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Permanent or Whole Life Insurance Can Also be Used for Tax Deferred Savings
Life Insurance is typically used to provide financial protection for families. Life Insurance such as permanent or ‘whole life’ insurance also builds a cash value over time. Broadcast Retirement Network’s Jeffrey Snyder discusses how life insurance can be used as a savings vehicle with The Warner Companies’ Phillip Snyder, CLU.
Jeffrey H. Snyder, Broadcast Retirement Network
This morning on BRN, using life insurance as a savings vehicle. Joining me now to help break it all down, Phil Snyder is with The Warner Companies. And full disclosure, he’s also my father.
Dad, great to see you. Thanks for joining us this morning.
Phillip Snyder, CLU, The Warner Companies
Thanks, Jeff. Happy New Year to you as well. And let’s make it a good, peaceful, and prosperous New Year.
Jeffrey H. Snyder, Broadcast Retirement Network
Yeah, amen to the peaceful part. And I don’t want people to get the wrong idea, because I do talk to you and mom on a regular basis. It’s not like I don’t see my parents or talk to my parents on a regular basis.
But Dad, we’re always grateful to have you on the network. We’ve talked to you about so many different issues. Last time we talked, I think, about long-term care policies.
Today, I want to ask you about using life insurance as a savings vehicle. So what does that exactly mean?
Phillip Snyder, CLU, The Warner Companies
Well, there are various types of life insurance. And we’ve spoken of this before. There are term policies, which are really short-term coverages that have no intrinsic value.
They’re only valuable at death. But there are cash value policies, cash. There are permanent policies.
They come in various different forms. Some people call them whole life. Some people call them universal life, whatever the case may be.
Those policies build cash in them or can build cash. And those types of policies carry with them very specific tax advantages that the average consumer probably is unaware of. Just real quickly to highlight that, all life policies upon death pay insurance proceeds to named beneficiaries on an income tax-free basis.
So that’s not necessarily unique. Premiums paid to buy life insurance are paid with after-tax dollars. So there’s no immediate tax benefit to buying a life insurance policy as an individual.
Cash that builds up within an insurance policy. That could be guaranteed cash. That could be investment returns built into the policy.
We can talk about that a little bit more in depth. Those taxes on those earnings are tax-deferred as long as that money stays within the life insurance policy. And thirdly, and this is really the more critical element, there are ways to withdraw cash from an insurance policy on a very tax-favorable basis.
There are rules around that, how you do it, how you design policies and things of that nature. But that’s an opportunity to build cash within an insurance policy, to defer taxation on your gains, and then withdraw, if not all, the lion’s share of all the money you’ve accumulated, draw it from the policy on a tax-free basis if it’s done correctly.
Jeffrey H. Snyder, Broadcast Retirement Network
So, Dad, it sounds very similar, and I want to know, is it similar or is it different than the 401k qualified plan or even an IRA? And I’m saying like a traditional, not the Roth, not any of these other bells and whistles, but it sounds very similar in that in those other plan types, you grow your contribution, your cash, tax-deferred over time. So is it similar to those types of programs?
Phillip Snyder, CLU, The Warner Companies
It’s similar in some respects because there is no tax on the gain as you’re earning money, not unlike a qualified plan, but you can take money out of the plan, out of the policy on an income tax-free basis. You can do that with a Roth, certainly, but perhaps a 401k plan, for example, you can’t do that. And let me, as a caveat, this is just an idea.
It’s an adjunct of what people may already be doing. They have more money they wish to set aside, and this could be a vehicle through which to do it.
Jeffrey H. Snyder, Broadcast Retirement Network
So, Dad, people listening to this or watching this, hopefully they’re watching us and also listening to us, they may say, well, this is really something that a wealthy person who has discretionary income would use. But is that truly the case? Could anybody with any amount of income, if you earned $45,000 a year, $75,000 a year, could you contribute to your company’s 401k, make an IRA contribution, and buy some type of permanent life or whole life policy and do what we’re talking about this morning?
Phillip Snyder, CLU, The Warner Companies
Sure. They’re not mutually exclusive. But what I’m referring to is really people who are kind of maxed out on many of their other opportunities, and now they’re sending money to their investment advisor, or they’re managing their own money, and they’re trying to figure out what’s the best alternative.
And on the list of alternatives could be a properly structured life insurance policy. And we could talk about structure, if you’d like, relatively quickly, what I mean by that.
Jeffrey H. Snyder, Broadcast Retirement Network
Yeah, we’ve got about three or four minutes left. So take us down the road of the structure. What do you mean by structure?
Do you mean investment structure, investment vehicle structure? What do you mean by that?
