Scott Roberts, CPA, CLU
Director of Insurance Strategy
Once clients have done the level of estate planning with which they are comfortable and have reduced their estate taxes as much as they can, it often makes sense to buy life insurance to cover some or all of the remaining taxes. At this point, clients often ask me why they need life insurance since their estate is very large and liquid, meaning their heirs will inherit plenty, even net of all taxes. The simple answer is that they don’t need life insurance. But nor do they need to invest at all or take any risk through those investments…yet they do because it makes sense to do so. Here are some of the reasons why smart, ultra-wealthy (and liquid) clients still implement some amount of life insurance as a part of their plan.
- They look at the fact that there will be a large future financial cost (estate tax) and, as with all financial arrangements, they want the best deal.
- They understand that life insurance allows them to “discount” the cost because the amount of premiums paid will only be a fraction of the death benefit that pays the tax.
- They understand it is like negotiating the taxes down to pennies on the dollar – so they figure “why wouldn’t I do that.” And it can be even more attractive if the premiums are financed.
- While liquid clients won’t have to sell illiquid assets to pay the tax, all things being equal, they feel it still makes sense to discount the taxes rather than “overpay”.
- The issue of how much to leave to the family is nuanced and highly variable depending on the family situation. I’m often asked how much a client should leave to their children. I believe a good answer to this question is: exactly the amount for which you have prepared them.
- Clients who have struggled with this and who have still incorporated some life insurance in their plan, in addition to the financial reasons, consider other factors.
- They know that they can draft trusts in such a way to ensure/encourage that the funds are used for worthy causes. And they are most often raising their children to respect wealth.
- They know that some life insurance gives even more liquidity and flexibility should things change in the future.
- They see it as a hedge against potentially having to pay estate taxes shortly after a market correction, which would require selling at a low valuation.
- For clients with charitable inclinations, they like the fact that life insurance as a part of the plan can allow them to leave even more to charity.
- In fact, some clients create a “zero estate tax plan” where they leave the lifetime exemption amount plus some life insurance to the family and everything else (that would have been taxable) to charity.
- Admittedly, clients who are concerned about leaving “too much” to the family rarely fully fund the entire projected estate tax obligation with life insurance. But because of the reasons above, they incorporate some amount into the overall plan.
- They see their investments with a long, multi-generational perspective.
- They know that, absent something radical, they will never spend all their wealth so, by definition, every investment they make is, at least in part, going to benefit future generations.
- They know that IRRs (Internal Rate of Return) on the death benefit of life insurance can range between 7% and 11%, or even higher, at life expectancy.
- And with that knowledge, they understand why there are successful investment funds dedicated to investing in life insurance policies purely for the economics.
- They understand that life insurance is a non-correlated asset class that diversifies their investment portfolio.