Life Insurance: Retirement Money Or Separate Savings?

Life insurance is a topic that raises many questions, especially when it comes to retirement. While it's not mandatory, it can be beneficial to have life insurance during your retirement years. This is especially true if you want to cover final expenses, pay off debts, or leave an inheritance for your loved ones. The type of life insurance you choose will depend on your financial situation, family circumstances, and retirement goals. It's important to carefully consider your options and seek expert advice to ensure you make the right decision for your future.

Final expenses

Final expense insurance, also known as burial insurance, is a type of whole life insurance policy that is typically less expensive and designed to help your loved ones cover the costs that come in the final stage of life. These costs can include funeral and burial expenses, as well as outstanding medical, legal, or credit card bills. The average funeral can cost $10,000 or more, and cremation is only about 28% less expensive than a traditional funeral. Final expense insurance can ease the financial burden on your family, allowing them to focus on healing during a difficult time.

Final expense insurance offers competitive, fixed premiums that do not change over time, and the coverage remains in place as long as the premiums are paid. Some final expense insurance plans also build cash value over time, which can be used to borrow against or as a non-forfeiture benefit. Additionally, final expense insurance usually does not require a medical exam, making it easy to qualify for this type of coverage.

When considering final expense insurance, it is important to look at your monthly expenses and determine how much money you would like to guarantee your beneficiaries. You can calculate this by considering your monthly household expenses, immediate needs, and potential funeral expenses. Final expense insurance can provide peace of mind, knowing that your loved ones will not be left with a financial burden when you pass away.

It is worth noting that the beneficiary of a final expense insurance policy can use the death benefit payout for any purpose they choose. While the primary intention is to cover funeral and end-of-life expenses, the beneficiary ultimately has the flexibility to allocate the funds as they see fit.

Estate taxes

Life insurance is a useful tool to protect against potential income and other losses. There are multiple types of life insurance, including term life insurance, whole life insurance, universal life insurance, and burial insurance.

Term life insurance is temporary and offers coverage for a set period, normally 10 to 30 years. Whole life insurance, on the other hand, is permanent and does not have an expiration date as long as premiums are paid. Universal life insurance is also permanent and enables the policyholder to adjust premium payments annually. Burial insurance, also known as final expense or funeral insurance, is a small whole life insurance policy that covers funeral costs.

Life insurance proceeds are generally not taxable as gross income. However, if the policyholder elects to delay the benefit payout and the money is held by the insurance company, the beneficiary may have to pay taxes on the interest generated. When a death benefit is paid to an estate, the person(s) inheriting the estate may have to pay estate taxes.

To avoid estate taxes, it is advisable to transfer the ownership of the life insurance policy to another person or entity. This involves choosing a competent adult or entity as the new owner, obtaining the proper forms from the insurance company, and ensuring that the new owner pays the premiums. It is important to note that the original owner will give up all rights to make changes to the policy.

Another way to avoid estate taxes is to create an irrevocable life insurance trust (ILIT). This involves transferring ownership of the policy to a trust, with the policy held in trust, and the proceeds are not included as part of the estate.

It is important to note that the three-year rule applies to both ownership transfers and the establishment of an ILIT. This means that if the original owner dies within three years of the transfer, the proceeds will be included in their estate and taxed accordingly. Additionally, the original owner must forfeit any rights to make changes to the policy, and they must not pay the premiums.

Inheritance

Life insurance is a useful tool for inheritance planning, allowing you to leave a larger sum of money to your loved ones. This is especially beneficial if you want to provide for your family after your death or have specific bequests you wish to make, such as charitable donations.

The death benefit from a life insurance policy can help your beneficiaries cover the costs of any remaining debts or taxes on your estate. This is particularly relevant if you have a large estate valued over $12.92 million (as of 2023) or own a business that you want to keep in the family. The proceeds from life insurance can help your heirs pay the necessary taxes to retain these assets.

Additionally, life insurance can be used to offset the tax burden on your beneficiaries when they inherit your retirement accounts. Non-spousal beneficiaries who inherit an individual retirement account typically need to cash it out within ten years, which can result in a substantial tax bill. Life insurance benefits can help offset this cost.

