Tier One: Now is Not the Time to Term
Lately, I have been encountering a frustrating turn of events when witnessing the estate planning of affluent couples. After couples have gone to the trouble of engaging counsel – usually a partner and several associates at a major law firm – and participating in a lengthy and expensive planning process, they have been throwing a wrench into their plan and potentially sabotaging it. When it comes time to implement the key component of a SLAT strategy, life insurance, I have seen several couples ask for term insurance instead of permanent cash value policies. You can imagine my jaw dropping at each instance!
Spousal lifetime access trusts (SLATs) are a way for a married couple to significantly reduce their future estates and still maintain access to the bulk of their assets. For a thorough run down on SLATs, check out our blog on the subject.
One of the limitations with SLATs occurs when one of the spouses dies, cutting off access for the surviving spouse to the trust the deceased spouse had established for the benefit of the surviving spouse. Once the deceased spoused passed away, those trust assets switched to (typically) benefiting any children. A solution to this problem is life insurance.
Each SLAT should purchase a life insurance policy on the life of the other spouse. When the wife passes, the surviving husband will continue to benefit from his SLAT and his SLAT will collect life insurance death benefit proceeds to replace the access to the values of his wife’s SLAT - which has gone to the trust’s beneficiaries.
Similarly, if the husband passes first, his wife will continue to have access to her SLAT and her SLAT will collect life insurance death benefit proceeds on her husband’s life, replacing the access to the values of the husband’s SLAT. There are additional nuances to establishing SLATs but the advantages of using them are compelling.
A SLAT would be far less compelling without the life insurance component and that is what some couples are risking by plugging term policies into their plans. The excuses for using term are variations on a theme. Usually, it goes something like this: “By the time the term coverage ends in 20 or 30 years, we will have amassed enough assets that if one of us dies, there will be more than enough for the other one to live off of. It isn’t as if the assets are going to the IRS, they are moving to benefit our children. Permanent life insurance premiums are an unnecessary expense.”
These couples are missing out on an opportunity to not only maintain the lifestyle of their surviving spouse after cutting their net worth in half but also to bolster wealth and their legacies for the next generation. There are three reasons to purchase cash value life insurance and not term to incorporate into a SLAT strategy:
Number One: You aren’t wasting your money with permanent life insurance, but you are very likely to be wasting money with term coverage. According to LIMRA’s 2020 Insurance Barometer Study, 54% of all Americans were covered by some type of term life insurance. Yet, study after study has shown that less than 2% of all term policies pay out. By loose comparison, slot machines on the Vegas Strip have a payout of more than 90%. No, you shouldn’t gamble with your insurance premiums, but you can see the disconnect between the unlikely realization of a benefit with term insurance and the highly likely realization of a permanent policy paying out.
Number Two: Contingency versus certainty.
Term insurance is for a contingency:
If you die and your spouse needs income replacement
If you die and your children will need funds for education
If you die and business debt is outstanding
Permanent life insurance is for certainty:
It is certain you will die
It is certain your estate faces taxation
It is certain you will need to replace wealth at your death
Term insurance has its place but it probably isn’t as a part of planning for a certain death.
Number Three: Cash value life insurance is a contingent asset class. Check out my Trusts & Estates analysis on this. Whether the policy is a Whole Life, UL, IUL or VUL, permanent life insurance has a low risk of not obtaining a stable return. This means it can be positioned in an investment portfolio to mitigate the risk from asset classes such as private equity and hedge funds. In fact, life insurance can easily take the place of lower returning asset classes such as treasuries and bonds. What this means is that life insurance doesn’t need to be viewed as a necessary evil to simply fulfill a SLAT structure. It can be a useful asset that plays double duty with your estate planning and investment portfolio.
There is a time and a place for term insurance, and it isn’t in your SLAT. Follow through on a robust estate plan by using permanent coverage.
Since its inception, Life Insurance Strategies Group has solely focused on the individual high net worth life insurance market. We do not sell products. This allows us to offer unbiased, pragmatic advice. Visit us at www.lifeinsurancestrategiesgroup.com.