Using Life Insurance for Retirement Income

Published on January 11, 2019 by Mark Cussen in Life Settlements, Retirement Planning

Senior couple visits Rome.

Generating income to get you through retirement can be challenging. But your life insurance policy can be a valuable source of funds when you need it. Have you considered that you can use your life insurance for retirement income?

Contents:

The Income Dilemma

Retirement planning is a critical factor when it comes to financial planning. If you’re like most retirees, you probably rely on your own investment portfolio to provide at least a portion of your monthly income. Even if you’re lucky enough to have a pension, it still isn’t usually enough to cover all of your monthly bills along with Social Security, so you have to make up the difference out of your own pocket. Therefore you should know that using life insurance for retirement income can help to cover any shortfall that you may have.

Investment Returns

Generating sufficient income from your investment portfolio is a key aspect of personal finance, and many times it can present you with a major dilemma. You need your portfolio to generate enough money to cover your monthly bills, but you can’t take very much risk in order to get it. Stocks go up and down on a regular basis, while bonds pay a steadier rate of income. But their prices can also fall when interest rates rise, thus reducing the amount of principal in your portfolio.

Even a well-diversified portfolio can suffer substantial losses when the markets get really bad, and this can easily jeopardize your chances for a secure retirement. It is therefore important to factor this possibility into your long-term retirement plan and choose investment options that have shown that they can weather the storms of time.

And what if a major unexpected expense comes up? What if you or your spouse is diagnosed with a major medical condition that isn’t covered by your health insurance? Where will you come up with the money to pay the doctor? Medical bills are the leading cause of bankruptcy in America, and the disturbing thing is that over half of those who were forced to file for bankruptcy had health insurance.

The 4% Withdrawal Rule

In times past, many financial advisors told their clients that as long as they limited their annual withdrawals to 4% of their total IRA and retirement savings, then they would have enough money to last them for at least 30 years. But CNBC reports that most retirees cannot take this much out of their savings each year in today’s low interest rate environment.

A more realistic rate of withdrawal now stands at 2.75 – 3% for the average retiree. Many retirees are therefore left to search for other sources of funds that they can draw from in order to make ends’ meet. Some of them are forced to go back to work, while others have to drastically downscale their standards of living.

Accessing Your Life Insurance Cash Value

If you have a permanent life insurance policy that has accumulated a material amount of cash value, then this could give you at least one source of funds to draw from when you need cash now. There are several different ways that you can do this; the best way for you will depend upon your needs and circumstances.

  • Cancel the policy – If you no longer want or need the death benefit coverage from your cash value life insurance policy, then you may want to simply cancel it. You will notify the life insurance company that you wish to cancel the policy, and the insurance company will then send you a check for the amount of cash value that is left after all applicable surrender charges and fees have been assessed. If the amount you receive is in excess of the total amount of premiums that you paid into the policy, then you will be taxed on the difference at your top marginal tax rate. One advantage that this provides is that it will continue to lower your expenses on an ongoing basis, as you will no longer have to make the premium payments. However, this will leave your beneficiaries bereft of the death benefit that they would previously have received.
  • Direct withdrawal – It is possible to simply withdraw the accumulated cash value in the policy without cancelling the coverage. Just remember that the death benefit will be reduced by the amount of the withdrawal. And you will still have to pay the policy premiums going forward. Again, if the amount of cash value that you withdraw exceeds the total amount of premiums that you have paid into the contract, then the difference will be taxed as ordinary income.
  • Policy loans – You can take out a loan from your policy using the cash value in the policy as collateral. The loan will charge you a predetermined rate of interest and if you take out too much money, the policy can lapse. However, this alternative is attractive for many policy holders because there are no underwriting requirements of any kind for this type of loan. This is because the borrower is essentially borrowing from him or herself. And the loan does not have to be repaid in many cases, although the policy’s face value will be reduced by the amount of any outstanding unpaid loans.

The latter two options don’t have to be done all at once. If you don’t have a significant extra expense and just need additional monthly income, then a cash value insurance policy can be an excellent resource to draw from. This is true regardless of what type of insurance product you have. It could be a whole life insurance policy, a universal life insurance policy or a variable universal life insurance policy. Many people use life insurance as a form of supplemental income during their retirement years. It should be noted that term life insurance cannot be used in this manner, because it has no cash value component.

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The Life Settlement Solution

Using the cash value in your life policy for current income is fine under normal circumstances, but, as mentioned previously, what if you are diagnosed with a major ailment that is not covered by Medicare or your private health insurance carrier? You may need access to more money than you have in your policy’s cash value in a very short time. Fortunately, you may have an alternative, known as a life settlement.

Instead of cashing in your policy or taking out a loan, you can simply sell your policy to a qualified buyer who will leave you as the insured on the policy and name itself as the new beneficiary. It will then assume the responsibility of paying the policy’s premiums from then on. The buyer will then collect the death benefit upon the death of the insured, and the seller (you) will be paid a substantial amount of money up front. In many cases, this can be at least two to three times the entire amount of cash value in the policy. And in many cases, you can get your money in less than a week.

If you are terminally ill, then a viatical settlement may be the way to go. This arrangement is similar to a life settlement, where a buyer, known as the viator purchases your life insurance policy and names itself the beneficiary. You collect a hefty sum up front and remain as the insured on the policy. The biggest advantage to using a viatical settlement over a life settlement is that the payout on the former type of transaction is usually larger.

Conclusion

Life insurance can be an important source of supplemental income on both a monthly and a lump-sum basis when you retire. Consult your financial advisor or life insurance agent for more information on how you can best access the cash value in your life insurance policy.

Mark Cussen
Mark Cussen
Mark Cussen is a financial counselor with more than 13 years of experience and has professional designations as a CFP®, CMFC and AFC. Mark has worked in all segments of the financial industry from investment management to mortgage loan origination, life insurance and annuities, financial planning and income tax preparation. He currently works with the U.S. military, helping service members transition financially into civilian life and in other capacities. Mark also sells life insurance and annuities on the side. He graduated from the University of Kansas with a Bachelor’s degree in English.

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