This overlooked asset could help optimize your clients’ financial plan

Clients are concerned about how they will manage their tax liability and continue to mitigate the impact of inflation and market volatility on their portfolios. While clients may have different goals and objectives, they all share the desire for financial security and a successful financial plan.

You know that your clients need a resilient portfolio that can withstand today’s challenging economic and financial landscape. Relying exclusively on traditional products and asset allocation strategies may be too limiting for some of your clients. One overlooked asset category you may want to consider as you help your clients build portfolios that can increase diversification is permanent life insurance, specifically cash value variable universal life insurance.

Incorporating cash value VUL insurance into a securities-only portfolio has the potential to increase the strength and resilience of your clients’ portfolios. While you likely understand that life insurance provides important death benefit protection, you may not realize the extent to which it can improve tax efficiency and lower the financial risk for beneficiaries. This can be particularly critical during this time of inflation and market volatility.

Using life insurance to create tax efficiencies for tomorrow

Many of your clients may be familiar with the concept of asset allocation — diversifying their investments across different asset classes. An asset allocation strategy is an important approach to help your clients manage risk during the years that their money is invested. However, it won’t help them manage the tax implications they will face when they begin withdrawing income from those investments to address their financial needs in retirement. That’s where an asset location strategy comes in. By investing their assets in different financial accounts (or locations) with different tax consequences, you can help your clients improve their portfolios’ tax efficiency and seek to maximize their after-tax retirement income.

Helping clients zero in on the tax advantages

When life insurance is part of a retirement portfolio, the associated tax advantages can help optimize portfolio growth and distribution. Leveraging the tax advantage benefits of permanent VUL insurance and the underlying investment options it offers can play a key role in developing financial protection strategies for your clients that can increase the probability of having a more successful retirement plan. Permanent life insurance, for example, offers an income-tax-free death benefit, tax-deferred growth, and potential for tax-free income from its cash surrender value. What’s more, the death benefit provided by life insurance can self-complete a retirement plan in the event of your client’s premature death. It’s a singular combination of benefits that’s unique to permanent life insurance.

Within a cash value VUL insurance policy, your clients also have the ability to choose from a wide variety of equity, fixed income and asset allocation investment options. Because these policy assets aren’t taxed as they accumulate, they enjoy the potential for faster growth through compound interest. The investment options typically span the risk-return spectrum, accommodating clients of various ages with different financial goals and appetites for risk.

You are likely familiar with the advantages and limitations of a Roth IRA. You are probably also familiar with the tax advantages of life insurance, which are why it can be a tax-smart strategy as a Roth IRA alternative. Neither has the required minimum distributions that characterize other qualified retirement plans, and clients who postpone withdrawals until later in life are not required to take RMDs.

The same is true for clients whose entire policy value is earmarked for tax-free wealth transfer. Other benefits of life insurance include the fact that there are no 10% early withdrawal penalties and no income-based premium contribution limit.

Permanent life insurance can be valuable to clients as a source of tax-free retirement income. Moreover, the solutions support wealth transfer goals with tax-free distributions to named beneficiaries.

While there are similarities between a Roth IRA and cash value life insurance, there are also fundamental differences. A Roth IRA is an IRS plan designed to facilitate retirement savings. Cash value life insurance is a contract that builds value and provides a death benefit backed by the claims-paying abilities of the issuing life insurance company. Carefully review all the features, benefits and costs of a cash value life insurance policy with your client before making a purchase. Four things to keep in mind when it comes to cash value life insurance policies include:

1. If your client’s life insurance policy lapses, your client will lose the death benefit and may lose substantial money in the early years.

2. For the policy to be effective, your clients need to hold it until death. A life insurance policy generally takes years to build up a substantial cash value.

3. Tax-free distributions will reduce the cash value and face amount of the policy. Your clients may need to pay higher premiums in the later years to keep the policy from lapsing.

4. Your clients must qualify medically and financially for life insurance, unlike a Roth IRA.

Creating tax-free retirement income

Financial protection can bring durability and resilience to your client’s portfolio. Mixing tax-free income from life insurance with income from tax-deferred and taxable sources creates an opportunity for better tax management.

Most of your clients are likely familiar with the income-tax-free death benefit that life insurance provides. A less known, living benefit is the potential for tax-free income that can supplement cash flow in retirement or be reserved for specific expenses, such as health care or long-term care. This income may be taken through policy loans and withdrawals on any available cash value accumulated in a permanent life insurance contract. However, it’s important to remember that loans and withdrawals will reduce the face amount and cash value of a contract. This is important because health care continues to be one of the largest expenses incurred by retirees.

According to a report by HealthView Services, a healthy 65-year-old couple retiring in 2021 can expect to spend more than $662,000 for retirement health care costs, not including long-term care. It’s no wonder that clients of all ages are concerned about accumulating and safeguarding the funds they’ll need to care for their health in retirement.

A hedge against market volatility

We saw during the financial crisis of 2008 and are seeing now in real time how much of a threat market volatility is to retirement portfolios. Regardless of how diligent your clients have been with saving and investing, a downturn in the market at the wrong time can have a negative impact on your clients’ retirement savings, especially those clients who are already in the drawdown phase.

Permanent life insurance policies build cash value over time that grows tax deferred, and the cash surrender value can be taken out for any reason. So for your clients who are retirees, the cash value in their insurance policy can be leveraged to supplement their retirement income.