Life insurance may not be the first thing young, high-earning professionals think about. In fact, retirement savings, tax planning, and maximizing their portfolio may seem like much more attractive financial considerations for people at any age.
But, when it comes to who needs life insurance, it’s often the same people who may not be thinking about it yet.
In last week’s blog, Jon reviewed the importance of life insurance in the wealth management process. This week, we dive deeper into the specific scenarios where life insurance may be part of your financial plan.
Who Needs Life Insurance?
To understand who may benefit most from life insurance, we must first discuss a concept from the insurance industry called “human life value,” and then we’ll talk about specifics for business and estate planning considerations.
Income Replacement & Human Life Value
Human life value in insurance planning relates to the total amount of future earnings that one is expected to receive over their lifetime. The younger you are and the higher your earnings, the higher your human life value.
This concept relates to insurance because it illustrates the need that a younger individual with many years of earnings still to come has versus someone closer to retirement:
- An individual with 35 more working years and an annual income of $150,000 has an approximate human life value of $7,700,000.
- An individual with the same earnings, but only 10 more working years, has a human life value of approximately $1,360,000.
This simple concept illustrates that the younger you are, generally, the higher your life insurance need for income replacement. As you earn and save more over time, the need for life insurance is reduced, and for income replacement only, is typically completely eliminated when you have become financially independent and debt free.
Coverage for Business Owners
If you are an owner or key employee of a business, your need for life insurance comes from several unique risks. First and foremost, the value you provide to your business is tangible, and a sudden loss of a key employee’s knowledge and work can have bottom line effects on a business.
Key Person life insurance is a policy that a business owns and is the beneficiary of, on a key employee. This provides the business with immediate liquidity to buffer the potential financial loss that accompanies a sudden death.
In business partnerships, Buy/Sell Coverage is typically put in place by each owner, with each of them owning a policy on the other. This coverage provides funds to buy out the shares of a business from the estate of one partner, to help with business continuity and avoid financially strapping the business to a sudden buyout need.
There are a number of nuances in structuring this coverage, so be sure to consult a tax and insurance professional when putting this strategy in place.
Estate Planning Considerations
Life insurance can also play a valuable role in estate planning, primarily when discussing families who may not have liquidity in their estate or that may face federal estate taxes.
Let’s discuss these situations and talk about how charitable giving plays into this planning.
For Families who have significant illiquidity in their estate, such as real estate holdings and businesses, it provides immediate liquidity to the estate, allowing an executor time to sort out other assets without having to delay paying bills, attorney fees and other costs.
For those families that may be exposed to federal estate tax, a property structured insurance policy as part of their estate plan can offer significant benefits. The use of an Irrevocable Life Insurance Trust (ILIT) to hold life insurance benefits can shield life insurance proceeds from being included in the gross estate, providing more flexibility and estate tax mitigation.
Charitable giving strategies can also be coordinated with life insurance if an individual has assets in their estate that would be more tax efficient to be passed to charity. Those assets are given away, while the life insurance process provides family inheritance in a more tax favorable manner.
The Answer is Unique to You
As with all planning concepts in wealth management, life insurance planning is personal, specific, and should be tailored to your individual plan.
If you have questions about your portfolio, or any aspect of wealth management, contact us to start a conversation.
Disclosure – This does not constitute tax or legal advice. Always consult with an attorney or accountant when planning for specific tax or estate planning strategies.
