How Is Insurance Used in Estate Planning?
It’s possible that life insurance may play a much bigger role in your estate planning than you might have thought, says a recent article in Kiplinger titled “Other Uses for Life Insurance You May Not Know About.”
If you own a life insurance policy, you’re in good company—just over 50% of Americans own a life insurance policy and more say they are interested in buying one. When the children have grown up and it feels like your retirement nest egg is big enough, you may feel like you don’t need the policy. However, don’t do anything fast—the policy may have far more utility than you think.
Income Tax benefits. The tax benefits of life insurance policies are even more valuable now than when you first made your purchase. Now that the SECURE Act has eliminated the Stretch IRA, most non-spouse beneficiaries must empty tax-deferred retirement accounts within ten years of the original owner’s death. Depending on how much is in the account and the beneficiary’s tax bracket, they could face an unexpected tax burden and quick demise to the benefits of the inherited account.
Life insurance proceeds are usually income tax free, making a life insurance policy an ideal way to transfer wealth to the next generation. For business owners, life insurance can be used to pay off business debt, fund a buy-sell agreement related to a business or an estate, or fund retirement plans.
Estate Tax benefits. A life insurance policy owned in the proper way can avoid estate taxes, can reduce estate taxes, and help to fund any estate tax liability you may have. Keep in mind, however, that you can’t own the policy in just any fashion. You may have to avoid “incidents of ownership” in the policy, and accordingly, it will have to be owned by someone other than yourself, usually by an Irrevocable Life Insurance Trust (ILIT). To make the deal even better, you can finance the policy premiums estate and gift tax free using what is called a “Crummey Power” in your Irrevocable Life Insurance Trust (ILIT). This is an advanced estate and gift tax planning tool, and it generally not used by lawyers that don’t know much about the tax laws. You need to talk to an estate planning lawyer that is also a tax lawyer.
What about funding Long-Term Care? Most Americans do not have long-term care insurance as part of their estate planning. This is potentially the most dangerous threat to their or their spouse’s retirement. The median annual cost for an assisted living facility is about $51,600, and the median cost of a private room in a nursing home can be $70,000 or more (in Louisiana). Long-term care insurance is not inexpensive, but long-term care is definitely expensive. Traditional LTC care insurance is not popular because of its cost, but long-term care is more costly. Some insurance companies offer life insurance with long-term care benefits. They can still provide a death benefit if the owner passes without having needed long-term care, but if the owner needs LTC, a certain amount of money or time in care is allotted.
What if you Don’t Purchase Long-Term Care Insurance? This is the case with most of my clients. They simply don’t have long term care insurance as a part of their estate planning. They simply don’t have long term care insurance due to the high cost. If you don’t have long term care insurance, don’t despair. There are steps you can take to qualify for Medicaid Long Term Care. However, you can’t delay due to the considerable look back period (currently 5 years), and the applicable penalty period. If you don’t have long term care insurance, it is imperative that you plan ahead. A plan can be put in place to avoid nursing home poverty and losing your assets to long term care costs, which can easily exceed $70,000 per year.
Reference: Kiplinger (July 21, 2021) “Other Uses for Life Insurance You May Not Know About”