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Transcript
Zach:
Welcome to the Retirement Today podcast. I’m your co-host, Zach Holcomb, and alongside me, we have Michael Reese. He’s a certified financial planner, and founder and president of Centennial Advisors if you’re listening along with us on our podcast, super happy to have you here. If you’re watching this on YouTube and you want to turn on closed captions during our discussion, you can click the button indicated below, and if you want notifications for all of our new video content that we post on our channel, you can click the big subscribe button below as indicated here. Mike, how are you today?
Mike:
I’m doing great, and by the way, don’t forget to press the like button if you think we have a good conversation. And if you don’t like us, well, I guess there’s another button for that, but we’re not going to talk about that one.
Zach:
I don’t even think that button exists. We want thumbs up only, right.
Mike:
Thumbs up, there you go. So today we’re going to talk about owning life insurance after you retire. Right. So, you know, conventional wisdom has it where, when you’re younger. So let’s imagine. I think back when I was younger, I have five children and you know, ‘back in the day’ as we’ll call it, right, I get married, you know, we buy a house and we start having children. Sure. And of course, when you’re younger and you have a family to support, you know, if I were to have died, that would have left an enormous financial gap in my for my surviving family. So what did I do? I went out and I bought a lot of term insurance.
Zach:
Sure. The right thing.
Mike:
Exactly. The idea is, Hey, if I die, I want to pay off my mortgage. I want to make sure Becky and the kids are financially stable. In fact, I bought enough life insurance, Zach, that would also pay for my children’s college. If I weren’t around to do so. This is very common. Every single financial planning, like news article or, you know, anything that you read about financial planning, that’s what you’re supposed to do. I did it just like everyone else, and it made perfect sense. Right. And the thing that happens though, is as we get older, right, the kids grow up up. Most of my kids have already gone through college now, so kind of already paid for that, and I still have one and a half, one’s still there, one remaining. And then the house, gosh, it’s pretty much paid for getting close. So as you get closer to retirement, people start asking, ‘well, what do I need life insurance for anymore?’ In fact, conventional wisdom says, what you should be doing is if you have term insurance, just kind of let it run out. And if you have cash value plans like whole life or universal life, maybe it’s time to just start cashing them out, letting them go. Because I mean, think about, do you really need life insurance anymore? If you’re at a stage where you’re about to retire, you can retire. Don’t you have enough in assets where, you know, if something happened to you, your surviving spouse is fine. And you know, and everybody’s good. What’s, what’s the financial need for life insurance after you retire. That’s the question.
Zach:
And based on what you’ve said, it seems like the need for life insurance is dwindled as you get closer to retirement, but what we’re going to learn is that’s not always the case.
Mike:
Well, exactly. So let’s talk a little bit about why do people, or why should someone rather desire to have life insurance after they’re retired? Right. So let’s talk about that. And in many respects, I can think of a couple of reasons right now, and they are both related to taxation on a surviving spouse.
Zach:
And that’s a big topic of discussion for somebody retiring.
Mike:
That’s right. The other day, in fact, you know, we had a masterclass that we delivered last night, as you recall. And I gave an example in that class where we had this typical couple husband, wife, they had saved roughly a million dollars for retirement. They wanted to live on 7,000 a month. They’re about 85,000 a year of income after taxes. Sure. While they were both alive, you know, over time, their taxes would go up a bit over time because of inflation and required distributions.
Mike:
All their money was in a 401k. Right. And it would go up and up and up. And by the time, you know, when they first started retirement together, filing as a married couple, their taxes were like $7,000. But as they got older, it would go up to 10,000, then 12 and 13,000. By the time they were 85, it was like $22,000 or something. Right. It’s a pretty big increase. It was crazy from 7,000 to 22,000 tripling over their life expectancy and Zach, that did not include any tax increases down the road, which I think we can agree is kind of a ridiculous assumption to ignore that.
Zach:
It’s most likely going to happen.
Mike:
I’ve clearly stacked the deck in their favor by the interesting thing about this. So imagine that one of the spouses died at age 85 and we picked on the husband, right, because it’s never, ever politically correct to pick on the wife. Right.
Zach:
We never do that. We never no, We only pick on the husband only picking on Bob, Joe, whatever name we use,
Mike:
I’m going to start using Zach as,
Zach:
Oh no, no, no, no. That’s banned, we can’t do that.
Mike:
It’d be great fun. The point is, we said, well, what if the husband died at 85? You know, their tax liability between the two of them that last year was like 22,000. What was your tax liability? The next year for the surviving spouse. Well it Jumped up to like $34,000 and then growing from there on the same income.
Zach:
Because she’s a single taxpayer now.
