Life Insurance for Estate Planning… Where Do I Begin?

ftr-bg-1You’ve learned you should be looking at life insurance to protect your hard earned estate.

…and your head is spinning.

This is common.

I’ve been in the life insurance industry for nearly seven years, and even for us “in the know”, it’s a complicated and confusing topic.

You’re wise for doing your research.  You’re about to make of the most important decisions you’ll ever make.

So let’s take a deep breath….exhale….and work through this together.

The Basics on Life Insurance for Estate Planning

Let me first state I’m a licensed life insurance agent, not a licensed financial advisor. The following advice is from my real world experience with clients while working in one of the largest life insurance agencies in the US.

I’ve always independently represented my clients, matching them to the best policies and life insurance companies based on their health and need for what they need insurance to protect.

Life insurance, like other insurance, is purchased to reduce financial risk.

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Term life insurance is the most affordable coverage, generally bought in larger amounts ($100,000 – $2,000,000) for a period of time (“term”) as protection to replace the income of a family bread winner, whose premature death would create financial havoc and create vast changes in their surviving family’s lifestyle.

Later in life, priorities change, along with the purpose for life insurance.

We have some clients who only need enough life insurance (a “whole life” lifetime policy) to cover burial, likely medical bills, and other final expenses.  If you’re financially independent, or even just at the point where the expense outweighs the need, life insurance may no longer be part of a financial plan.

If you’re still reading this article, you’re likely in your 40’s-70’s and in a solid financial position, and thinking about securing new life insurance, or changing your current coverage, to protect your estate and ensure your legacy.

Clients contacting JRC for help with life insurance for this purpose typically have first received this recommendation from a CPA, trust attorney, or CFP (Certified Financial Planner), most often centering upon using life insurance for estate protection or to leave an inheritance.

Let’s tackle those topics.

Life Insurance for Estate Liquidity

Over the years I’ve assisted many clients whose wealth was in real estate holdings, a farm, or a business. Part of their financial plan centered on passing these holdings to their family upon death. Cash was going to be needed quickly to take care of outstanding loan/mortgage payments, possible estate taxes, and a year or two of living expenses.

Even if the family would be selling the property or business, my clients wanted to ensure their survivors weren’t forced to do so in a down market at “fire sale” prices or when emotionally vulnerable. In my personal situation, my family was cash strapped while awaiting for an estate to be settled. This couldn’t be done until income taxes were paid, so my siblings and I had to come up with cash to float our parents’ estate for nine months until their estate was settled by their attorney, and paid property taxes and upkeep on an empty house for another two years until the family home sold.

A Universal Life policy is often the best fit for liquidity. Proceeds are often commonly paid in six weeks or so. Unlike term insurance, which they could potentially outlive, Universal Life insurance policies have fixed premiums to age 95, 105 or 121. Most of us are gone before age 95, or no longer in charge of our finances. With the lowest age rate guarantee it carries the lowest cost, and is the most popular option.

Universal Life policies are the most flexible. To remember, think of the bodybuilder, Mr. Universe flexing and being limber! Where I love policy flexibility is for clients in situations as described above. There’s a good chance they may need less life insurance in the future as they pay down their debt or build cash reserves. Many Universal Life policies allow you to reduce the death benefit, thereby reducing the policy cost. Also, if you get in financial bind, it may be better to reduce the policy’s death benefit than cancel it.

Life Insurance Trusts / Estate Tax Reduction Strategies

In her article “Life Insurance Trusts”, attorney Betsy Simmons Hannibal offers the following advice:

The main goal of a life insurance trust is to reduce or eliminate estate taxes. For those who have a large life insurance policy, the worry is that the life insurance policy will pay out into the estate, increasing its size – and the possibility that the estate may owe estate taxes.

However, very few estates will owe estate taxes. For deaths in 2013, the estate tax exemption is $5.25 million; for 2014, the exemption is $5.34 million. Only estates larger than the exemption amount may owe federal estate tax – so you don’t need to worry about making a life insurance trust unless you think that your life insurance policy will bring the size of your estate into that range.

