| 10 May 2010
Adding up estate assets and recommending life insurance in half this amount doesn't get the job done.
Estate planning life insurance should make the not so subtle distinctions of what types of assets are involved, and what people planning issues can be handled. A good test of whether life insurance is a good fit is if there is the cash flow to easily handle the premium payments with a well thought out gifting program.
When most of the estate assets are difficult to market, liquidity life insurance is the order of the day. Liquidity life insurance usually features level death benefits for life. The policy can either have guaranteed premiums and death benefits (static-priced) or premiums that will fluctuate with changing interest rates (market-priced).
Clients whose assets are primarily marketable securities don't have a liquidity problem and this is the most overlooked aspect of estate life insurance planning. The goal with mostly marketable assets is to focus on wealth-transfer making systematic gifts using annual exclusions and credits if necessary to modify the future growth of the estate. At this point this isn't even a life insurance issue. But these cash gifts need to be invested and life insurance is uniquely qualified because the proceeds are income tax free.
When liquidity life insurance is confused with a wealth-transfer planning need clients are usually not advised of two risks using static-priced level death benefit life insurance. The first is longevity risk associated with using only level death benefits instead of wealth-transfer life insurance with increasing death benefits. Typically, increasing death benefits will be some 50% higher than level death benefits for life - both receiving the same premium payments - by life expectancy. If liquidity isn't the issue clients need to know the benefits of increasing death benefit.
An ideal wealth transfer life insurance program is participating whole life with dividends buying paid-up-additions. This causes the death benefits to go up each year dividends are paid.
The problem of defaulting to level death benefit static-priced policies (whether for liquidity or wealth-transfer) is an interest rate risk relative to market-priced policies. If interest rates remain low static-priced policies will have an advantage. But if we have higher sustained interest rates market-priced policies will have the best of it. Clients need to be advised of this so they can make informed decisions between static- and market-priced level death benefit policies.
Liquidity life insurance should mostly use level death benefits, whether static- or market-priced. Wealth-transfer life insurance should mostly use increasing whole life policies. (Modified VUL can be considered for wealth-transfer but not without access to astute management of this complex asset - see January 2008 Life Insurance Perspectives www.peterkatt.com).
One size fits all is not professional estate life insurance planning. Make sure your clients are given options that are reasonable to their circumstances so they can make informed life insurance decisions.
Peter Katt is a nationally recognized fee-only life insurance consultant and an integral part of the Thompson Creek Team.