Health Insurance Online
Phone Icon
Call now to speak with a Licensed agent (866) 954-1892

Insurance Type:

Taking Care of Mom and Dad: Retirement Options with Cash Value

Buying a life insurance policy is time consuming -- in the sense that you must research the various types, pick one and find a company that: 1) has competitive premiums for the benefits your parents will receive; and 2) will be around when it comes time to collect.

Overfunding a policy -- making big payments up front when the policy starts -- is always a good way to earn earnings faster. Finding one with a low-load (i.e., one with low fees and commissions, such as less than 1 percent a year and 10 to 20 percent a year respectively) will also make for a healthier policy. But many of these points are moot for parents who bought policies decades ago.

Once your parents retire, they can use their cash-value life insurance policy in several ways. They can borrow cash values or annuitize payment plans. Both methods allow them to use their money for retirement, but each has distinct pros and cons.

Borrowing allows your parents to avoid income taxes; however, if they borrow all of their cash value and the policy terminates, they will be hit with capital gains tax on any amount in excess of the premiums they paid -- for money they spent years ago. This kind of capital gains tax can be a nasty surprise at age 80 or 85, when most people are busy worrying about health coverage or estate taxes.

Depending on the individual policy characteristics (the crediting rate, the dividend, etc.) and the actual amount your parents decide to withdraw, they may be able to avoid paying back a policy loan. If they are careful to keep enough cash in the policy to keep it in force, upon their death, the life insurance proceeds will pay off the loan.

A caveat: Be very careful about the rate of return your parents assume when figuring out how much money they can take out. Overzealous insurance agents sometimes will show illustrations that promise unrealistic retirement benefits. Your parents need to remember that illustrations are based on the assumption that the company will continue to credit the cash value of the policy at a certain rate. However, many people lost a lot of money on these investments in the 1980s, when interest rates fell and policies weren't performing the way consumers expected -- and the same thing happened again in the early 2000s.

Google Plus One