Let’s be realistic. Believing that your personal tax rate years from now will be lower than what it is now is unrealistic.
Think about it. Our country’s debt continues to climb and the interest on that debt combined with entitlement spending is eating up all of the country’s tax revenue.
When you consider America’s tax revenue versus the cost of debt, entitlement spending, military spending, and a wasteful government, how can you possibly expect your taxes not to at least double in the 10 years?
And, make no mistake, when that happens, all of the traditional retirement vehicles will be worth far less because of the tax liability when you elect to actually spend that money.
David McKnight’s book The Power of Zero put a spotlight on this topic as he makes his argument for accumulating wealth using life insurance and then not be punished by Uncle Sam for doing so.
Cash Value Life Insurance should be less about the Death Benefit and more about Wealth Accumulation
Although life insurance products like Indexed Universal Life and Whole Life Insurance are known for providing a lifetime guaranteed death benefit for beneficiaries, they are certainly an expensive solution for providing money to surviving loved ones.
If you need a ton of life insurance to replace your income, it’s much cheaper to buy term insurance since you are only paying for a death benefit and some inexpensive policy fees.
When you consider buying life insurance as an investment vehicle, it makes better financial sense to focus on cash accumulation rather than the death benefit. You want your premium (contributions) to earn money for you, not pay for a mountain of death benefit.
How to pay Zero Taxes on Your Retirement Income
Why is your tax liability during retirement so important? The simple answer is that you’ve already paid taxes on your earned income so why would you want to offer up your unearned income to be taxed as well?
You don’t have to. The federal government seems to mess with every retirement planning vehicle known to man except for life insurance. If you use life insurance for wealth accumulation and do not make the mistake of over-funding it (creating a MEC), you can withdraw your accumulated cash during retirement without pay any taxes.
We recommend that you do the following when creating a retirement income plan:
- Focus on distribution rather than accumulation
- Only take distributions as loans
- Consider the cost of the loans versus the cost of taxes and fees
- Consider what you’ll pay in fees and administration costs
- Always consider participating policies first (the power of dividends)
Which Life Insurance Products work best for Retirement Plans?
There are two life insurance products that are highly recommended when creating a Life Insurance Retirement Plan (LIRP). Indexed Universal Life Insurance (IUL) and Whole Life Insurance.
Both of these products earn interest and accumulate wealth over time and both are solid solutions for setting up a LIRP. The choice you make should depend on the pros and cons of each product which is typically a direct result of your expectations, not the actual product.
Both products have a lot in common and both products can deliver significant wealth that can be accessed tax-free.
Indexed Universal Life (IUL)
Indexed Universal Life has grown in popularity for retirement planning because of the substantial amount of interest that can be earned over time. This accumulation of wealth generally makes the IUL policy a perfect candidate for a LIRP.
However, depending on your circumstances and expectations, Indexed Universal Life does come with pros and cons that should be addressed in your product decision-making process:
Whole Life Insurance
Whole Life Insurance remains a popular choice for investors who prefer a straightforward insurance product with a guaranteed death benefit and, more importantly, a guaranteed interest rate.
While IUL policyholders must deal with market performance over decades when there will be years that the market will underperform, the
Whole Life policyholders will have peace of mind knowing that the cash-value account will grow every year (although at a lower rate) eliminating the years where the IUL policyholder will earn very low interest or even zero interest.
As with the Indexed Universal Life policy, the Whole Life policy also has pros and cons that the investor must be aware of and tolerate:
Choosing the wrong insurance product for retirement planning could result in missing your goals and expectations. Knowing this, it’s incumbent you to speak with an experienced and reputable insurance professional in order to get the product information you need.
Your retirement planning could ultimately be the most important financial decision in your lifetime.
Both of these are fairly quick reads but deliver the information you need to assist your retirement planning professional in developing a plan that will meet your expectations.
How can life insurance be used as a tool to minimize taxes in retirement?
Life insurance policies, particularly permanent ones like whole life or universal life, have a built-in cash value component that grows over time on a tax-deferred basis. If managed properly, this cash value can be accessed tax-free in retirement through loans or withdrawals, providing tax-efficient income.
What are the potential pitfalls of using life insurance as a retirement income tool?
While life insurance can be a powerful tool for tax-efficient retirement income, it’s not without risks. Life insurance policies typically come with fees and costs, which can eat into the policy’s cash value. If a policy is surrendered or lapses due to unpaid premiums, the policyholder may be hit with unexpected taxes.
How does the death benefit from a life insurance policy impact estate taxes?
Life insurance death benefits are generally income tax-free for beneficiaries. However, if the policyholder owns the policy at the time of their death, the death benefit could be included in their estate for estate tax purposes. It’s possible to avoid this by setting up an irrevocable life insurance trust (ILIT), which removes the policy from the estate, but such a strategy should be discussed with an estate planning professional to ensure it aligns with overall goals and circumstances.
Does the type of life insurance policy affect how I can use it for tax planning in retirement?
Yes, the type of life insurance policy can greatly affect its usefulness in tax planning for retirement. Permanent policies like whole life or universal life have cash value components that can be used for tax-efficient income in retirement. On the other hand, term life policies do not have a cash value component and therefore do not provide these same benefits.
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