Life insurance is a unique asset. Because of its tax-favored benefits, it can be used to solve some of life’s perplexing financial problems. Most people regard life insurance as a “protective” asset, and it is indeed one of the very best assets to protect against potential losses. But life insurance is also a major planning asset to develop and implement your financial and estate plan.
When someone passes away, there are expenses such as funeral costs, accounting fees, mortgage payments, insurance, maintenance of real estate, attorney fees, appraisal fees, etc. Federal estate taxes are due and payable nine months after death. In some states, probate costs can be as great as five percent of your assets. If there is little or no cash in the estate it will be challenging for the family, executor or trustee to determine how to pay the expenses. Often a family member will pay for the expenses out of their own funds; but there is a risk of being reimbursed if the estate is insolvent.
Many will consider liquidating assets such as stock or real estate. If it a slow market there is a risk of selling at a discount to get the cash in a hurry. The better alternative is using life insurance to pay these expenses, while leaving illiquid assets that oftentimes carry sentimental value untouched and available to be distributed to the estate owner’s heirs.
Borrowing to pay estate expenses can also be challenging. It may be difficult to obtain a loan due to today’s stringent lending policies. Plus, the estate will pay interest on the funds borrowed.
In the same light, pulling funds from an IRA or 401(k) is not a good idea. Qualified accounts have income tax issues that have to be addressed if the funds are used to pay estate expenses. Most likely the beneficiary of the account is not the estate therefore the executor will not have direct access to the funds. And, when you pull money from a qualified account you have to pay income tax on the amount drawn.
As you can see, life insurance has many uses. Talk with a qualified estate planning attorney to determine if you should consider using life insurance as part of creating a comprehensive estate plan.
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