Navigating Your Future- Episode 2: Life Insurance - Norris McLaughlin, P.A., Attorneys at Law

Episode 2: Life Insurance

Welcome to Norris Mclaughlin’s Navigating Your Future, a limited podcast series discussing estate planning and the well-being of your future. I’m your host, Chris McGann, an attorney here in the Trust and Estates Practice Group at Norris McLaughlin. In this episode, I’m joined by Jim Boyd. Jim, why don’t you introduce yourself. Chris, thanks for having me again. My name is Jim Boyd. I’m an owner and partner at Cane Financial Group and am a certified financial planning professional and have worked with individuals for over 20 years. All right. And in today’s Family Planning Insight session, we’re going to be talking about life insurance. So life insurance is probably one of the least popular topics out there. I mean, it’s contemplating death. No one wants to talk about it. Think about it. It’s no fun. But you know, Jim, tell me, why should someone have life insurance? The reality is, cash flow is the lifeblood of every family’s economy, really any individual’s economy. And if cash flow stops, things get really hard. You know, future vacations don’t happen. College educations get put on hold. People have to move out of neighborhoods that they love. You know it. It’s devastating when cash flow stops in. The reality is, we know as planners that cash flow can stop for one of four reasons. One is someone gets laid off, off, someone retires, someone gets too sick or hurt to work, and four someone passes away. We as humans have a terminal condition. It’s called life. We all know that one day we’re not going to wake up. And so the reality is we need to plan, especially in the situation of a family or when you have people that are dependent on you. If your income stops, your cash flow to the family stops because you pass away, how is that family going to continue on? Are they going to be able to maintain the same lifestyle as they’re trying to deal with the devastating

loss of a parent? And so that’s why life insurance is so important and why I’m so passionate about talking about it. All right. So I mean, generally you would recommend that you know anyone from any kind of income stream or asset composition should at least think about having life insurance or some have something in place. We all don’t need $10 million policies, but you should have something, right? If anyone depends on you financially, you should have life insurance. If you care for someone that depends on you financially, you should absolutely have life insurance, because what it does is it makes sure that cash shows up at the exact moment it’s needed, and that’s when someone passes away. And again, I can’t say it enough because just having as much experience as I do is the last thing that a family wants to do if mom or dad passes away, you know, during this devastating time is to have to sell the house. The one place that they all know that they all get comfort from. You know, to have to move away from the friends that can give them support during this time or give them some normalcy during this period of time. As sad as any of it is when the surviving parent has to go and get another job or two or three jobs just to make ends meet. So now those children have just lost both parents because the surviving parent can never go to a game, can never go on vacation, can never do Friday night pizza, can never do any of those things. Because life just becomes such a struggle. And with how affordable and easily accessible getting a good appropriate policy is, no one should be without coverage, Chris. You know, I’ve, I’ve talked you know, from the financial perspective and really like the emotional and family perspective. You know what are the benefits of life insurance, You know, from an estate planning perspective, you know what do you see are the benefits of having a life insurance policy enforce. So I mean the benefits are, you

know, everything that you just mentioned. So when people come to us set up their estate plan, oftentimes they’ll already have a policy in place and for all the reasons that you mentioned in terms of income replacement or you know, being able to pay for college, their policy is usually going to be pretty sizable. It’s going to be a pretty big number oftentimes and what people don’t really understand is that is an asset that’s in your estate for federal estate tax purposes. So it might seem foreign to someone, but having a 30 year term policy for $5,000,000 when you die your estate for federal estate tax purposes is $5,000,000. So we have to educate clients in terms of coming to that realization and then okay, what do we do with that knowledge? How do we plan? So I mean, there’s three key terms to keep in mind. And you dealing with life insurance, you’re aware of this. There’s the owner, that’s the person or entity, I guess, who physically owns the policy, the insured. So that’s the life who’s insured by the policy and the beneficiary. So when the insured dies, who or what is paid out with the proceeds? So one of the biggest things we want to avoid is just having a person’s estate named as the beneficiary of a policy because that is always going to be in your estate for federal estate tax purposes. Also, New Jersey has an inheritance tax, so if you name your estate as the beneficiary of a policy, it’s subject to inheritance tax as well. So at a minimum, you know, we want to advise clients, name a beneficiary as a starting point and then the question becomes, okay, who are you going to leave the money to? Are you leaving it to your spouse, Children. What are their ages? I mean, does it make sense to leave it to these people outright? And that’s a conversation that often changes over time based on people’s circumstances changing over time. So estate planning is very

