We often talk about the living benefits of life insurance, but we’re skipping out on a huge benefit,
and that’s the death benefit that comes with every single life insurance policy. So let’s start at a very high level. What is a life insurance policy?
Quite frankly, it’s a unilateral contract between the insurance company and the owner of the policy. So what’s a unilateral contract? Well, think of it this way. There are two parties to this contract. There’s the policy owner and there’s the insurance company. The policy owner has one job and one job only, and that is to pay the premiums on time. When the policy owner fulfills that obligation, the insurance company has all of the rest of the obligations.
That is, pay a death claim when the insured dies, make sure that all the other ancillary benefits, whether that be cash value, whether that be disability waiver of premium terminal illness or chronic illness, any benefits that are extra to the policy the insurance company is guaranteed and obligated to deliver.
Now, you can’t just demand a life insurance policy. You must first qualify. And there are two main ways that the insurance company is going to qualify you. The first is medical underwriting. They’re going to look at the insured’s health and determine that they’re healthy enough that the insurance company will take on their risk. The second piece is financial underwriting. And basically what this means is that you can’t over insure someone. The insurance company is not going to give you as much death benefit as you want and they’re not going to give you more death benefit than that person is worth. Just like when you’re insuring a car, you can’t get more money for the car if it gets totaled than the car is worth.
So there are three ways that an individual can qualify for more or a larger legacy or larger death benefit. First is based upon their income, and usually it’s a multiple of their income that they can insure themselves for. Second would be based upon their net worth. If they have a $2 million net worth, then theoretically the insurance company would be willing to issue $2 million of death benefit, and the third would be based upon business needs, whether it’s insuring your business interest or insuring your business debt.
Now that we’ve talked about how to qualify for a life insurance death benefit, let’s talk about why you would want life insurance death benefit to insure your legacy versus buildings, your business, or an investment account for that matter.
The answer is real simple: liquidity, use and control. We talk about it all the time and it’s more important via the death benefit than ever. You see, when the insured dies, it triggers something in the contract and the insurance company is now obligated to pay the death benefit, whatever it may be in that contract.
So keep this in mind. We’ve seen so many times where people pass away and their children have moved out of town and they leave their home to their child who lives four states over. The kid doesn’t want the house. The kid moved to Ohio or Maryland or Massachusetts for a reason. He didn’t want to be here. And because of that, the first thing they’re going to do is sell the house. Well, if the house is worth $200,000 right away, they have to pay a 7% real estate sales tax, plus a transfer tax, plus a probate tax. They thought they were leaving their kid $200,000. It’s only going to be about 150,000 after everything is said and done.
Now, let’s look at if the parent dies with an investment account. Same thing. There’s management fees, there’s liquidation fees. And again, there’s taxes and probate, probably end up with maybe $160,000.
So now let’s look at an investment account. Same thing. They’ve got to pay somebody to manage the money. They got to pay somebody to liquidate the money. They got to pay taxes on it. And it’s going to go through probate.
When all said and done, they’re going to end up with way less than $200,000. Now, if you really want to get sick to your stomach, let’s have the parent die and leave the child a retirement account. Same management fees, same liquidation fees, same probate fees. But now they got to pay income tax on top of it. And that income tax is in the kids tax bracket, not the parent’s tax bracket. So when all is said and done, they’re left with pennies on the dollar.
Well, how does this contrast with a life insurance contract? Well, first of all, it’s a contract between the insurance company and the policy owner. So it doesn’t need to go through probate. There’s no income tax. In most states there’s no state inheritance tax. It’s simply a claim form to the insurance company. And whatever the death benefit states is how much the beneficiary is going to get. So you know exactly how much money you’re passing on to your heirs and you get to determine where that money is going at your death. You’re completely eliminating the middleman. There’s no management fees, there’s no taxes. There’s no probate fees.
Like so many other times, when you’re dealing with an insurance company, you’re giving a direct order. You’re not asking permission. You’re saying, hey, when I die, I want my money to go to this person. And so that person fills out a claim form and they get a check from the insurance company.
Oftentimes when you’re dealing with a life insurance claim, the first money that the beneficiaries are able to get their hands on are from the insurance contracts, not from the bank account, not from the investment account, certainly not from the real estate. This money is going directly to that beneficiary as soon as possible.
And keep in mind, one thing about life insurance, it is the only financial vehicle, the only asset that you will own that guarantees that what you want to have happen will happen, even if you’re not here to see it happen.
So what does that look like? Well, let’s say you’re alive now and you’re young and you have a child and you want them to go to a good college. So you’re saving for retirement. But let’s say you die in five years. How is your child going to afford college now that they don’t have the savings that you’ve been accumulating for them? So one way to do that is to take out an insurance policy to make sure your child has the money to go to a good college, even if you’re not there to see it happen.
Another reason why you’d want to buy life insurance for the death benefit is for income continuation. If you’re a breadwinner or a dual household income, wouldn’t you want to make sure your spouse could maintain their current standard of living even if you’re not there working with them?
Another reason to buy life insurance is if you’re a business owner, and we see this so often, where a business owner will insure his business interests or the value of his business interest
so that his spouse doesn’t have to run a business they’re not familiar with. They can utilize the cash to create the lifestyle that the business created when the husband was operating the business.
So it all comes down to, once again, having full liquidity, use and control of your money even after your death.
If you’d like to get started with a life insurance policy to protect your family or your business, visit our website at Tier1Capital.com to get started today.
Feel free to schedule a free strategy session and get right on our calendar.
And remember, it’s not how much money you make, it’s how much money you keep that really matters.