Purchasing investment life insurance is a great way to invest in your future.
At the bare minimum, it will allow you to provide for your family in the case of your death. It can also help you diversify your investment portfolio while increasing your asset holdings and minimizing tax burdens.
What is Investment Life Insurance?
Investment Life Insurance (Whole Life) is a type of life insurance that provides lifelong coverage (meaning that it never expires) as well an opportunity to grow your money tax-free.
Every time you deposit your premium, your money gets invested into a pool account. This money is invested by the insurance company and as the account grows, you are eligible to receive dividends. Once the dividends are received, they are vested immediately, meaning they can’t be taken from you and can’t go down in value.
You can use the dividends to buy additional coverage (which then increases your overall rate of return) or reduce your annual premium, or can also be left in the tax-sheltered account to earn interest or taken out as cash.
Investment Life Insurance Differs From Other Life Insurance
There are 3 types of life insurance:
1. Term Life Insurance
Term life insurance is the most common, basic type of life insurance.
It is an affordable, easy-to-understand coverage that protects you for a specific period of time. This means that if you pass while the contract is in force, your beneficiaries will receive a tax-free payment, often used to cover mortgage debt or the family’s lifestyle. The rate you pay for the insurance is guaranteed for a specific term, likely 10 or 20 years.
2. Universal Life Insurance
Universal life insurance is a type of permanent life insurance that allows you to receive lifelong coverage with the option to make additional deposits into the tax sheltered account.
It offers more flexibility than Whole Life Insurance, but the investment value is more market volatile, has higher investment fees and a reduced ability to access the investment value inside.
3. Whole Life Insurance
Whole Life Insurance is another type of permanent life insurance that allows you to receive lifelong coverage while using a Life Insurance Tax Shelter. It offers more asset stability than Universal Life (your investment value can not reduce in value) and has very low investment fees. There is the ability to make flexible deposit amounts now, too.
Who Should Consider Investment Life Insurance?
Investment Life Insurance is an excellent investment for people who are:
- Looking to get lifetime coverage while making dividends off their investment.
- Interested in finding alternative to save for retirement (outside of RRSPs).
- Wanting to increase their death benefit over time.
- Adding a stock market hedge to their portfolio.
- Excited to move money from a tax exposed to a tax sheltered environment
Why Choose Whole Life Investment Life Insurance?
1. Low Risk, High Stability
Although increased dividends are not guaranteed, some insurance carriers have a paid a dividend every year since 1874, surviving two World Wars and economic tsunamis. Once the cash value is established within a contract, the value can not decrease due to market performance. This means your cash value or your investment value will continue to increase in the contract every year you maintain it.
2. Higher Rate Of Return
When compared to similar low risk, fixed income investments (such as bonds, GIC’s, etc.) the long term investment value of the life insurance outperforms them by a long shot. This is due to the tax sheltered structure.
Investment Life Insurance provides higher liquidity in a tax-sheltered environment, allowing your investment to grow significantly.
And what makes things even better, you can access that money TAX-FREE.
3. Low investment management fees
Whole Life Insurance has much lower management fees than Universal Life Insurance. Management fees for Universal Life Insurance, for instance, add up to 290 basis points (2.9%).
Meanwhile management fees for Investment Life Insurance could be as low as 6 basis points, or .06%.
4. Liquidity
Since value of Investment Life Insurance can not decrease, financial institutions will provide loans of up to 90-100% against the investment value inside the insurance contract.
Fun fact: According to the book Pirates of Manhattan, (date Dec 2006) US banks held $107 billion of Whole Life Insurance on their balance sheets more than all individual consumers combined. This means if it’s attractive and secure enough for them, wouldn’t you want some of the action too?
5. It’s a flexible asset
Where most life insurance plans lock up your assets for a certain time period, Investment Life Insurance provides several ways for you to access your investment.
6. It provides an innovative retirement income
One of the main benefits of the Investment Life Insurance Plan is that part of it can be freed up and used as a tax free retirement income.
7. It’s tax-sheltered
There are 5 major tax benefits:
- You don’t pay tax on the growth of the Investment Life Insurance which can reduce your company’s overall tax burden.
- You don’t pay tax on money borrowed from Investment Life Insurance, this allows you to have more liquidity for investments.
- When the life insurance pays out upon your death, both the face value of the policy and the accumulating investments are paid tax-free to your beneficiaries.
- You can access the money through tax-exempt loans allowing for you to enjoy a tax-free retirement.
- By accessing the money through tax-exempt loans, this improves your rate of return. Your entire investment increases due to the money compounding.
How can you access your assets in a Investment Life Insurance plan?
Because Investment Life Insurance is a flexible asset, there are several ways you can access your investment without waiting until retirement or death to get the benefits of the plan.
Here’s how you can do that:
1. Take A Line Of Credit
Taking out a line of credit is the best way to access your assets. That’s because depending on the size of your investment value (and the lending institution), you’ll be able to borrow at a prime+ rate.
This means you’ll pay the lowest rate AND keep the full investment value compounding. The drawback? The line of credit amount will affect your debt service ratios.
2. Take A Loan From The Insurance Company
This is another way to gain access to your assets, as it allows you to gain valuable liquidity while continuing to make returns on your full investment value.
Here’s how it works.
Let’s say you have $1M invested in your plan and you want $100K. Instead of selling the $100K, you get a loan from the insurance company (at 6% interest) using your asset as collateral.
Let’s use some simple math.
In this scenario, your $1M will continue to produce returns at an (estimated) net rate of 3.5% = $35,000, while your $100K loan is charging you 6% interest = $6000. Your net return is $35,000 – $6000 = 2.9% ($29,000). This puts you further ahead than if you were paying taxes on the $100K (assume a 40% tax rate) – $40,000 in tax versus $6,000 in interest.
In addition to this, a loan is also beneficial because it doesn’t get reported to the credit bureau and will not impact your debt service ratios when arranging financing to purchase real estate or other assets which require financing.
3. Sell Part of Your Assets
The last way to access your investment value is to sell them. This is a simple way to gain liquidity, but has one large drawback: it implies paying taxes on your growth.
In other words, if you had $1M in assets in your insurance policy and were to sell $100K to gain liquidity, you’d have to pay taxes on the $100K growth (40%). However, if you’re selling of a portion of your portfolio, a portion is returned capital (tax-free) to you which means you only pay tax on the growth.
Written by:
Jeff Devlin | Certified Financial Planner, Director
