Life Insurance Estate Planning: 7 Costly Errors to Avoid


Quick Article Guide

  1. 7 Common Mistakes
  2. Keep Your Estate Intact
  3. How We Can Help

According to Nolo.com, in 2015, 99.5% of American’s net worth estates were less than $5.43 million. This means that 99.5% will escape estate taxes this year…but what about the other 0.5%?

If your estate’s worth exceeds $5.43 million dollars, your heirs currently face a tax rate of 40% for the amount over the exemption limit.

These taxes must be paid in cash within 9 months of the estate owner’s passing, or the IRS can begin assessing penalties.

Life insurance is commonly used as a recommended legal method of avoiding a large tax burden, helping to pass on wealth to the next generation. But be advised: Buying life insurance may actually increase your tax liability…especially if your policy is not set up correctly.

As life insurance specialists for many years, we’ve discovered way too many times that clients have come to us with old policies that are not set up to maximize tax advantages.In other words, the policy will not protect the policyholder’s estate from taxes as intended.Most life insurance agents rarely meet clients requiring life insurance for estate protection, and when they do, they often get excited about their commission potential and take the easy path to place a policy in force.

Mistiming and trust mistakes can void a policy’s ability to provide estate tax protection.

Let’s take a look at common life insurance estate planning mistakes and how to avoid them

1. Outliving Your Life Insurance

The most common mistake is purchasing term life insurance and outliving it. This is typically a result of buying term life insurance for the lower cost. Keep in mind term insurance is designed to be temporary, with the hope of outliving it.   This also happens by buying unaffordable life insurance and cancelling it.

Guaranteed Universal Life (“GUL”) life insurance is often the best compromise.   It works like term insurance, but the difference is you have the ability your premiums to a specific age, rather than for a specific number of years (term).

We work with top-notch insurers offering “GUL” life insurance options to people age 90, 95, 100, 105, 110, 120, and 121. Depending on your lifetime expectancy, most estate attorneys will recommend extending coverage until age 100 or later.  These policies are usually much more affordable than traditional whole life insurance.

2. Buying a Permanent “Cash Value” Policy

“Cash value” policies such as whole life, variable life, and traditional universal life combine life insurance with investment vehicles.   These policies are relatively expensive and generally charge high maintenance fees. These policies combine life insurance with investment vehicles. The “cash value” is difference between the amount you’ve paid in and what’s required to cover the life insurance portion.

As stated in #1, many people get frustrated and cancel these policies when they don’t reach their investment goals, the “non-guaranteed” figures listed in the policy prospectus.   The cash is meant to help pay your premiums when you’re older. If the cash is depleted, you’ll have to pay high premiums to retain the policy.

The other caveat is that the insurer generally retains the “cash value” if you die. They pay the death benefit, without refunding any cash reserves.

You’ve head the adage, “buy term and invest the rest”. If your goal is lifetime affordable coverage, we’ll amend this to “buy GUL and invest the rest”.   You have a better chance of reaching your financial goals.

3. Being Owner of your Life Insurance Policy

That’s right! This can be a mistake if you’re in a state where being a policy “Owner” increases your tax liability. You generally cannot be listed as the “Owner” of your life insurance policy if it’s intended to pay estate taxes.

In order to avoid this potential disaster, an irrevocable trust must own your life insurance policy. If an irrevocable trust is listed as the owner of your life insurance policy, the policy is not considered to be part of your estate because it’s not in your control.   For the most part, the IRS says, “if you control it, we can tax it”.

This can be confusing in that life insurance death benefits are not taxable to your beneficiary, but are taxable if paid to your estate.

Tax laws vary by State and do change, so check with your tax professional for current tax codes.   JRC can work with them to ensure your policy and trusts are worded correctly.

4. Establishing the Wrong Type of Trust

An alarming amount of applicants contacting JRC to buy life insurance to protect their estate tell us they have a trust established, but it’s a revocable trust. Life Insurance for estate planning must be owned by an irrevocable trust. This irrevocable trust must also be the payerof your life insurance policy.

A revocable trust can be changed or canceled making the proceeds of your life insurance policy taxable in most instances. The IRS considers a policy that is owned by a revocable trust the same as a policy that is owned by the individual, making the proceeds of the life insurance part of an estate, and therefore, taxable.

5. Waiting Too Long to Transfer Your Life Insurance To An Irrevocable Trust

If your trust is owned by a revocable trust, you have the ability to transfer ownership of the trust to an irrevocable trust for tax advantages. However, the IRS is wise to this strategy, and has established a 3-year waiting period for changing ownership between trusts.

If your life insurance policy is owned by a revocable trust and your estate is worth more than $5.43 million, contact your tax professional about making this change. Often times this technicality is overlooked until it’s too late, resulting in the loss of hundreds of thousands of dollars to estate tax. Do not wait until you are sick or ill to transfer the ownership of your life insurance, do it now while you’re sound of mind and health.

6. Naming an Incorrect Beneficiary

Whereas you’ll normally list family members or a charity as beneficiaries for other policies, life insurance for estate protection must have your irrevocable trust.

7. Naming Yourself as the Trustee of your Irrevocable Trust

You cannot be the trustee of your irrevocable trust. Our clients often list a family member as the trustee; however, it’s common to assign a trust attorney or corporate trust professional as beneficiary.

Here’s How To Keep Your Estate Intact

When you die, your irrevocable trust collects the tax-free payout from your life insurance policy. Your trust attorney uses these funds to pay any estate taxes owed, keeping the life insurance death benefit separate from your estate eliminating the need for your family to sell assets to pay inheritance tax. This allows your entire estate to remain intact, passing it as your legacy to your heirs.

We’ve witnessed this process protect large estates including family farms, mineral rights, and multiple properties.

How JRC Can Help

JRC specializes in life insurance only…we’re not selling home or auto insurance or investments.

Our agents specialize in pre-qualification underwriting.   After a 10-minute risk assessment interview, we’ll provide accurate quotes, in writing.

Our mission is to match our clients with highly rated life insurance from companies providing the best value for their age, health and type of policy needed to meet their estate planning needs.

This process begins with helping you qualify to buy life insurance.   Unlike our competition, which may represent 2 or 3 insurers, JRC shops the market, working as a no-cost broker. In fact, we work with more than 40 top-rated life insurance companies. We’ll narrow the list down to your personal best, and provide professional consultation through the process, working with your advisors to ensure your life insurance is set up correctly to protect your family legacy…and you won’t be overpaying for your coverage.

Call us today and experience the JRC difference.

Toll Free: 855-247-9555

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Cliff Pendell

VP of Marketing at JRC Insurance Group
Cliff is a Managing Partner and Co-Founder at JRC. He has helped thousands of families of businesses with their life insurance needs since 2012 and specializes with applicants who are less than perfect health. In his spare time he enjoys spending time with family, traveling, and the great outdoors.
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