Some states also levy estate and inheritance taxes. And the exemption rates on those taxes can be lower than the federal exemption. So while your estate may not be big enough to trigger federal estate taxes, if you live in one of the states with state estate or inheritance taxes, your estate may still owe taxes to the state. Find out whether your state is one of those with State Estate Taxes.

How Life Insurance Trusts Work

If you are concerned about estate taxes and you have a substantial life insurance policy, then you might consider making sure that the benefits of your policy do not pay out into your taxable estate. One way to do that is with a life insurance trust. Here how it works:
You create an irrevocable trust, naming someone else as trustee. Then you transfer the policy into the trust and the trust becomes owner of the policy. You will no longer have any control over the policy, but through the terms of the trust you can determine who will have control, how premiums will be paid, who will benefit from the trust, and how payments should be made to the beneficiary or beneficiaries.

Three important requirements:

A) The trust must be irrevocable

B) You cannot be the trustee of the trust

C) The trust must exist for at least three years before your death

The first two requirements exist to ensure that you have no control over the policy after you transfer it to the trust. If you do retain control, the IRS will include the policy in your taxable estate. The last requirement is the IRS’s way of prohibiting “last minute” transfers to avoid estate taxes. It seems that it’s okay to avoid estate taxes this way, as long as you plan ahead for it.

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Paying the Premiums
You can still pay the premiums for the life insurance policy – doing so is not considered an “incident of ownership.” Or, you can give money to someone else to pay them. (But watch out for gift taxes!) Or you might consider buying a single premium policy sot that no further payments will be due.


Again, these are considerations to review with an experienced trust attorney to determine if suitable for your situation.

Does it matter who “owns” my life insurance?
This is another topic to be discussed with your financial advisor and/or trust attorney. In most instances, the “insured” (the person whose death results in a life insurance payment) is also the policy “owner”. Exceptions are not uncommon, for instance, when a business owns a policy on a “key employee” or an ex-spouse is the owner of a policy as a result of a divorce decree.

Life insurance policy ownership rights include the ability to:
A) change beneficiaries
B) reduce the policy death benefit
C) change address
D) change payment
E) withdraw cash accumulation value
F) cancel/surrender the policy

Cathy Pareto, CFP, when describing the ownership options for Investopedia said:

“The big question with regard to insurance in estate planning is who should own the policy. The following are some advantages and disadvantages of ownership scenarios:

  • If a life insurance policy is owned by the insured, the advantage is that he has continued control of the policy and any ownership in the associated cash values of a permanent policy. However, the death benefit of this policy would be subject to estate tax and the three-year inclusion would apply if it’s transferred out of the estate.
  • If the spouse of the insured owns the policy, you could argue that the insured does have some indirect control of the policy and any associated cash value. The downside is that the replacement cost of the policy would be included in the estate of the spouse, and if the spouse dies before the insured, it’s possible that the policy might revert to the insured and be included in his or her estate.
  • If the children of the insured owned the policy, the advantage is that the death benefit would be included in the children’s estate, not the parent’s. But here again, the insured has zero control over the policy, and if the children are minors it would require the costly appointment of legal guardians before benefits can be paid.
  • The policy might also be owned by a revocable trust, where the insured might still control the policy and the death proceeds are shielded from potential creditors of the insured. But, because the insured has an incident of ownership through the revocable trust, the death benefit is includable in the insured’s gross estate and could be accessible to the estate’s creditors.
  • If the policy is instead owned by an irrevocable trust as mentioned above, there is no inclusion in the gross estate, and there is an embedded mechanism via the trust language for continuation of the policy if the insured becomes incompetent. The downside is that the insured does not regain any control over the policy and cannot revoke the trust.”

INSIDER WARNING: Why Those Cash Value Whole Life Policies Are Often a Rip Off!

Be wary of financial advisors recommending “cash value” whole life policies. The selling agent earns large commissions, so there’s often a conflict of interest. Agents often don’t understand them, sometimes leading to false statements and expectations.

I probably run into situations every week where a client was sold one of these policies years ago, expecting to fund their retirement or a child’s college tuition, only to view their statement years later and be shocked to see there is little money left in the policy and learn it will implode in a few years.

