In my most recent article, I wrote about some of the common pitfalls we see in estate planning. This extends beyond wills and trusts, and how you should or shouldn’t hold title to your real estate. All too often we run across these pitfalls in other areas of your long-term planning such as with life insurance, nursing home policies, IRAs and other investments.
The topic of today’s post is who should own and benefit from your life insurance?
First, I ask: what is the purpose of your life insurance? I appreciate the love-hate relationship many hold for insurance, but it can also be a valuable tool for many families to complement their long-term planning. Some of the potential fits: to address concerns over debt, future estate taxes, equalization payments between children, and planning for long-term care or nursing home.
Related: When does life insurance pay?
Typically, life insurance is owned in your personal name. But, when may this not be advisable?
It is important to note life insurance is income tax free, but not estate tax free. In other words, the death benefit or value of the life insurance policy is still included in the owner’s taxable estate. It becomes very tax-inefficient if the mere purchase of life insurance causes you to have a taxable estate.
This may not be of great concern for many as the federal estate tax exemption is very high (currently over $12 million per individual). However, some states also impose an estate tax at the state level. Illinois, for example, has an estate tax threshold of $4 million per individual. Life insurance is a common tool in Illinois for this reason. However, instead of owning the insurance in your personal name, consider structuring it to be owned by your children or perhaps even better, a life insurance trust so the value of the policy is not included in your taxable estate.
It seems the prominent default for beneficiaries of life insurance is the spouse first, and then the children. But when may this not be advisable?
Life insurance is often purchased so your estate has funds to cover any debts, liabilities, or estate taxes it may owe. However, it is a potential pitfall if all this liquidity pays out to your children directly. Rather, consider naming your estate the beneficiary of your insurance so the liquidity it generates remains in your estate to serve its purpose. Hopefully, there are minimal debts and liabilities, and the insurance is still available to funnel back to your children through your estate planning documents.
There is no “one size fits all” approach when it comes to planning for your retirement and the future of your family farm. I hope this article causes you to think about your own unique situation and verify with a qualified advisor the ownership and beneficiaries of your life insurance are set up properly.
Downey has been helping farmers and landowners for the last 22 years with their family farm transition, estate planning, leasing strategies, finances, and general land consultation. He is the co-owner of Next Gen Ag Advocates and an associate of Farm Financial Strategies. Reach Mike at [email protected].
The opinions of the author are not necessarily those of Farm Futures or Farm Progress.