Here are five life insurance strategies for estate planning that maximize both the amount of wealth you leave behind, as well as the amount you protect from taxes.
Life insurance is important at any age, whether you’re a primary breadwinner, a stay-at-home parent, a caretaker, or a retiree. Not only does a policy provide a death benefit to those you leave behind, but life insurance also creates an immediate estate. And in the eyes of the IRS, that cash benefit is separate from the rest of your estate you leave behind, which could include cash savings, investments, and other assets.
All of those assets may be subject to a federal estate tax (and potentially a state estate tax, depending on where you live). Life insurance is separate from your estate, giving your heirs tax-free income to use however they please.
Final expense insurance is a type of permanent life insurance that covers costs like a funeral and burial. After all, the average funeral in the U.S. costs between $7,000 and $10,000. That can eat up a huge chunk of savings no matter what stage of life you’re in, whether you have a young family or have already retired.
A smaller policy dedicated solely to final expenses could be a good option for older individuals who don’t want to pay high premiums for a huge policy, especially if they have other assets to leave behind for their family. But a traditional term or whole life insurance policy also gives your beneficiaries the cash they need to cover those final expenses. They can gauge the best way to budget and use the funds, depending on other existing expenses left behind.
In order to truly use life insurance as an estate planning tool, you must calculate how much coverage you need. This varies depending on where you are in life. Maybe you have a large mortgage you’d like to pay off for your family, or want to ensure your retired spouse still lives comfortably without your Social Security check. Or maybe you want to cover any medical expenses that may be weighing on your family.
One of the greatest benefits of using life insurance for estate planning is that funds are disbursed quickly, especially compared to other assets that go through the estate’s executor. The timeline varies depending on the insurance company, but it normally takes around 30 days to pay out the death benefit once a claim is filed. That means your family has plenty of time to keep up with the bills and pay for final expenses without accruing late fees.
Another major benefit of life insurance in estate planning is that the death benefit completely avoids the probate process. Depending on your state and the size of an individual’s estate, an estate may go through probate, even when you have a will and an executor in place. The local court oversees the process to make sure all of your assets are disbursed properly. While this is a good thing to make sure your intentions are properly executed, it does slow down the amount of time it takes to get assets distributed to your family.
A life insurance death benefit skips probate and is executed directly between your beneficiary and the life insurance company. Plus, probate proceedings are typically made public, so anyone can see who received an inheritance. Life insurance policies, on the other hand, remain private.
A final life insurance strategy for estate planning is to leave behind funds for your grown children, particularly if you’re in a blended family. Oftentimes, you want to leave behind most (if not all) of your assets to your spouse, especially if you want to make sure they have enough to live off of in retirement. This, however, may cause a problem for blended families where each spouse has his or her own children separately.
When the surviving spouse passes away, their remaining assets generally go to their surviving children – not those of the spouse who passed away first. You can use a life insurance policy to pass on funds directly to your children, then leave other assets to your spouse. It’s a win-win that gives you peace of mind that you’re truly leaving something behind for everyone you love.
Life insurance is a smart estate planning tool to keep in your back pocket. It provides solutions to a number of issues, whether it’s covering your final expenses, to avoiding the bureaucratic red tape that comes with the probate process.
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