Purchasing life insurance in an amount sufficient to cover an estate tax liability has long been a staple of estate planning strategy. But with so many escaping federal estate taxes under the new tax law, families are starting to re-examine their need for life insurance obtained to help heirs pay the tax.
Faced with continuing premium payments, many are asking whether they need to keep the insurance. You should think twice, though (and get some professional advice) before giving up your policy. The Wall Street Journal recently advised readers to consider keeping life insurance.
First – realize that the “death tax” is not dead. We are seeing an unexpectedly generous exemption this year and next ($5 million per individual, $10 million for a married couple), but don’t forget that the exemption was a mere $675,000 in 2001. As government coffers continue to run dry, a “more robust” estate tax could be very tempting way to raise funds. At any rate, current law expires at the end of 2012, and we don’t know yet what happens next. If you relinquish a policy now, you may find it more expensive – or even impossible – to replace it later. Remember, life insurance is purchased with your good health, cash just pays the premiums.
Second – that life insurance policy could solve a number of other thorny problems, regardless the state of the estate tax. If you have spent more of your savings and investments, life insurance can provide the inheritance you had hoped for your heirs. Life insurance also can help equalize an estate – especially for business owners who have some children participating in the family business and some who do not.
If you’re having trouble keeping up with those premiums, there may be cost-effective options that still allow you to keep some coverage. If you have a whole or universal life policy, you can ask the insurer to reduce the death benefit to a level at which you can afford to make payments. You also may ask your heirs to cover all or a portion of the costs. As long as the policy is owned by a trust for their benefit, there are ways to do this with no gift-tax consequences.
A sale or surrender of your policy has tax consequences, so be sure to consult an advisor before making any decisions about your policy.