When considering life insurance for inheritance purposes, it's important to evaluate your family's financial circumstances. If you have adult children who are financially independent, and you have sufficient funds to cover retirement and end-of-life costs, the need for life insurance may be minimal.

However, if you have younger children or dependents with special needs, maintaining a life insurance policy can provide valuable financial support for them after your passing. Similarly, if your spouse relies significantly on your income, life insurance can help make up for the loss of income they will experience.

The type of life insurance you choose also matters. Term life insurance provides coverage for a specific period, usually 10 to 30 years, and is more affordable. On the other hand, whole life insurance is permanent and offers coverage as long as premiums are paid, making it a good option if you want to ensure a death benefit is paid out whenever you die.

In conclusion, life insurance can be a valuable tool for inheritance planning, allowing you to provide financial support for your loved ones, offset tax burdens, and ensure the continuation of your legacy through charitable donations or the retention of family businesses.

Debt repayment

One of the most important considerations when deciding whether to keep your life insurance after retirement is whether you have any outstanding debts. If you are still paying off a mortgage or have other large debts, it may be wise to keep your policy to help your family pay off these debts in the event of your death.

However, if your debts are a small part of your net worth and pose no risk of financial difficulty, life insurance may not be necessary. It is important to weigh the potential financial burden of your debts against the ongoing costs of insurance, especially if you have lost your job-based coverage.

Life insurance can also be useful for paying off business debt. If you own a large business that you want to keep in the family, and you do not have enough liquid assets, the proceeds from a life insurance policy can help your heirs pay off any remaining debt.

Additionally, if you have a pension or annuity, it is essential to check the conditions to determine the survivor's benefit and factor in your lost Social Security income. If your spouse or family members depend on your income and would lose a significant portion of it upon your passing, you may want to keep your life insurance policy to help make up the difference.

In summary, the decision to keep life insurance after retirement to cover debts depends on the size and risk of your debts, the ongoing costs of insurance, and the financial needs of your family or beneficiaries.

Spouse's retirement income

Life insurance is not just for the breadwinners of the family. It is also important for stay-at-home spouses who provide essential household services, such as childcare, which can be expensive when outsourced.

When it comes to retirement, there are a few things to consider when deciding whether or not to maintain a life insurance policy. Ask yourself the following questions:

• Do you still earn an outside income? If you are retired and no longer work, you probably don't need life insurance. However, if you expect to owe estate taxes, life insurance can cover this cost. You may also want to use life insurance to bequeath a tax-free sum to your beneficiaries or to a charity.
• Do your beneficiaries need more protection? When you die, your family can inherit your estate and receive payouts from your existing sources of income. However, inheriting an IRA can create tax consequences for family members, depending on who inherits it and the type of retirement account. Social Security pays a survivor benefit, but this varies based on your unique situation and will likely be less than what was paid out before your death. Make sure you know what benefits your family stands to inherit, any tax consequences, and their income needs before deciding whether you need life insurance in retirement.
• How will you pay for your final expenses? Final expense life insurance can help your loved ones pay for expensive costs after you pass away, such as medical bills and funeral expenses. If you have enough savings and have prepaid your funeral, you may not need life insurance to cover these expenses.
• What does your family situation look like? If you have children who are out of the house and providing for their families, you likely don't need life insurance. However, if you have children with special needs or children who are still living at home, you should consider keeping your current insurance or purchasing coverage. You might also want life insurance to help pay for your grandchildren's future college expenses. Additionally, if your spouse would lose a substantial amount of your pension income or other monthly payments upon your death, life insurance can fill this gap.
• Would it help your estate? Some people with considerable assets can use life insurance strategically, such as a way to pay estate taxes. The proceeds could also fund retirement plans. However, unless you have an estate worth millions of dollars, estate tax considerations probably don't apply. Consult a qualified expert to be sure.

If you are a spouse who is retired and no longer has any income, you may not need life insurance. However, if you have debt, are still earning an income, or want to provide for your spouse or family after your death, life insurance can be a valuable tool to achieve these goals.

Frequently asked questions