolio or estate.
Additionally, whenever you introduce a non-correlated asset into the plan, overall beta and risk may be reduced which has an intangible value and helps make up for some of the “loss” by possibly providing a better risk-adjusted return in the portfolio or estate at death.
Great article though! Please look into creating an illustratable module if possible.
Thanks! Keep the good stuff like this coming!