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  • Brandon Smith

How to use Life Insurance as tax free income in retirement

Updated: Mar 19

We want to start by saying we do not solely believe in fully planning your retirement using life Insurance. Yes Life Insurance is a great alternative then the traditional way of planning your retirement. But, We believe in diversification within your financial portfolio. Never put all of your eggs in one basket. We will recommend using life insurance in retirement as an addition to your current retirement plans. We know some life insurance agents will disagree with us. However, they are just looking out for their big commissions checks.

We do believe everyone should have life insurance. It is one of the single most important financial backbones a person can have for themselves and their families. However, using Life Insurance in retirement may or may not be your best move. We suggest maxing out all of your other retirement vehicles first. Such as 401k contributions, Pensions, IRA, most importantly RothIRA, any Roth accounts, etc. This allows you to stay connected to the market and not miss any possible growth. You will also participate in the market losses with these retirement plans. Which can be dangerous if your near retirement or are in retirement. These vehicles are taxable and have restrictions on when you can take the money out. There are fees associated to these vehicles, if you take your money out early. They are solely for retirement purposes. One way to limit you tax burden and still participate in market like gains while minimizing lost is using an IUL policy for your retirement planning. These are the fastest growing Cash Value permanent policy out there now. According to Thinkadvisors that average IUL rate of return is 8.38%. This has been calculated from 1920 to 2013. It's nothing to call home about but it is fairly a good return compared to some of the other financial utilities out there. Life Insurance falls under US Tax Code Title 26. Section 7702: Which give you a potential way to create Tax Free Income for retirement. This allows the IUL cash value to grow tax free over time. After every year your returns are locked in place and can not be eroded from the market. You use post-tax dollars to fund the policy allowing you to take policy loans, withdraws, and surrender funds from the cash value tax free at any age. This is done without penalty. It's important to keep in mine that they may have fees associated with the loan and withdraws. In turn your retirement payments will be tax free. Another benefit these policies allows you to leave a death benefit for when you pass on. These funds are 100% income tax free to your beneficiary.


How does this work? The idea behind the policy is using the cash value within the permanent life insurance policy to generate enough interest to live off of in retirement. The cash value is linked to an index. Many use the S&P 500. However, there are other such as the Russell 2000, Euro STOXX and Nasdaq-100 to name a few. Although no funds are directly invested into the market, the insurance company will credit your account based on the performance of the market. These plans allow you to participate in the gains but shields you from the loss. Many insurance companies gives you a zero floor. While other insurance companies have a 2% floor. This means that when the market (S&P 500) doesn't perform instead of participating in the loss you will just get zero return that year or 2% return which ever your floor is set to. After each year your gains are locked in. The the new balance is used for the coming year. There are other logistics behind the policy however they're beyond the scope of this article. But, still are things to consider while using Life insurance to plan for retirement. These are the Caps, Spread, and Participation Rates. These are all ways to limit the amount of credit the policy will receive from the insurance company. This is done because if there is no cap it would be a variable policy instead of a fixed index policy.


These policies used the power of compound interest to create this wonderful product. According to Inc.com, Warran Buffet believes that compound interest is the eighth wonder of the world. This allows your money to grow faster in shorter amounts of time. The cash value built up can be used to help pay off your mortgage, income in for your retirement, medical expenses, etc. These policies also have a death benefit that is paid out when you pass on. What is not marketed is that even when you do not participate in the lose you still have policies fees that needs to be paid. Which can eat up at your gains if we are in a bad market for a long period of time. It is very important to structure these policies correctly in order for them to withhold their value as contracted. It would be wise to have a lower death benefit with very high to max contributions each year. This allows the policy to grow cash value and withstand the fees so you will have the funds for your retirement. When you take a lower face amount it allows for more cash to accumulate because it doesn't have to guarantee such a high face amount. You will usually know what your income will be in retirement which takes the guessing out of your income in retirement. Be sure to talk with a knowledgeable and trustworthy licensed agent before you using life insurance as a means of retirement.



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