IMGCAP(1)]With middle-class families taking big losses in their 401(k) and other investments, many are concerned that they might not have enough money to retire without running out.
There are a few options: work a few more years, take more risk to make the money back, or retire with less income. People do not seem to think too highly of these options, but there is one more option that is not nearly as common. This other option is a concept already used by many successful companies to reward their key employees with richer retirement benefits.
Many corporations pay key employees generous retirement packages, including health insurance, deferred compensation and pension benefits. By planning properly, these companies know they can offer these attractive benefits and eventually recapture these costs in the future.
Anyone familiar with corporate-owned life insurance will understand how that is accomplished. A company will buy life insurance on the life of a key employee while they are working, so that the life insurance death benefit will allow the company to provide that employee with more income and fringe benefits during retirement. Not to mention the death benefit can help indemnify the company from the loss of the revenue generating employee if they die prematurely.
The initial outlay creates a larger death benefit that the company can use to recapture the expenses of their employees benefits once theyve retired. The guaranteed future insurance death proceeds give companies a permission slip to be more generous with their retirement packages. In effect, they are spending the death benefit.
The average middle-class family will typically purchase term life insurance when they have kids typically for a term of 10, 15 or 20 years. Subsequently the term insurance will run out sometime after the children graduate from high school or college. Many people believe (rightfully so) they will not need life insurance when they retire. Instead, if spouses buy permanent or whole life insurance on each other, they then have the ability to count the death benefits as assets on their balance sheet when determining how much they can spend from in retirement.
By looking at it this way, many families find they want to own whole life insurance instead of term. Even though whole life insurance may have a higher price tag initially, a term policy that runs out before retirement has a higher ultimate cost since these dollars are permanently gone from their balance sheet.
Lets take a look at this hypothetical example : John and Jane are both 53, in good health, and all their kids have graduated and are on their own. They have $500,000 combined from both of their retirement plans, save $60,000 per year into those plans between employee deferral and employer match, and plan on working 13 more years.
To keep the numbers simple, they are in a 30 percent tax bracket both pre- and post- retirement. At age 65, they will have about $2,500,000 saved, assuming they earned 7 percent each year. With life expectancy slowly creeping up, they have to make sure their money can last 20 to 25 years at a minimum. Sustainable withdrawal is said to be about 4 percent, which leaves them with $67,000 per year after tax.
They could take a higher payout, but they might run out of money in their late 70s or early 80s. Not to mention they might need that principal to pay for nursing home and/or home health care at some point.
Instead John and Jane understand the life insurance as an asset concept and purchase a whole life insurance contract on each others life.
They both buy $500,000 of death benefits on their spouse and fund it to have premiums offset in 13 years (dividends and cash value are used to pay premiums). Their combined premiums are about $26,000 per year, or $345,000 over 13 years. After taxes and paying their life insurance premiums, they still have $17,000 to save each year into their 401(k)s, and end up with $1,700,000 in their qualified plans, again assuming the same 7 percent growth every year.
At age 65 they have a combined $1,200,000 of death benefits to leverage against their liquid assets, giving them the permission slip to spend around 7 to 8 percent of their retirement savings, generating after-tax income of $88,000 (30 percent more income).
If one spouse dies, about $600,000 (assuming dividends are used to purchase Paid Up Additions) of tax-free death benefits will replenish the principal they used to fund their increased retirement lifestyle. The life insurance policy on the surviving spouse remains with accessible tax-free cash value to supplement income and a death benefit for legacy purposes. If both John and Jane live longer than expected, they will have around $875,000 of tax deferred cash value at age 85 in their life insurance policies that they can access tax free to replenish their funds.
This common business practice has helped successful companies, and can help John and Jane generate as much income as if theyd had 30 percent more assets. Essentially this strategy helps them recover from the losses they had taken in the market without taking more risk or working longer than expected. With life insurance cash values growing historically between 4 to 5.5 percent with participating mutual policies, whole life insurance is a great asset to own for almost any balance sheet.
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Matthew J. Grace of First Financial Group is a registered representative and financial advisor of Park Avenue Securities LLC. He can be reached at (301) 907-9030 or
The above insurance-related values are hypothetical and are not representative of an actual life insurance policy. They are intended to show, in general terms, how a typical life insurance policy might work. If you purchase a life insurance policy, the actual policy values may be more or less than those shown above. In this hypothetical example, premiums are assumed to be due at the beginning of each year, and interest earned at the end of the year. Dividends are not guaranteed. They are declared annually by the insurance companys board of directors. Policy benefits are reduced by any outstanding withdrawals, loans and loan interest. Dividends, if any, are affected by policy loans and loan interest. If the policy lapses, any loans considered gain in the policy may be subject to ordinary income taxes. If the policy is a Modified Endowment Contract, there are no loans and any distribution is considered a withdrawal. These withdrawals are distributed as gain first and subject to ordinary income taxes. If the insured is under 59-1/2 the gain portion of the withdrawal is subject to a 10 percent tax penalty. Cash value above guaranteed amounts is contingent on dividends which are not guaranteed.