Mike:
Exactly. So the problem, why, why were, why were these taxes getting so high in their eighties? Why was it so high for the surviving spouse answer was really simple. All of their money was in 401ks and IRAs and every dollar you extract is taxable. Yep. Once you hit age 72, you have required minimum distributions, which means the amount you have to withdraw goes up every single year. And so one reason that a lot of people in retirement have for to own life insurance is, well, gosh, what if when Joe or Bob, whatever his name was, what if he dies with life insurance?
Mike:
Well now Mary, the surviving spouse or Jane, you know, whoever we’re using here, she can use that death benefit to convert the IRA to a Roth IRA and completely, well, I shouldn’t say completely, but in many cases eliminate an enormous percentage, if not all of the taxes that she would owe retirement.
Zach:
So this is going to generate a lot of tax free income in this situation.
Mike:
Yeah. Basically the tax-free death benefit comes in as a lump sum. The surviving spouse can use that money to pay the tax on a Roth conversion. So that all future income is tax-free. And it reduces like in this case, it reduced the tax on, on the surviving spouse from like 34,000 down to 3,400, it was able to eliminate like 90% of the taxes to surviving spouse. So that’s one reason. Another reason that’s also kind of tax related to the surviving spouses.
Mike:
What if you have a pension, like a lot of people, if you work for the state or the government or something, or maybe you’re a teacher you’re provided a pension. And if you take a joint payout, which is a payout that lasts for both your lifetime and your spouse’s lifetime, then it’s a lower amount than if you just take a single payment, pay out the last, just your lifetime. So let’s imagine Becky and I let’s imagine I have a pension. I don’t, but let’s pretend I did. And let’s say that if I, when I retire, if I took that pension all by itself, I might get $7,000 a month.
Zach:
It’s a pretty good pension.
Mike:
Which would be awesome, right? But if I die, nothing goes to Becky and we’re thinking, Oh man, that’s no good, cause she’s probably going to outlive me. So what do I do? I said, well, what if I get a joint payout where it pays out both of our lifetimes. So instead of 7,000 a month, maybe I get 6,000 a month, but it lasts for both our lifetimes. I might go for that. But same problem after I’m gone. And Becky’s a surviving spouse between that pension and social security, she’s getting slammed with taxes and there might be RMDs in the mix, all this other stuff, right? It’s a mess. So what a lot of people do, they call it pension maximization. It’s where you would buy. What you would do is you would say, I’ll take the benefit of 7,000 a month on me only. But then I will combine that with a large life insurance policy, maybe, you know, 500,000, a million, something like that. Where when I die, Becky gets the death benefit and she can use that money to replace that income. But it’s, tax-free right instead of taxable. And when your surviving spouse and you move to a single tax bracket, that’s really important.
Zach:
Tax-Free is really a reoccurring theme on this show. That’s what we’re driving to.
Mike:
We love tax free.
Zach:
We love it.
Mike:
Other reasons people have life insurance in retirement charities. A lot of times we have clients that want to give money to charities after they’re gone. And the idea is, Oh, look, I’ll just use this. I use my IRA or something. I’ll carve out, you know, a certain percentage, 20% of my IRA, and that goes to a charity. Well, if you’re going to give it to a charity anyway, why not take the 20% out? Now use it to buy life insurance. Instead of leaving them maybe a couple hundred thousand with life insurance, you can leverage up, maybe leave them a million. So you’re giving your money to a charity. Why not maximize the value you’re giving them by using the leverage that life insurance provides. Estate taxes is another one. So right now, as we’re sitting here today, recording this, you can pass now, get ready for this Zach.
Mike:
Each person can give to their beneficiaries, their children, $11.7 million.
Zach:
It’s a pretty big chunk of money.
Mike:
So, yeah. So let’s imagine that I die. I can leave my children 11.7 million. Then Becky dies. Few years later, she can lead the kids. Another, another 11.7 million. This all, it all assumes we have that much money, but that’s like 23 and a half million we can leave our kids with no taxes, no estate tax or inheritance tax. None of that.
Zach:
That’s great.
Mike:
It’s awesome for the kids. But what’s happening is they’re talking in Washington, DC. They want to, and this is almost, this is very high probability. This is going to happen. They want to reduce that estate tax provision from 11.7 million down to closer to three million.
Zach:
That’s going to affect a lot more people if that happens.
Mike:
A lot more people. So think about, let’s say I had a total estate of $10 million, right? And that means, okay, I pass 3 million tax free. Becky passes, 3 million tax free. That’s $6 million. But we have 10 million. So that’s 4 million above the six. So suddenly the IRS comes in and says, Hey to my children, they say, ‘Hey guys yeah, your parents are leaving you too much money. So we want that, that 4 million above the limit. We’re going to take half of that in taxes and the state taxes’,
Zach:
That’s terrible.
