Life insurance: Build and protect multigenerational wealth

Some advisors may wonder what value life insurance can offer high net worth individuals, considering people in that income bracket already have accumulated significant wealth.

But although they might have more wealth, they typically have more debt and more expenses and owe more in taxes. They also may expect or desire to pay for their children’s or grandchildren’s educations, for their children’s or grandchildren’s weddings, or a charitable legacy. Life insurance can help build multigenerational wealth while ensuring that a person’s or couple’s hard-earned money passes to future generations in the most tax-efficient way possible.

Avoiding estate tax

The federal estate tax exemption is $12.06 million for individuals and $24.12 million for couples. Estates in excess of that amount are taxed at 40%. People who have worked hard to earn, save and invest this much money do not want it going to the government; they want it to go to future generations or perhaps to charity. To help pay estate taxes, high net worth individuals often purchase life insurance, which when designed correctly not only grows tax-
deferred but will pay a death benefit that is free of income and estate taxes.

For example, a couple with an estate in excess of $200 million wants to leave their children $50 million. They can use the federal estate tax exemption, which allows a tax-free transfer at death of $12.06 million for individuals and $24.12 million for couples, while the remaining $26 million can be funded with life insurance. The remainder of their estate can go to a private foundation to create a charitable family legacy.

This way, the children receive enough to live comfortably and build generational wealth. The foundation, which can be controlled by the children, has a significant amount of money to donate to charity and the federal government does not get anything. In addition to considering federal taxes, it is important to consider whether the client’s state imposes an estate tax. Not every state does, but those that do may have a lower exemption amount.

Preparing for the unknown

Parents cannot predict what will happen in the future, so it is important to provide for unanticipated changes in circumstances.

One of my clients died at age 88 and left his three children an estate of $3.6 million, or $1.2 million each. Two of the children lived financially successful lives, so the inheritance was nice to receive but it did not materially affect their lifestyles.

However, the third child found herself divorced at age 60 after not working outside the home for the past 35 years. Her only means of support was the $1.2 million inheritance. Although that seems like a lot of money, it had to last for the rest of her life, which could be 30 years or more.

Fortunately, my client had purchased a $4.5 million life insurance policy, which provided each child with an additional $1.5 million. That extra money changed everything for his child who had fallen on hard times. It made the difference between living a stressful life and a stress-free life.

Life is full of uncertainty. Maybe your client has a child or grandchild with special needs or has a child who is going through a divorce, as in the example I cited. Life insurance is a great way to provide a financial cushion to meet those future uncertainties.

Life insurance is a selfless purchase. Those insured might not receive any benefit from it, but their beneficiaries may be able to use it to build multigenerational wealth, allowing them and their children to live well and perhaps enable them to pursue charitable endeavors. However, in order to achieve their parents’ vision, the children need to learn how to manage the money they will receive.

Parents should talk with their children about what wealth means to the family and how to use the money to sustain and grow their wealth to provide for future generations. Parents also should teach their children about the responsibility that comes with wealth, and how they can use that wealth to help others.

For example, the conversations may include topics such as philanthropy or how to manage or grow a family business that provides employees with jobs that support their families. Their parents’ life insurance policy proceeds provided them many opportunities, and they should do the same to provide for their children and grandchildren so that the wealth continues.

Value of life insurance for the middle class

What can the average person learn from the way high net worth families use life insurance? Life insurance provides predictable, tax-deferred wealth that can pass to the next generation. Upon the death of the insured, the beneficiaries receive a guaranteed death benefit.

Whether it is a lot of money or a little, it can truly make a difference in a person’s life. It could pay for education or weddings, pay off a mortgage or pay off student loans. It can provide a cushion if someone’s business goes under or if they lose their job, allowing them to take the time to find the right job instead of jumping into the next available position. A life insurance policy, whether it is for $50,000 or $50 million, can be instrumental in setting up your children, and possibly their children, for success.

Howard Sharfman is senior managing director, NFP Insurance Solutions. He may be contacted at howard.sharfman@innfeedback.com.