dynamic. Circumstances change, and we just go with it and adapt over time. So when you’re Jim, I’m going to ask you, when you are meeting with prospective clients or clients that you’ve already had, I know there’s term life insurance, there’s whole life insurance. Are there particular circumstances or facts that are leading you to point individuals in One Direction as opposed to the other? Can you kind of just walk me through that a little bit? Absolutely. The biggest thing we look at first and foremost before we look at type is we want someone to look at what their human life value is. And human life value is a legal construct. It’s actually used in wrongful death and wrongful disability suits. It became, you know, a topic that was discussed after the 9/11 terrorist attacks. And actually Ken Feinberg has an amazing article that he wrote about it. But it’s really the economic impact that a family loses when someone they’re dependent on’s income stops. And it’s it’s pretty simple. It’s a calculation between how much money you make in a given year and how many years you have till normal retirement. So let’s say someone’s 45 old. They make a year. You take 100,000 * 20. Their human life value is That’s the economic impact that a family will miss if that person is no longer working. Now that doesn’t include raises or the chance that that person’s going to make more money down the road. It’s as close to an estimation, a good estimation that we can get on the economic impact to a family. So the first thing we’re looking at is I want to make sure a family is protected with enough life insurance. Term insurance is a very inexpensive way during the early years to get a family protected. Especially if there are a lot of expenses like, you know, paying a mortgage or education or things where you know the dollars are tight. Term insurance will allow a family to have the appropriate amount of protection during that period of time.

Now term insurance, just like it sounds, term insurance, is temporary insurance. It’s meant for a fixed period of time. It’s like renting an apartment or renting a home. It provides coverage while it’s in force, but eventually it will go away. The reality is some people want to make sure that at least a portion of the life insurance that they have in coverage will continue with them throughout their lives. So whenever they pass away, whenever that may be, some money will pay out to their spouse or their beneficiary or trust that they set up. So term can’t do that because term is temporary, permanent insurance, your whole life insurance, universal life insurance, those are policies that will be structured that will pay out as a death benefit whenever that individual dies. So there’s a component of insurance that when someone pays a premium goes to that, there’s another part of the premium that goes into a cash value account that will grow over time to be able to support that policy to allow it to stay in force for many, many years. And we can design policies or there are policies out there where you can actually have the insurance be an asset where that cash value that builds up inside of it can be accessed in the form in case there’s emergencies or as a retirement supplement or as a business loan or an asset of a business. So depending on how a permanent policy is structured, it can be used as an asset as well. And there are some tax favorable benefits. If it’s structured that way, you can actually get tax free access policy, cash values and always the death benefit passes tax free as well too. So we we love both types of policies. I think where life insurance got a bad rap back in the day is you had Agents selling cash value policies or whole life policies to individuals that really need to term at that point that really didn’t have the cash flow to be able to stay in funding a permanent policy. So, you know, a higher amount of death benefit on a term policies, what the family needed. You know, once they start making more money and they’re maxing out their 401KS and they’re saved in other areas and they have an emergency fund,

you know, that’s a time when you can start looking at converting over the term insurance into cash value insurance to add that asset in your overall situation. Thanks. That’s a great overview. And just really, you know, presents a lot of options for people to consider. People should really know that, you know, they’re not foreclosed from one option over the other. And more importantly, that they can add and supplement over time that as their circumstances in life changes, you know, maybe whole life does become more appropriate. You’re right. And that’s what I always say is why lock yourself into a room with one exit? You know, the nice thing is, in this day and age, if you get the appropriate policy, the appropriate term policy, it can be convertible into permanent insurance down the word should you choose to do that without having to prove your health. So the biggest thing about life insurance is you can only get it if you’re healthy enough to get it. Sometimes people develop things over their lifetime that prevent them from being able to get insurance again. So if you buy a term insurance policy that is convertible from a reputable company down the road, if your health changes and you want to convert a portion of that temporary insurance in the cash value insurance, you’ve locked in your good health. So you do have the ability to do that should you choose to. So it’s important. Tell me a little bit, Chris, from a legal perspective or just from an estate planner’s perspective, tell me a little bit about policy ownership, and that can be from a legal perspective, which is your expertise, as well as a tax and business contacts. Like tell me a little bit about ownership or policies. Yeah. So as I mentioned before, a life insurance policy is an asset of your estate. So as an estate attorney, the name of the game is avoiding federal estate tax. So we talk to clients about that. If you own a policy and you’re the insured and you die, that’s in your estate. If you transfer that policy to someone else to own, let’s say your spouse, and then you die, that’s no longer in your estate because your spouse was the owner. Now that’s not a black and white rule. There are some strings attached to it. But individual

