Using Indexed Universal Life to fund a LIRP
Using Indexed Universal Life to fund a LIRP can help you save towards that tax free retirement while protecting your family at the same time.
Many of our clients today are looking for ways to save for a tax-free retirement. They want to take the guess work out of retirement when it comes to taxes, especially with today’s ever changing atmosphere.
A LIRP, short for Life Insurance Retirement Plan, can be a great option if it’s funded correctly and can provide a lifetime tax free income. In this article we will review what a LIRP is and how to use an indexed universal life to fund a LIRP.
What is a LIRP?
A LIRP is an over funded permanent life insurance policy that can provide a tax free income stream similar to the Roth IRA, but without all the constraints. Some LIRP’s are funded by using a whole life policy, variable life policy, or indexed universal life policy. The major factor in which type of permanent life insurance to use is the consumers’ risk tolerance.
LIRP Pros and Cons
Tax-Free Advantages
The major advantage to owning a LIRP or life insurance retirement plan is its tax free withdrawal feature, similar to a Roth IRA.
Not only does the cash value grow tax free during accumulation, it also is distributed tax free. These distributions do not increase your taxation of Social Security.
No Income Thresholds
If you are in a high income bracket then contributing to a Roth IRA may not be possible. For example, if you are married and your combined income exceeded $203,000, then you aren’t allowed to contribute to a Roth IRA.
If you are eligible to contribute, you are restricted to $6,000/year maximum or if above the age of 50 you can contribute up to $7,000/year.
With a LIRP, you can contribute the amount you want, no matter your income. This is great for individuals that have maxed out their other retirement options.
No Contribution Limit on Life Insurance Retirement Plans
If you contribute to a 401(k), IRA, Roth IRA, or Simple 401(k), then you know there are limits on how much you can contribute each year.
These are the current limits for 2019:
- 401(k)- $19,000 Annually
- IRA- $6,000 Annually unless above age 50 then $7,000
- Roth IRA- $6,000 Annually unless above age 50 then $7,000
- Simple 401(k)- $13,000 Annually
Many of our LIRP clients have maxed out all of their retirement options before starting a LIRP.
A LIRP Can Provide For Long Term Care Needs
Most of the life insurance policies used for a Life Insurance Retirement Plan come with a rider that allows you to access around 24% of your death benefit early if you can’t perform 2 out of 6 ADL’s (Activities of daily living) due to health issues.
For example, if you had a death benefit of $1,000,000, you could access up to $240K to use for long term care services. However, this does reduce the death benefit by the amount received.
Expenses Associated with a LIRP
While a life insurance retirement plan seems like a great concept, it’s not a one size fits all strategy.
Life insurance comes with expenses such as cost of insurance and expense charges associated with the cash value. It’s important to structure your LIRP so that it best fits your goals while minimizing these fees.
What Type of Life Insurance Is Best For A LIRP?
The question we get the most often when it comes to a Life Insurance Retirement Plan is which type of permanent life insurance policy is best to use. The top 3 choices are:
The major difference in all 3 is how the interest on the cash value is determined. They all come with varying degree of risk with whole life being the least risky and variable life being the most.
We have 17 years of experience selling LIRP’s, and we think that the Indexed Universal Life (IUL) is the best product to use when setting up a LIRP.
What is Indexed Universal Life (IUL)
Indexed Universal Life or IUL is a permanent life insurance policy that protects you forever. What makes the IUL unique to other universal life polices is the way the cash value interest is earned.
Interest earned on IUL’s allows the consumer to get a portion of stock market returns, but without the risk of losing.
How is that possible?
The cash value of an Indexed Universal Life policy comes with a cap rate and a floor rate. The cap rate is the most that you are able to earn each year. Most cap rates hover around 10%-12%.
The floor rate, which is usually 0%, is the lowest rate you can earn for a year. In other words, if the index that you are allocated to has a negative return, the worst you get is 0%.
I know what your saying….this sounds to good to be true!!
It is true, but isn’t a good fit for all consumers. Remember earlier we talked about how permanent life insurance has fees associated with them, so if not funded properly, your IUL could run out leaving you without coverage. If you are looking for a permanent life policy with a guaranteed premium, then an IUL might not be what you are looking for.
What is the Cash Value of an IUL Invested Into?
What makes the IUL appealing is the way the interest is credited on the cash value. You are invested into market indexes which allow you receive some market return without the risk of market losses.
