A Life Insurance Retirement Plan, or LIRP, is a uniquely structured permanent life insurance policy that can do a great deal more than just deliver a death benefit.
A LIRP is a life insurance strategy that mimics most of the tax-free features of a Roth IRA. A smartly funded LIRP can offer significant streams of income that are tax-free when a policyholder elects to retire.
Unlike the Roth IRA, there is virtually no income limitation in a LIRP, and there are no earned income restrictions. This suggests high-income individuals can also take part in the LIRP strategy.
In this article, we will take a broader look into the LIRP to offer evidence of why using a life insurance retirement plan is a sound strategy that anyone may want to consider.
IN THIS ARTICLE:
What exactly is a LIRP?
A life insurance retirement plan, typically referred to as a LIRP, is a form of permanent life insurance that accumulates cash value. In essence, most people refer to the LIRP as an overfunded life insurance policy.
As opposed to many other permanent life insurance products, however, that are acquired for the death benefit security, a LIRP is utilized more for its wealth accumulation and retirement income capabilities. The cash value in a LIRP can be accessed tax-free for supplementing retirement income or for any other reason.
There are two kinds of insurance policies that are typically used for creating a LIRP. These are:
- Whole Life Insurance
- Indexed Universal Life Insurance
Although whole life insurance can offer you a workable framework for a life insurance retirement plan, indexed universal life can generally provide the best LIRP framework, especially if you purchase indexed universal life with a very high Cap rate. One reason for this is because indexed universal life policies are flexible, but whole life insurance policies are basically etched in stone after issuance.
How does a LIRP work in Retirement Planning?
A Life Insurance Retirement Plan (LIRP) is straightforward in principle. LIRPs are effectively over-funded life insurance policies, which means premiums paid exceed the premium amount required to keep the policy in force. The objective is to maximize the cash accumulation for future policy loans.
The account holder funds the universal or whole life policy and then borrows against the accumulating cash value via a tax-free loan. There is an abundance of benefits for including a LIRP in your retirement strategy, tax-deferred wealth accumulation, asset protection, long-term care benefits, and penalty and tax-free distributions, to name a few.
Given that life insurance cash values are taxed on a “ first-in, first-” basis, a tax-free policy loan can be made up to the amount of premium paid into the policy. Each year, your cash account will earn tax-deferred interest, which allows your policy to accumulate considerable wealth over time.
What are the Advantages of having a LIRP?
At the top of our list, we should talk about the guarantees and safety that a LIRP provides.
You may recall the market crash in 2008 when millions of hard-working Americans took a gigantic hit on retirement savings that quickly amounted to billions of dollars.
Following that, many people began questioning traditional retirement savings vehicles and started looking for options that could offer more protection and less risk. Regretfully, many of the so-called financial professionals were offering “stay the course – these things happen” advice much to the dismay of their clients.
Fortunately, the market did make a comeback, but what about those massive losses that will likely never be recouped? They’re gone.
Most Americans using traditional retirement planning strategies genuinely suffered from the toll taken on their investment portfolios. In fact, many of them suffered losses to the tune of 50% or more thanks to market sell-offs.
Although it’s a given that Bear markets are generally followed by Bull markets, that way of thinking is not very encouraging for the folks who were looking to retire in 2010.
The Guaranteed Floor Safety Net
A LIRP that is built on indexed universal life insurance has a safety net known as a Floor. This Floor rate is a specified minimum interest amount that can impact the cash value in your insurance policy and is typically set at zero to 3%,
This means that even in the worst market environment, your cash account will never suffer a loss. In many cases, depending on the insurance carrier, you’ll never earn less than 3%, no matter how volatile the market is behaving in a crediting period.
There is a trade-off for the safety net, however. Your indexed universal life policy will also have a Cap. This represents the maximum amount of interest your account can earn in a given reporting period. So, if the market does well and posts an 18% return but your Cap is set at 14%, the difference represents the cost of not experiencing what most of us experienced in 2008.
A LIRP provides a Guaranteed Death Benefit
This is the simple part. If you have been investing in a traditional IRS or 401(k) for a year and then killed in a car accident, your heirs will likely get some of the money you’ve invested for retirement.
However, if you invested in a Life Insurance Retirement Plan for a year and were killed in a car accident, your surviving loved ones would get the guaranteed death benefit in a tax-free lump sum, which would amount to a lot more than what you’ve invested in your LIRP.
Flexibility to Accommodate Life Events
Financial setbacks typically affect all of us. If you’re laid off from work or your business takes a hit because of a life event (COVID-19 comes to mind), the flexibility of the indexed universal life policy will allow you to reduce your payments or even skip a payment to help you manage your cash flow.
Additionally, if you find you need a larger or smaller death benefit, that is adjustable as well. It’s quick and simple to reduce your death benefit, but if you need to increase it, that will take longer because of the additional underwriting involved.
Long-Term Care Benefits (if you want them)
When you are investing in a LIRP, you know you’ll accumulate wealth for retirement, you know you’ll leave a death benefit when you die, but what happens if you become ill and need long-term care?
Almost every insurance company that offers indexed universal life or whole life insurance offers an optional rider for long-term care benefits. If this happens, instead of spending what you’ve accumulated during your lifetime for retirement, you’ll have access to the funds you need to manage the significant expenses associated with long-term care.
Life Insurance Retirement Plan Tax Advantages
The majority of retirement plans are either totally taxed, or tax-deferred. What this means is that the person who is investing either pays taxes each year on the gains you attain from your financial investments (fully taxed), or you defer taxes on these gains and pay them whenever you withdraw your money (tax-deferred).
The LIRP is unlike either of these approaches; it is absolutely tax-free. Generally, the funds you invest in traditional tax-deferred investments are considered pre-tax money. However, with a LIRP, you invest with after-tax money.
Therefore, Uncle Sam has already been paid for the most part. But what about the earnings in your investment – when should you pay taxes on your earnings?
With a LIRP, you will need to pay taxes on the earnings but only if you choose to withdraw that money.
Having said that, the earnings don’t have to be withdrawn to be utilized. You can elect to borrow from your earnings instead of withdrawing them and not have a tax liability as a result.
Is a LIRP For You?
Without a doubt, when you research the LIRP retirement strategy, you’ll likely find financial professionals that are in favor of the LIRP, and those (like Dave Ramsey), who is entirely against the strategy.
What we recommend is that you speak with an independent insurance professional who specializes in retirement planning with indexed universal life insurance, and find out as much as possible about how a LIRP can offer significant wealth accumulation while protecting you from losses if the market tanks before it’s your turn to retire.