Mike:
‘Write Us a check for $2 million.’ Well, what if the values in farmland or ranch land or in some kind of a closely held business or in an IRA, where are you going to cash out the IRA to pay that tax? And so you got to deal with income tax as well. You’ve got yourself a nightmare of taxes in that situation.
Mike:
Sure. A lot of people will buy life insurance, hold it in a trust. And when after both spouses died, boom, the life insurance pays out. The trust kicks out in this example, 2 million of tax-free death benefit and the children can use that to give to the IRS and get them out of their lives.
Zach:
That’s a game changer.
Mike:
I mean, it’s a huge, it’s a huge benefit. And, and look a lot of, you know, a lot of you watching, you might say, Oh my goodness, Mike, that’s great, but I don’t have $10 million or yeah. I don’t even have $3 million and that’s fine. Maybe that doesn’t apply to you, but I’m just saying that that’s a reason people hold life insurance after They retire.
Zach:
Right. And a lot of these examples that you’ve discussed with me here today, they seem like no brainers, but they’re very situation specific, right?
Mike:
Yeah. And they’re all tax-related right. So one of the, one of the reasons that people I want to give you, and this is a last example, I’ll give you for today’s show. Another reason people hold life insurance in retirement: It is an incredible, incredibly powerful engine to deliver tax free income. So I’ll give you an example. Let’s imagine you’ve got a husband and wife or even just an individual who’s 60 years old and they’re saying, Hey, I plan on retiring soon,m aybe in five years, maybe in a couple of years, whatever, but they can use life insurance. A lot of times, what people will do is they’ll carve out a portion of their IRA, they will transfer it over to life insurance over maybe a five-year period. And then they’ll let it sit for a while, maybe another five years. And then that way, when their start at age 70 or 71, they start taking income, life insurance, once you’ve let that kind of gel or build out for five, 10 for about 10 years or 15, somewhere in that range, it can generate an enormous amount of tax-free income in retirement.
Zach:
There’s that phrase we love so much again
Mike:
Tax free. So everything, I guess we could say that the reasons that people hold life insurance after retirement, it’s a powerful tax planning tool. And a lot of people who are in retirement, they get to the stage of retirement and you know what they say, Zach, they’re like, man, I feel like I’ve paid my fair share of taxes over the years. And by the way, is that how you feel like you’ve do you feel like you paid your fair share of taxes over the years? Well, if that’s you right using life insurance in different ways during retirement can often provide tremendous benefits. Oh my goodness. And I even forgot about the long-term care angle. A lot of life insurance these days, the death benefit can be used for long-term care benefits as well. So there’s another reason now that’s a tax angle. It’s a healthcare angle, but there’s another reason that people hold life insurance in retirement. So lots of different reasons to own it. But in everyone of these cases, Zach, it’s not term insurance that we’re using. None of those are term. Every example, every time you look at using life insurance or retirement, well, I shouldn’t say every, but 99% of the time when you’re looking at using life insurance or retirement, you’re probably looking at using universal life index, universal life or whole life, you know, something, some type of coverage that will last as long as you do.
Zach:
Sure. So we want that tax-free income to be lifetime as well, as long as it can be.
Mike:
Yeah. You want the income and you want to make sure the death benefit is there when you die, even if you live to age 100 or longer.
Zach:
Great. Well, I’m really happy we had this discussion because like you said at the start, the consensus is you don’t necessarily need life insurance in retirement, but we’ve learned today is that’s not always the case. And in a lot of cases you definitely could use it.
Mike:
Yeah. It’s very true to say. And I’ll tell you what is it, I like what you said earlier too, though, you said, does that mean that it’s right for everyone? And you said something about a lot of these, it’s situationally specific, right? Everyone’s different. Everyone’s different. So does life insurance makes sense for you? Maybe. Maybe not. People always worry. Oh my goodness. I’m so old. It’s going to be so expensive. It’s not nearly as expensive as you think. I mean, it’s, it’s not like it was 20 years ago. Just like a cell phone. Isn’t what it was 20 years ago. So in any event, keep an open mind. I always tell people to keep an open mind, explore all of your options and then you can figure out what works the best.
Zach:
Love that. Mike, any final thoughts on today’s program before we wrap up
Mike:
Nothing, man, this is I thought a great discussion. And for all of you watching or listening I thought I’d talk about this because I’ve had, you know, with several people recently that life insurance conversation has been coming up, it seems to come up more and more frequently. So I thought it’d be a good time to talk about it.
Zach:
Yeah. Love this discussion today. And again, like we talked about at the beginning of our program, if you’re listening to us on the, on the podcast, you know, you can subscribe on your favorite your app, Spotify, Apple music, or if you’re watching this on YouTube, remember to like, and subscribe, to get notified for all of our next videos.
