Do You Need Life Insurance in Retirement?
The answer, like most financial planning related questions, is that it depends. When you are working, the purpose of life insurance is usually to replace your income or pay off large debts in order to help provide for your loved ones or even business obligations in the event that you die.
When you retire, you and any dependents are usually living off a fixed set of assets, so life insurance may not be needed — you already have the assets, so there is usually no loss of ongoing income if you die. However, this is not always the case.
Let’s take a look at circumstances where you might put life insurance to good use.
The 7 times when you need life insurance for retirement:
1. Estate Planning — Tax Issues (Only a Concern for the Very Wealthy)
Estate taxes are not an issue for everyone. In fact, only the very — very — wealthy need to be concerned about federal taxes. The reason is that the tax laws offer a tax credit against any prospective estate tax due. The net effect is that estates of up to $11.4 million are free of tax, and from that point on, anything additional above that mark gets taxed at 40%.
Estates under that amount may still be subject to estate taxes at the state level. Explore which states have an estate tax.
For those who are subject to estate taxes, life insurance proceeds can be used by your heirs to cover some or all of these obligations. This might be especially key if part of your estate involves a business or land (including farmland) that might otherwise need to be sold to cover the estate tax.
Life insurance might be a good solution, but be sure to work with an attorney and a financial advisor experienced in estate planning and preservation to look at various planning strategies that might be applicable to your situation.
2. Business Succession
Tied closely to estate planning, life insurance can provide a vehicle for business succession. Many business owners continue managing the business long after they have passed the traditional retirement age — either full or part time.
If you are a business owner with one or more partners, life insurance proceeds can provide a means to compensate a surviving spouse or other family members not involved in the business should you die. Your heirs receive the insurance proceeds to compensate them for the value of the business, the surviving partner(s) take ownership of the business without having to deal with a spouse or kids who were never part of the business.
This can work well if a good deal of your wealth was tied up in the business, providing a source of liquidity for your heirs.
3. Income Replacement
It’s more common for people to work into their retirement years today than in the past. Life insurance can provide a way to replace that income should you die prematurely.
If your spouse or other family members are dependent upon that income, a life insurance death benefit can replace some or all of this lost income.
4. A Special Needs Family Member
If you are responsible for the care of a special needs child or family member, the proceeds from a life insurance policy can be used to fund their ongoing care needs after your death.
5. Leaving a Legacy for Your Heirs
Life insurance can provide a means to build an estate to leave your heirs. Perhaps you have enough to get through retirement, but you’d like to leave something extra for your children or grandchildren.
Life insurance proceeds can provide a vehicle to do this. In this case, you might think of life insurance as an asset that you are passing on. The benefits of life insurance as an inheritance strategy are two fold: 1) You don’t need to take required minimum distributions on this money as you might have to do if you had the money as an IRA or 401k. 2) The benefit your heirs receive is tax free.
6. Funding Charitable Goals
Do you want to make a charitable bequest to your church or synagogue, a charitable organization or to your alma mater? Life insurance proceeds can provide a vehicle to accomplish this goal outside of your other assets that will be used for retirement and passed on to your spouse or other family members.
7. Cash Value Life Insurance as Retirement Savings
Many insurance agents tout cash value life insurance as the ultimate retirement savings vehicle. The thought is that the cash value builds over the years, and then once you get to retirement you take policy loans tax-free and never repay them. Tax-bracket management and reduction of sequence-of-return risk are the two best ways to use cash-value policies in retirement, according to Jamie Hopkins, the Larry R. Pike chair in insurance and investments at The American College.
Fine in theory, not always in practice. Investing inside of an insurance policy can be more expensive than more conventional retirement plans and brokerage accounts. Additionally, the withdrawals need to be managed to not trigger a taxable event that could be very costly to you. Learn more about the pros and cons of using life insurance as part of your retirement investment strategy.
Should You Carry Your Pre Retirement Life Insurance into Retirement?
In deciding whether to keep an existing policy, there are key questions you need to ask:
- First, you need to evaluate whether or not the death benefit is still needed or whether your other assets are sufficient to provide for your survivors.
- Secondly, if you are paying a premium on a policy, then you also need to assess whether or not this is an expense that still makes sense in retirement. And, can you afford it?
- Finally, you will want to think about if your current policy is the most efficient way to cover your retirement needs? Could a new or different policy be a better fit.
There can be unforeseen tax consequences, you may have difficulty getting another policy of desired at a later date and it can be difficult to determine if the price being offered is fair.
How to Find the Best Life Insurance for Retirement Option
The issue of how life insurance fits into your retirement planning can be complex and will depend upon your particular situation and what you are trying to accomplish. As with any other type of financial instrument, review your needs, decide if it makes sense to retain an existing policy or if buying a new policy shop for the best coverage from a solid company at the best price.
You can work with a financial advisor to determine and purchase the right life insurance for retirement or work directly with a broker.