Insurance companies invest the surplus difference between the cost of your life insurance and what you pay them. Your investment is subject to the same market conditions and risk as if you invested independently or through a money management firm.

Here are my Top 4 “buyer beware” questions to ask of your agent or advisor before purchasing a cash value policy:

1) Are the returns shown in the policy illustration guaranteed?
(answer: No they are not)

2) What happens to the cash surplus in my policy if I died in 5 years?
(answer: the insurance company pays the death benefit, but keeps any accrued cash)

3) Tell me exactly what fees I’m being charged now and if I cash out the policy?
(answer: expect investment fees in the 2.5-3.5% range, plus “surrender fee” equaling a years’ premium)

4) Interest rate if I borrow money from my policy, and what happens if I don’t repay?
(answer: interest rate is generally higher than borrowing directly from a bank, such as a home equity loan. If loan is unpaid, your death benefit will be reduced and/or your policy rate guarantee period is shortened. )

Our advice? Insure with an insurer at your best possible rate from an AM Best A-rated company, and invest with an investor matching the investment fee expense to the level of management you require. Don’t co-mingle the two.
Life insurance should be viewed as financial protection, not an investment. No one buys fire insurance on their home expecting it to burn down one day, but if it did, you don’t want your family out on the street. Life insurance can provide the same peace of mind.

How Much Life Insurance Can I Buy?

Many people are surprised to learn that they can’t buy as much life insurance as they want. Sorry, you can’t receive a windfall from dear old grandma’s passing. To put it simply, you can’t be worth more dead than alive. Life insurance is to protect an estate, not create one.

If you’re in your working years, you can cumulatively carry a multiple of your gross annual income times your years to retirement.

For example, if you earn $75,000 per year:

Age 25 – 40: 75 x 30 (years) = 2.25 million
Age 41 – 50: 75 x 20 = 1.5 million
Age 51- 60: 75 x 15 = 1.125 million
Age 61 – 70: 75 x 10 = $750,000

If you’re buying term insurance, the term (rate guarantee) doesn’t have to correspond to the years to retirement multiple. In other words, if you qualify for the 2.25 million in the example above, you don’t have to buy a 30 year term policy. If you kids will be through college in 10 years, you may only need a 10 year term, which is quite a bit lower in cost than a longer term.

For estate planning, the rules are a bit different. Underwriters take into consideration potential estate tax liability and/or the need to not force the family to sell property or a business in adverse market conditions.
Policies for your lifetime, such Universal, Variable and Whole Life policies, can have varying financial requirements. Contact your CPA or a JRC representative….explain your situation and we’ll be glad to share our professional recommendations.

Life Insurance as an Inheritance

Perhaps the greatest feature of life insurance is that it is paid tax-free (generally) in one lump sum to your beneficiary or beneficiaries, with few exceptions.

When you apply for new life insurance, you’re generally asked to explain how the beneficiary would suffer a financial loss at the time of your death. This is easily explained for a spouse if you have an income they would lose.

Where it can get tricky, is if have no income, or want to name someone other than your spouse as beneficiary.
If you already have a life insurance policy in place and are the policy “owner”, you can generally change your beneficiary to individuals, organizations, or even a trustee to take care of your beloved cat or dog.
Applying for a new policy with benevolent thoughts in mind? You will be best served initially naming your closest family member as beneficiary, then changing this designation after your application is approved and policy in force.

JRC can provide guidance.

I personally have helped a gentleman secure a 3.5 million policy at age 72. He wished to leave his business to his nieces and nephews. His wife had died a year earlier, and he had no children. We were able to explain to the underwriter that $3.5 million was needed at the time of death to buy out his share of the business and keep it solvent. We worked closely with his trust attorney to get the policy approved and in place. What a great legacy to pass down!


Life insurance for estate planning is a complicated issue. You will generally need the assistance of an independent life insurance “broker”, CPA and trust attorney.
JRC insurance agents shop up to 40 companies for our clients to match to the best company for each unique situation. We look forward to sharing our knowledge and experience with you. Give us a call, toll-free, at (855) 247-9555.

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