COLUMN:

The Many Purposes of Life
Insurance

Most people think of life insurance as providing protection for their family; when the policyholder dies, the beneficiary receives a payment designed to help cover funeral expenses and to partially replace the deceased’s income. While life insurance can protect your family from a financial catastrophe, it also can serve many other important purposes, including the following:

• Transferring wealth. The death benefit from life insurance is exempt from federal income taxes, but not from estate taxes. However, estate taxes can be avoided by transferring ownership of the policy to a trust. After the insured dies, the death benefit can remain in the trust and provide ongoing income to heirs. The insured may use the trust as a way to distribute income to children from a previous marriage or to control income provided to children who may be financially irresponsible.

A trustee is assigned to control distribution of trust assets. The life insurance trust is irrevocable. That means heirs can’t change the beneficiaries, cancel the policy, borrow against it or alter its terms.

• Converting business assets to income. A business with multiple owners often fails after one of the owners dies because the remaining owners typically have to buy out the shares owned by the deceased owner. Most businesses do not generate enough cash to make such a transaction.

To protect the business and the interests of all of the owners and their heirs, a buy-sell agreement usually is established. This agreement ensures that when a shareholder dies, the surviving shareholders will purchase the deceased shareholder’s stock at a fair-market price.

The agreement also creates a vehicle for funding the purchase. Life insurance policies that name the other owners as beneficiaries are commonly used since they make funds available when they are needed. Cash-value life insurance also can be used to create an exit strategy since the owners may use the cash value to buy out the shares of a retiring owner. Cash-value life insurance is a policy which in addition to providing a benefit upon the death of the policyholder, also accumulates cash value over time enabling benefits to be paid out before death.

• Retirement income. Life insurance has long been used as an employee benefit, especially to retain and reward key executives. Executives often receive “split-dollar” plans, which use cash-value life insurance to generate income during retirement.

With split-value plans, the company advances money to the executive to pay premiums on a cash-value life insurance policy. To pay back the company, the executive makes the company a beneficiary of the policy. The company splits the death benefit and cash value with the executive. If the executive dies, the employer receives a death benefit equal to the amount it has paid into the policy. The executive’s beneficiaries receive the remaining funds.

If the executive uses the policy to generate retirement income, the company takes a share of the policy’s surrender value when the executive retires. The policyholder can borrow against the policy’s remaining cash value, usually at a net interest charge of 2 percent or less. The policyholder avoids paying income taxes on the loan as long as the policy remains in force. Borrowing on the policy may be subject to restrictions, and care must be taken to ensure that loans do not cause the policy to lapse.

• Borrowing. Cash-value life insurance gives policyholders an opportunity to borrow money for any need. Loans may be made after the first year of the policy and can be repaid at any time during the life of the policy. Loans are not subject to income tax while the policy is in force. Loans may reduce the policy’s cash value and death benefit, and may be subject to interest charges.

Note: This material is for informational purposes only. Although many of the topics presented may involve tax, legal, accounting or other issues, neither John Hancock Life Insurance Company and its affiliated companies nor any of its agents, employees or registered representatives are in the business of offering such advice. Individuals interested in these topics should consult with their own professional tax, legal, accounting or financial planning advisors before making any decisions.

Khanh Bui is an agent with the Honolulu Jube Agency, 1601 Kapiolani Boulevard, Suite 1200 in Honolulu. He can be reached at 979-3315 or kbui@jhnetwork.com. He offers insurance products through Boston-based John Hancock Life Insurance Company.

back to top

© Copyright Generations Hawaii. Designed by Trade Publishing