ownership, if you’re the owner and the insured, it will be includable in your estate when people start to get sizable estates. So when we have to start contemplating, you know, a federal estate tax and right now the federal estate tax exemption for an individual’s 12.92 million, so very lofty at the end of 2025, down to 5 million adjusted for inflation. That’s barring any congressional legislation in the interim. So still a sizable number, but much more attainable when we’re talking about million or multimillion dollar policies. So for those individuals and those families, what we talked to them about is shifting ownership of the policy from an individual to a trust. And not just any trust, it has to be a specific type of irrevocable trust that is designed to take ownership of and manage the life insurance proceeds. And you’ll often hear this called an ILIT, an irrevocable life insurance trust. And the benefit to doing that is once the policy is shifted to the trust, it is out of the insured’s estate for federal estate tax purposes. So there’s two ways that you can do this. Sometimes people come to us and they already have a policy in place and we say, okay, let’s transfer it to your trust and we can do that. But you have to live at least three years from the date of transfer. That’s just per the tax code, so long as you make it past three years from the date of transfer. That policy is out of your state for federal state tax purposes when you die. If you die within that three years, then it comes back into your state, but you really know worse off than where you were before the transfer. What we like to do more is when we know that clients are contemplating purchasing life insurance and we’re doing their estate planning with them, is we set up an irrevocable life insurance trust at the outset. We have that be the original owner of the policy. That way the insured person never touches it. They never

contract with the life insurance company. They never write that first check that avoids that three-year window that you would otherwise have to live for the policy not to be includable in your estate. So that’s just a more advantageous outcome. It’s cleaner and more efficient. So Irrevocable life insurance trust really are phenomenal. The main reason is that it gets the policy out of your estate for federal estate tax purposes. Your spouse can be the trustee of the policy, so there’s really no prohibition in terms of who can be the trustee. You as the insured cannot be. And two other great benefits is that once the funds once you pass away and the funds flow into that trust, it’s exempt from you know you get creditor protection which is key. You can also establish lifetime trust for your beneficiaries which oftentimes coincides with person’s estate planning goals anyway. So this is a great way to lock those funds up. You get to control them a little bit more and if the trust is structured properly those funds will also not be includable in your beneficiaries estates as well. So there’s that longterm estate planning goals really from the family level. Another method of owning policies is between business owners. So small businesses are all over the place in this country and a lot of them have just a few business owners. So what a lot of people do and I’m not going to get too involved into this is they set up, buy, sell agreements with the company. So in essence the the business will own the policy and not an individual will own it and if one of the owners dies, the funds will flow into the company and basically be able to redeem the deceased owners shares and pay out the deceased owners estate. So this is really the best of both worlds because the family doesn’t want the business ownership, they want money and the surviving

business owners don’t want the family involved in the company, they want the shares back. So this is a nice clean way and if it’s structured properly, you can really minimize the tax impact as well. So those are really the main methods of owning life insurance policies and how we kind of analyze the situation when clients come to us.

So Jim, as we wrap up this podcast, there are a few things to keep in mind about Life Insurance.

• Accessing cash values through borrowing or partial surrenders will reduce the policy’s cash value and death benefit.  It can increase the chance the policy will lapse and could result in tax liability if the policy terminates before the death of the insured.
• Also, life insurance death benefit passes to beneficiaries income tax free but may be subject to estate taxes so you really need to keep death taxes in mind and should really consult with a qualified tax professional for more information.

So this has been Norris Mclaughlin’s Navigating Your Future of Limited podcast series discussing A variety of topics related to trusts and estates and tax matters. I want to thank my guests, Jim Boyd. Thank you. Chris, great being with you. Thanks for having me. No problem. And you, the listener, for being part of this conversation, Be sure to tune in next time for a brand new episode. If you’d like to learn more about our work, please e-mail me at navigatingyourfuture@norrislaw.com.