When most people buy a life insurance policy, they file it away hoping to never need it. But, if you have cash value life insurance policy, such as whole life, universal life or variable universal life, you purchased more than just insurance coverage. Your policy is also an investment, and some of your premiums over the years went to building cash value.
Like other assets in your portfolio, it’s important to review your policy regularly to make sure it still fits your goals and is performing as expected.
Ask yourself: Have my goals changed?
You likely purchased your policy with certain goals in mind, like saving for retirement or funding an inheritance for your children. But if you purchased your policy several years — or even decades — ago, your goals may be different today than when you paid your first premium. The first step in your review should be to revisit why you purchased the policy in the first place and consider if anything has changed. Maybe your financial or family situation is different than what you expected several years ago. Or perhaps your retirement goals have evolved over the years.
For example, we worked with one client who purchased a whole life policy in his 40s, but now at age 63 no longer felt he could comfortably pay the ongoing monthly premium that the policy demanded.
Did your policy do as well as was expected?
Another important thing to review is how your policy has performed. When you purchased the policy, you were shown an illustration of how the cash value and death benefit were expected to grow over time as investment performance and/or insurer dividends were earned. Take stock of what your cash value balance and death benefit are today versus what was projected.
If your policy balances are materially lower than what was projected, that could be an indication that your insurer has lowered dividends or raised fees materially. For variable universal life policies, lower balances could also mean that the funds you’re invested in have done poorly. Poor performance doesn’t just mean a lower cash value today, it could mean trouble down the road. If you were planning to use your policy for retirement income, poor performance could mean your future income will be lower than hoped. In some extreme cases, poor performance could also lead to additional premiums in the future.
If it’s time to make a change, consider a 1035 transfer
In general, permanent life policies are meant to be long-term holdings and should not be replaced or terminated frequently, if at all. If it’s performing well and still fits your goals, you’ll likely do best by keeping your policy. However, if your policy has under-performed or just isn’t a fit for you anymore, making changes to it or replacing it with something else could be the best option, particularly if you’ve built up substantial cash values. For example, you could consider a 1035 exchange into an income annuity or long-term care insurance policy that may better meet your retirement needs going forward.
A 1035 transfer, if executed properly, is tax-free upfront and allows you to continue deferring taxes on any un-taxed gains you currently have in your cash value policy.
One client’s story shows the possibilities
In a recent case, we worked with a 60-year-old client who had three whole life insurance policies he purchased over the years. The policies had not performed well, and results were not expected to improve going forward. In addition, the policies required tens of thousands of dollars of additional premium during his retirement years.
While he could easily have afforded the additional premiums, it was not the best use of his retirement income, so we consolidated his policies into a single hybrid long-term care policy that did not require any future premiums. The policy provided him with a substantial amount of long-term care coverage if he needed it and a return of his premium to his family if he passed away without needing care. With this transaction, our client was able to get an insurance policy that was a better fit for his needs going forward and simplify his financial life.
The next step for you
If you decide to go the 1035 route, make sure to consult with your insurance and tax advisers first, as an improperly executed transaction could invalidate some of the transaction’s important tax benefits. Also, if you decide to replace your current policy with a new one, make sure your new coverage is in place before canceling the old one. The last thing you want is to be stuck with no coverage if your new insurer does not approve your application.
For more information or to get help reviewing your current policies, you can visit www.saturdayinsurance.com/life-insurance (opens in new tab).
Dennis Ho is co-founder and chief executive of Saturday Insurance (opens in new tab), an online independent insurance agency. With over 20 years of industry experience, Dennis has a passion for insurance and the role that it can play in building financial security. Dennis is a Fellow of the Society of Actuaries and a CFA Charterholder. Originally from Winnipeg, Canada, Dennis now resides in New Jersey with his wife and three young children.
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