How Life Insurance Can Help You Build (and Protect) Wealth
July 19, 2021
For most people, the purpose of purchasing life insurance is to provide financially for their loved ones in the event of their death. In that sense, life insurance is a straightforward product: You pay the premiums, and when you die, your beneficiaries get the proceeds.
But life insurance can be so much more than simply a death benefit. A permanent life insurance policy can also play a vital role in your overall financial plan to help build and protect wealth. Here’s a look at how it works.
Permanent life insurance: A twofer.
A permanent life insurance policy certainly fulfills its fundamental goal of providing a death benefit to your loved ones after you’re gone. But it has an additional feature: It also allows you the potential to build cash value, which can grow tax-deferred in an account known as the policy’s “cash value” or “account value.”
The cash value component of a permanent life insurance policy is a key feature that sets it apart from a term life insurance policy. A term policy is in effect for a set period of time and tends to be less expensive than a permanent life insurance policy. With a term policy, there is no cash value. With a permanent policy, on the other hand, you have the option to access the cash value within the policy during your lifetime.
Basically, you accumulate cash value in your permanent life insurance policy through paying regular premiums, a portion of which is credited interest and then grows tax-deferred (the other part of it goes to pay for the policy). After your cash value grows over time (a process that may take 10 or more years) to reach sufficient value, you can access your money within the cash value account by taking a withdrawal or a loan against the policy.
Slow but steady wins the race.
There are plenty of investment options available to help grow your wealth. Permanent life insurance may be an option if you’re looking for the security of a tax-free death benefit along with tax-deferred growth potential.
Adding a permanent life insurance policy to your portfolio can be a useful diversification strategy because life insurance (other than variable life insurance) is not vulnerable to the volatility of the markets as are investments. For instance, a universal life insurance policy (a type of permanent life insurance) might offer a market-based interest rate that changes annually but is guaranteed to never drop below a certain rate—say 1%. Depending on the policy and the current interest rate environment, policies may offer higher rates compared to the guaranteed rates. So it’s important to shop around.
As you pay your premiums and earn interest, over time the cash value can potentially be used as a powerful tool within your nest egg. You can choose to use it in any way you like. (Note that withdrawing cash, without adding it back, will lower the death benefit paid to your beneficiary and interest withdrawn will be taxable.)
Taking a loan against the cash value in your policy may also be an attractive option. The interest rates may be lower than those on a traditional bank loan. Your policy remains intact, and your account value can continue to grow at interest rates that may even exceed those you’re paying on the loan. The loan itself is tax-free, so you also avoid the tax burden you might incur if you were to withdraw any of the interest from the policy. By repaying the loan, you can preserve the original death benefit amount.
Your legacy, secured.
Maintaining a permanent life insurance policy throughout your life can help to ensure that the people you love will receive the financial legacy you wish to leave for them. Or, alternatively, the cash value could provide you with a nest egg you can dip into during your lifetime.
You may likely have other assets to leave to your heirs, but they can be subject to income taxes or, if a clear will is not present, the judgments of a probate court. A permanent life insurance policy’s cash value with a guaranteed interest rate, by contrast, will be protected from market loss, which those other assets may not be. And because a life insurance death benefit is generally not subject to federal income taxes and not included in probate, you can feel confident that your beneficiaries will receive the proceeds.
With these twin benefits of helping to secure your legacy while growing your cash value in a tax-advantaged way, permanent life insurance can offer a two-pronged strategy for achieving financial well-being.
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