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Most of us consider life insurance to be an important personal tool, offering peace of mind and financial protection in the event of an emergency. And while that is indeed its primary function, the value of life insurance doesn’t stop there. When properly structured, life insurance can be an essential tool in tax planning, providing immediate financial benefits.
As estate planning experts, the team at Zeifmans uses several diverse strategies to ensure both long-term wealth preservation and day-to-day taxation benefits. Let’s take a closer look at how life insurance can be structured to create financial gain today.
Term and permanent insurance
Typically, life insurance falls into two categories: Term and permanent.
Term insurance provides coverage for a fixed period; generally between 5 and 20 years. Each year has a premium associated to it, and a fixed amount of insurance available during that period. At the end of the term, the policy and coverage expire. Term insurance tends to be pricy, given its fixed and time-sensitive nature.
Permanent insurance policies are just that- permanent. Some permanent policies require premium payments for life, while others have set payment periods. The policies can also be structured in a manner that allows the investment of the policy to fund the premium payments after a set date. In this way, you would only need to make premium payments for a certain term (say, 10 or 20 years), however the coverage continues permanently. Since many permanent policies are self-funding, they are an excellent option to create long-term wealth.
What are the tax benefits?
When a corporation is used to purchase insurance, wealth can be accumulated more quickly. This is because after tax corporate dollars can purchase significantly more insurance than the same level of after tax personal income. Individuals pay personal tax on the money they take out of the corporation, which would mean less cash available for the insurance policy.
Tax-free growth
If structured effectively, most permanent life insurance policies are “exempt policies”. This means that the income earned inside the policy can grow without accruing tax. Further, investments within an insurance policy tend to outperform standard investment accounts on an after-tax basis, given that tax rates on investment income can significantly impede on long term investment performance.
Distributions
When the person who is insured passes away, the corporation generally receives a death benefit tax-free. This includes the base amount and any growth that has accumulated in the investment component of the policy.
The portion of the death benefit that exceeds the adjusted cost basis of the policy gets added to the corporation’s capital dividend account. This amount can then be paid out tax-free to remaining shareholders or the estate.
Leverage
Permanent policies can have a component within them that can be accessed in the event of a policy cancellation or that can be borrowed against by way of a policy loan. This amount is called the cash surrender value (CSV), and the majority of permanent policies include a variable component that is based on any growth in the investment portion of the policy.
The CSV is a highly secure asset that can be accessed if needed. For this reason, financial institutions are amenable to using the CSV as collateral for a loan- in some cases lending up to 100% of the CSV. Since the policy may be more than what you intend to leave your estate, you could access that added value of the policy while you are living by borrowing against the policy value.
Immediate Financing Arrangements
Further to the above, Immediate Financing Arrangements (IFA) allow a policy holder to borrow back 90 to 100% of the CSV in the form of a line of credit. The funds can then be used to invest in an operating business, purchase real estate, or invest in a portfolio. If the loan is invested back in the business and taxed at the highest marginal rate, some of the interest can be claimed as a deduction on your tax return.
The loan can be paid back through the course of the policy. Alternately, when the life insured passes away, the loan will be paid out of the death benefit and any remaining funds would be paid to beneficiaries. Hence, an IFA can be an excellent strategy to employ during the estate planning process.
Estate planning, simplified
For blended families, high net-worth families, and families with complicated dynamics, estate planning can be a complex and arduous process. The professionals at Zeifmans are experienced at providing tax-efficient solutions on a wide range of financial and familial estate situations, delivering innovative, aggressive solutions tailor-made to produce exactly the results you desire.
To learn more about strategies like corporate life insurance in estate planning, reach out to our team today.
Suggested supplemental insights
Planning Your Legacy: A guide to preserving and growing your wealth
