September is Life Insurance Awareness month. According to the insurance industry research arm LIMRA, new insurance policy sales are up sharply, and total premium growth from new and existing whole life insurance policies in 2021 in particular is projected at a remarkable 10% to 14%. This comes after almost no revenue growth for this segment of financial products in 2019 and 2020. Greater consumer interest in life insurance this year has apparently been stimulated by the country’s experience with the pandemic.
Whole life insurance is, essentially, a tax-sheltered plan to leave a substantial inheritance to heirs, funded through regular payments during life (the premiums). This inheritance could ensure that important goals are still achievable, such as the continued dignity and independent living of a surviving spouse, or college education of a child. In the unhappy event that the insured dies prematurely, the goal is still met, the full benefit is paid. If the insured does not die early, other benefits come into play.
A whole life policy includes a savings element, generally referred to as “cash value,” as well as the insurance protection. One core benefit of a whole life policy is that premiums will not go up during life, and there is never a policy renewal date, as may be true for other types of insurance. A secondary benefit is a guaranteed rate of return on the accumulating cash value, though that rate is typically pretty low. Finally, some policies may supplement that rate of return on cash value with dividends, which are not guaranteed. The increases in cash values inside the policy are not taxable income when they are earned.
Payments of whole life premiums are not deductible on Form 1040, but the receipt of life insurance proceeds by the beneficiaries is not subject to income tax. (For very large estates, the estate tax may come into play, but that topic goes beyond a “beginner’s introduction.”)
Tapping the cash value
Depending upon the policy terms, one may borrow against the cash value, or one may make a withdrawal. A loan that will be repaid is not taxable, but a withdrawal is taxable to the extent of investment gains. Both loans and withdrawals reduce the death benefit. However, in many cases by the time one reaches retirement the need for insurance has diminished, so tapping the cash value makes sense.
Exiting a whole life insurance policy
If you stop paying premiums on a whole life insurance policy, the cash value in the policy will be used to pay them until it is exhausted. At that point the policy ends, as does the promised death benefit. Depending upon the policy, there may be other alternatives:
- Withdraw the cash value, paying income taxes on the investment gains.
- Accept a reduced, fully paid up death benefit.
- Convert to an extended term life policy
- Exchange the policy for a different insurance policy or an annuity.
Designating a beneficiary
All life insurance will include a beneficiary designation, and there may be more than one beneficiary. There usually should also be contingent beneficiaries named, should one of the primary beneficiaries die before the insured.
It’s important to understand that an insurance policy is a contract, it is governed by its own terms, and those terms identify who gets the proceeds. To change beneficiaries one must contact the insurance company and complete the necessary paperwork. The policy beneficiary cannot be changed or overruled by a provision in one’s will.
Variations on a theme
One of the newer developments in the life insurance arena is the “combination policy” with both whole life insurance and long-term care elements. Long-term care insurance as a standalone policy has become rather expensive, and combination plans may appear more affordable and accessible to some. At the same time, including a life insurance component promises that some benefits will be paid even if one never needs the money for long-term care.
To learn more
There are other types of permanent insurance to consider as alternatives to whole life. These include universal life, variable life, and survivorship life insurance. Each has its own nuances to be weighed against one’s financial planning objectives.
It’s a lot to sort out. A client advisor, such as those at Arvest Wealth Management, will be able to help you develop objectives, assess your resources, and identify which life insurance choices may be best for you and your family. Click here to find a client advisor.
This content has been prepared by The Merrill Anderson Company and is intended as a general guideline.
© 2021 M.A. Co. All rights reserved.