Phillip Snyder, CLU, The Warner Companies
Policy design. Typically, what you want to do, if you’re looking for a life insurance policy, not so much for the death benefit, which you can’t avoid because it’s life insurance, but if you can minimize the face amount, the death benefit of the policy, and maximize the cash accumulation within the policy, then that could be very advantageous. There are rules within the Internal Revenue Code that relate the amount of cash accumulation to the amount of money that’s being paid in.
So you have to work with someone who’s mindful of those rules, because you don’t want to give away the opportunity in the future to take money from this insurance policy on an income tax-free basis. So you can put money into an insurance policy, minimize the death benefit, maximize the cash accumulation. Within these policies, you can choose the nature of your investment.
It could be accounts that look like mutual funds. They could be indexed accounts. There could be a blend of different types of accounts, international and so forth.
And you can achieve investment returns over time on a tax-deferred basis, and then pull out money on a tax-free basis if it’s done properly and if it’s managed properly. So that’s a very high-level overview.
Jeffrey H. Snyder, Broadcast Retirement Network
Yeah, sorry to mean to interrupt you. Are there any negatives to this? For example, if, for whatever reason, the 401k record keeper goes bankrupt, that money is held in a trust, and that trust is not subject to the whims of creditors.
So in the case of a life insurance policy, would that be a little bit different? So say the life insurance policy fails, a company fails, it has happened from time to time, but would that be a challenge? Are there any challenges, I guess is my basic question, to this product or cons to this type of structure?
Phillip Snyder, CLU, The Warner Companies
Yeah, well, first of all, every state pretty much has a state guarantee fund. So those funds would be available, whether they’d be adequate to cover any potential loss. Don’t know that.
It’s all subjective. But the negatives would be this is not a strategy, particularly when you get into the withdrawal aspect of this, for people who are not going to pay attention to what they’re doing. Because the thing you have to be careful of, let’s assume I put in, pick a number, $10,000 a year, $5,000 a year.
I do it for 20 years. I put in $100,000 or $200,000. The policy has grown to a cash value of $400,000, hypothetically.
Now I want to get my money out. I’m retired. I’d like to have some supplemental money.
I’d like to do a tax favored in a tax favored manner. Well, you can’t just radically take out the whole $400,000 that you have, because that would result in a taxable gain. So what you want to do is begin a process of withdrawing money up to the amount that you’ve paid in, called basis, and then make a series of loans after that.
And there are policies out there that are structured to do that. They’re structured, and they provide internal safeguards, guardrails, so you’re not over borrowing. Because the worst thing that can happen to you in that situation is you borrow way more than you should.
You withdrew more. And then the policy lapses. That could happen.
Has happened to other people. Then all the excess monies over your premium deposits become taxable. So this is not for the faint of heart.
It requires some diligence. It requires professional management and advice from competent people. But it’s an excellent strategy.
And it’s not necessarily relegated to highly high net worth people or big income earners. It’s just another tool in the toolbox. It’s particularly advantageous as a fringe benefit in a corporate structure.
For example, providing a benefit for one or more highly valued employees. There’s all kinds of ways to do that. But people should be aware that life insurance is more than just a death benefit.
And it’s more than just paying a premium or can be more than just paying a premium, but not really know what’s going on within the policy. If you pay attention and you can learn what to do and you get good advice, you can accumulate a lot of money in a life insurance policy.
Jeffrey H. Snyder, Broadcast Retirement Network
Well, hopefully people are watching today and they’re taking notes and they can seek out the professional advice and maybe find this as an alternative or as a complement to what they’re already doing. Dad, we’re going to have to leave it there because they don’t give us enough time to do the you know, we could talk. You and I could talk for hours upon hours about this stuff.
But I think really good forethought, good information. And look, we’ll have you back on the program again very soon.
Phillip Snyder, CLU, The Warner Companies
Yeah, my only parting comment would be just make sure before you engage one of these things that you really know all the ins and outs. These kinds of things are easy to get into just as an adjunct. You want product types.
You want policies that build cash from the get go. You don’t want policies that defer the cash flow up in an ideal world. You want policies that don’t have surrender charges so you can actually get 100 percent of the value of the policy.
So there are policies that do that. And that’s what you need to look for.
Jeffrey H. Snyder, Broadcast Retirement Network
All right, Dad, I’m getting the hook. So great to see you. Thanks for joining us.
And we look forward to talking to you again very soon.
Phillip Snyder, CLU, The Warner Companies
All right, Jeff. Hope it was helpful. Talk to you tomorrow.
Bye bye.
Jeffrey H. Snyder, Broadcast Retirement Network
And don’t forget to subscribe to our daily newsletter, The Morning Pulse, for all the news in one place. Details, of course, at our website. And we’re back again tomorrow for another edition of BRN.
Until then, I’m Jeff Snyder. Stay safe, keep on saving. And don’t forget, roll with the changes.
