Life Insurance with Living Benefits
We have written in previous articles about the benefits of using Whole Life Insurance in a Life Insurance Retirement Plan (LIRP) and how you can accumulate enough wealth for a comfortable income stream that is tax-exempt.
But what happens if you don’t die but instead, get critically ill and are forced to live out the balance of your life in a nursing facility. Won’t that wipe out your assets and retirement plan?
It doesn’t have to. When you have purchased a Whole Life Insurance policy that includes living benefits, you can access a large portion of the death benefit without impacting the wealth accumulation.
Commonly labeled as an Accelerated Death Benefit, the living benefits are generally available for a terminal, critical, or chronic illness diagnosis.
What Types of Policies offer Living Benefits?
Although in this article we’ll be discussing Whole Life Insurance with living benefits, it’s important to acknowledge that living benefits (either part of the core coverage or added via endorsement) are also available (depending on the insurance company) on universal life insurance and term insurance policies.
It’s also important to note that life insurance companies vary as far as the terms and conditions of their insurance contracts and endorsements that are offered.
Knowing this, it’s critical that you make certain your agent provides the details of the accelerated death benefit (living benefits) of any insurance policy you are considering.
How does Life Insurance with Living Benefits Work?
Living benefits are generally added to a life insurance policy as a rider. In most cases, the living benefit rider is offered at no additional cost and many companies automatically add these benefits.
You may, however, pay a fee to the insurance company if or when you file a claim to activate the rider. This fee is typically deducted from the initial benefit payment. Moreover, living benefits are payable to the named insured and not the beneficiary.
To activate the living benefit rider, the insured must offer proof that the diagnosed illness qualifies for coverage. Typically, there are three illness groups that qualify for living benefits.
- Chronic Illnesses – Chronic illnesses are generally defined as a permanent loss of your ability to perform a number of Activities of Daily Living (ADL) or a diagnosis of mental incapacitation.
- Critical Illnesses or Injury – Your life insurance contract will contain a list of illnesses and injuries that qualify for a claim under the living benefits rider which generally includes serious diagnoses like heart attack, stroke, or cancer that has metastasized.
- Terminal Illness – These illnesses are diagnosed as terminal with a prognosis of death within 12 months or less depending on the insurance company.
How to file a claim for Living Benefits
Again, insurance companies vary on what illnesses or injuries qualify for living benefits but they generally operate similarly on how a claim is filed.
After a qualifying diagnosis has been recorded by the physician, the insured will file a claim with the life insurance company to receive an advance of the death benefit. There is no requirement to repay the advanced death benefit since the advancement will be deducted from the death benefit when the insured passes.
Certainly, the insurance company will require certain documentation from the medical professional who made the diagnosis to determine that it meets the medical requirements to trigger the claim payment.
Moreover, the amount of the advance of the death benefit will depend on the insurance company you have selected and is typically a different amount depending on whether your illness or injury is considered terminal, critical, or chronic.
Will a claim for Life Insurance with Living Benefits impact the Cash Value?
Although an insured can withdraw funds from their cash value account to use for medical expenses related to a terminal, critical, or chronic illness, a claim against the living benefits rider will not impact the cash value of the insurance policy.
In fact, the cash value will continue to earn interest each year the policy remains in force just as if no claim had been filed.
As we mentioned earlier, the advance on the insured’s death benefit does not have to be repaid because the money will be deducted from the death benefit payable to the beneficiary or beneficiaries.
What are the tax consequences, if any, for receiving Living Benefits?
Generally, any advance you receive from the death benefit in your life insurance is not considered income and therefore not a taxable event. However, the IRS does has an exclusion for any amount paid to a person (other than the insured) who has an insurable interest in the life of the insured because the insured is a director, officer, or employee of the person; or has a financial interest in the person’s business.
This exception can be found in Publication 17 on page 89.
The Bottom Line
There’s no doubt that having a Plan B in your retirement planning is a good thing. The living benefits in a life insurance policy serve as a much-needed source of capital if the insured is diagnosed with a terminal, critical, or chronic illness.
This capital can make a huge financial difference when dealing with monumental healthcare costs and at the same time, keep your LIRP intact and earning the wealth you’ll need if disabled or retired.