The indexes available will be determined by which company you decide to buy your IUL from. The most common indexes available are:
- The S&P 500
- The S&P MidCap 400
- The Dow Jones Industrial Average
- The NASDAQ 100
- The EURO STOXX 50
- The Russell 2000 Index
- Multi-Index (A blend of the S&P 500, Russell 2000, and the EURO STOXX 50)
- High Participation rate S&P
- BNP Paribas Momentum 5 index
- Bloomberg US Dynamic Balance Index II
Remember that IUL’s come with a cap rate, which is usually around 10%-12% and floor rate of 0%.
How Do You Access The Cash Value Of An IUL?
A great feature of the indexed universal life policy is that the government has placed no limits on the amount of money you can contribute. This allows for you to accumulate a significant amount early on.
When your account has earned a large amount of cash, you can start taking distributions tax free. These distributions on in the form of loans and withdrawals from the policy. You can access the cash value of an indexed universal life policy for any reason and at any age.
Why Use Indexed Universal Life to Fund a LIRP?
When using indexed universal life to fund a LIRP, you will want to make sure to do these 3 things:
- Structure the IUL with the smallest amount of life insurance to minimize the cost of insurance charged.
- Always fund the policy with the maximum premium allowed to avoid a MEC (modified endowment contract). If your policy becomes a MEC, you lose your tax free withdrawals.
- Be consistent with the premium payments until time to start taking withdrawals.
An indexed universal life policy allows you invest in select indices and earn considerable interest on the cash value. The IUL also protects you with a “floor” rate for years the market is down.
IUL policies also reset each year on the date you bought your policy (anniversary date). This allows you to start earning positive interest after down years. There is NO waiting for the market to return to where it was at, it just has to move forward.
Another great feature of most indexed universal life policies is the critical, chronic, and terminally illness riders that come at no charge. This allows you access a percentage of the death benefit early for long term care or a major illness. If you become terminally ill, you can access up to 80% of the death benefit.
Which Company Offers The Best IUL Policy?
While there are many life insurance companies offering indexed universal life policies, make sure to do your research to see which ones have the best rates and the lowest fees. Minimizing the costs associated with an IUL will mean more income when you start withdrawals.
Our top 4 life insurance companies that have both great ratings and low fees are:
- North American Company
- American National Insurance Company
- Allianz Life
- Lincoln Financial Group
Is Indexed Universal Life The Right Policy for You?
When it comes to making a decision on which type of life insurance policy would be best, you will want to consider several factors before making a choice.
The first thing to consider would be…..why are you buying life insurance? If you are wanting to protect your family with the most affordable option, then IUL is not right for you. A term policy may be a better option.
Next thing to consider is how long do you want the coverage for. If you only need coverage for a certain amount of time, once again term would be your answer.
If you are looking to invest into a product that can provide a tax free income stream, then IUL would be a great choice. IUL plans are not the easiest form of life insurance to understand. It’s important to work with an independent agent with experience with IUL’s and LIRP’s.
Final Thoughts
When it comes to setting up a LIRP, we think using an indexed universal life policy gives the consumer the best chance to earn a good interest rate without the threats of loss when the market is down. Indexed universal life polices come with a chronic illness rider that can be used to help pay long term care services later in life.
Not only can an IUL give you all the above, but it also provides a tax free death benefit to your loved ones. While an IUL is not a fit for everyone, it can be a useful tool to help save for a tax free retirement. It’s always recommended to work with an experienced agent closely before diving head first into these policies. If you have any questions or need any quotes, please give us a call.
Frequently Asked Questions
What is a LIRP?
A LIRP is a life insurance policy that is max funded and designed to provide tax free income during retirement.
What is an IUL?
An IUL or indexed universal life insurance is a permanent policy that builds cash value while providing death benefit to age 121.
What type of policy is best when funding a LIRP?
Choosing which type of policy to fund a LIRP all comes down to which product your feel more comfortable with and fits your needs. We personally like the indexed universal life product for 2 reasons:
– We like being able to market interest, usually capped at 10%, but without the market risk. (Floor cap is 0%)
– Most IUL polices come with a critical illness rider which gives you access to money to use for long term care services.
How should a LIRP be structured?
When using indexed universal life to fund a LIRP, you will want to make sure to do these 3 things:
– Structure the IUL with the smallest amount of life insurance to minimize the cost of insurance charged.
– Always fund the policy with the maximum premium allowed to avoid a MEC (modified endowment contract). If your policy becomes a MEC, you lose your tax free withdrawals.
– Be consistent with the premium payments until time to start taking withdrawals.
