Annuity Combined Life Insurance Strategy

Annuity + Life Insurance Strategies

Financial needs and goals often change as we get older. The need for guaranteed income you had years ago may have been replaced by a desire to leave a legacy to your children, grandchildren or charity. Or perhaps you’ve outgrown the need for life insurance, or your net worth has grown to where taxes are more of a concern.

Fortunately, there are several strategies involving both life insurance and annuities that can help you reposition your assets in a way that works better for your current situation.

Keep in mind that planning concepts like these require professionals who understand current tax law and can objectively advise you on the advantages and disadvantages.

Use an annuity to buy life insurance

If you’re planning to leave some or all of your annuity to your beneficiaries, you may be able to maximize that inheritance by using some of the income to purchase a life insurance policy. In doing so, you may be passing on your retirement assets in a more tax-efficient manner.

This strategy is geared to individuals who are planning to hold onto their annuity until death and have not started drawing the income or taking withdrawals from their contract; it still has its full value.

The first step to executing this strategy is to annuitize your contract or withdraw an amount that is allowed by the contract. You would then use the distributions to buy a life insurance policy.

The life insurance death benefit can replace the value of the annuity, provide additional cash for beneficiaries, and enhance the legacy you leave to your beneficiaries. Further, if owned properly, the life insurance death benefit may be free of both income and estate taxes, unlike the original annuity death benefit.

Some advisers recommend converting the deferred annuity you own to a single premium immediate annuity instead of annuitizing the existing contract. Some also advise having a trust or the beneficiaries own the life insurance policy, using the annual gift exclusion amount to pay the premium. The insurance coverage would be on the life of the annuity holder or on the lives of the annuitant and his/her spouse.

Use existing life insurance to buy an annuity

While it’s not often the case, some individuals may find that once they get older and their kids are no longer living at home that the need for life insurance diminishes. But they might have a need for guaranteed income.

If you have a whole life or universal life insurance policy, you may be able to surrender it and use the cash surrender value to purchase an annuity. This can be an effective retirement income strategy if the conversion does not trigger a significant tax obligation.

If there are no outstanding policy loans, you can transfer the funds via a 1035 exchange, which allows a policyholder to transfer funds from a life insurance, endowment or annuity to a new policy, without having to pay taxes. You should consult with an agent or adviser, or your insurance company, to determine whether it’s more advantageous to you to surrender the policy or to transfer the funds through a 1035 exchange.

Keep in mind that you may be able to buy an annuity that has a death benefit, which could partially replace the life insurance policy you surrendered.

Simultaneously buy life insurance and an annuity

If you’re well into retirement and still have significant liquid assets, a strategy that can provide cash flow and life insurance protection is to purchase a single premium immediate annuity (SPIA) and a life insurance policy at the same time.

How it works is you would take a portion of your cash and purchase the SPIA, which will provide immediate guaranteed income for the rest of your life. You then use some of the income you receive each month to pay the premiums on a life insurance policy.

One reason an individual might consider this strategy is the need for cash flow, but a desire to leave something behind. If this is the case, you could set up this strategy so that the death benefit from the life insurance policy equals the amount of premium you paid into the annuity. So if you had $500,000 in cash and you wanted to pass that on to your heirs, you would allocate enough of your annuity income to buy life insurance with a $500,000 death benefit, naming the heir(s) as the beneficiary(s). They get the inheritance, you get a lifetime income stream. It’s a win-win.

Another potential benefit of this strategy is that it could save a person’s heirs on estate taxes if the person has a large enough estate. That’s because the life insurance policy is not part of the estate and will thus lower the value of the estate.