top of page
  • Writer's pictureJay Judas

Tier One: Do Not Forget to Position Cash Value Life Insurance as a Contingent Asset Class in a Diversified Investment Portfolio

Those who have purchased, or are considering purchasing, a large cash value life insurance policy should treat the policy as an asset class within their investment portfolio.  Given the size of the policy’s cash value and death benefit, it would be a mistake to not consider how a life insurance policy can impact traditional asset classes.  


In August 2020, Michael Fontanini and I covered the technical aspects of how to do this in our piece for Trusts & Estates Magazine, “Life Insurance: A Valuable Contingent Asset Class?” I would encourage readers to check this guide explaining the methodology in evaluating where a policy sits in a portfolio and how that position should influence other investment decisions.


As the New Year is underway and January is often treated as the start of the financial planning year where investment portfolios and life insurance policies are encouraged to be reviewed, it is the perfect time to make sure the two are not operating independently.  


The Strategic Role of Cash Value Life Insurance in Portfolio Diversification

Cash value life insurance, with its unique characteristics, can play a pivotal role in diversification strategies. Unlike traditional assets, it provides a blend of risk management, tax efficiency, and estate planning utility. Broadly, life insurance has a high probability of a stable and modest return, a return that looks a lot better when considering it is income tax-free.


Risk Diversification through Non-Correlation

Jay working at a computer

One of the primary advantages of cash value life insurance is its lack of correlation with market-based assets. In volatile markets, while equities and bonds may fluctuate significantly, the cash value component generally offers stable growth, anchored by the insurer's portfolio, which is often heavily weighted towards high-grade bonds and other stable investments. Also, as an institutional investor, an insurer is likely to obtain higher yields in such conservative investment than an individual.


Tax-Efficient Wealth Accumulation and Transfer

In an evaluation of a life insurance policy, there isn’t just a single benchmark to measure – there are two:  the cash value and the death benefit. Both offer tax benefits. As noted, the tax-deferred growth of the cash value component is a significant advantage, particularly for high-income individuals facing substantial tax burdens. Policyholders can access the cash value through loans or withdrawals, a feature that can be strategically used for tax-efficient income streams or as a financial buffer during market downturns. This liquidity feature, however, must be carefully managed to avoid compromising the policy's long-term value and tax benefits.

 

Moreover, the death benefit, typically exempt from income tax, provides a tax-efficient mechanism for wealth transfer, an essential consideration for estate planning. The profile of the affluent clients for whom we consult at Life Insurance Strategies Group is most often someone who is never going to touch their life insurance for its cash value benefits. While it is a comfort knowing they can, these clients are likely going to realize a policy’s death benefit, either for wealth transfer or wealth protection. Therefore, measuring a cash value life insurance policy for its death benefit when positioning it in a portfolio is preferred.


Tactical Integration into High-Net-Worth Portfolios

Incorporating cash value life insurance into a high-net-worth portfolio demands a tactical approach. It should be viewed not as a primary growth vehicle but as a complementary asset offering stability and tax efficiency. For instance, acknowledging that a life insurance policy has little volatility and a stable return means that a policy could offset or balance an investment in a riskier asset class, perhaps in hedge funds and other alternatives.


This strategy should not be confused with private placement life insurance (PPLI) which combines highly tax-inefficient investments with life insurance in order to apply life insurance’s tax benefits to the investments. While a PPLI policy can also be positioned in a portfolio, it would serve as a moderate to moderately high-risk asset class, depending on the nature of the underlying investments. This is because PPLI is not a general account product where the insurer is investing the premiums in the conservative asset classes discussed.


Risk Considerations and Advanced Strategies

Advisors and clients must be aware of the risks and complexities involved which is why I will, again, encourage interested parties to check out my Trusts & Estates piece for greater detail. For instance, specific product features, such as guarantees, riders and death benefit options can alter the position of a policy in a portfolio. Also, other considerations such as if a policy is owned in a trust or personally and how and where proceeds are received have an impact.


No Longer Strangers

This month is the perfect time to treat life insurance as an integral part of an investment strategy.  Those with significant life insurance policies could be missing an opportunity for higher portfolio yields by ignoring the role life insurance can play.

 

At Life Insurance Strategies Group, we do not sell products. We help our individual and institutional clients make decisions involving complex life insurance transactions.

bottom of page