Whole Life Insurance to Avoid Estate Taxes?

Link has $1.5 million in term life insurance but is thinking that a whole life insurance policy would be good for avoiding taxes. Dave is quick to shoot that idea down.

QUESTION: Link in New York has $1.5 million in term life insurance but is thinking that a whole life insurance policy would be good for avoiding taxes. Dave is quick to shoot that idea down and tells him why he should avoid taking out such a policy.

ANSWER: No, absolutely not. The reason is really simple. The only reason you would have estate tax that your estate couldn’t pay is if your estate is illiquid, meaning you have a family farm or a family business or something like that. In that case, you might not have the liquidity to pay the estate taxes.

There is no insurance program that the insurance company doesn’t make money on. They don’t give insurance away. If you pay out $X for whole life insurance, over time, if you live an average amount of time, you could’ve invested that same amount of money and had the investment liquid to pay the estate taxes. Otherwise, the whole life insurance statistics are out of whack and they’re going broke, which you don’t want to buy from them anyway. They’re using actuarial tables that are probability of death at a given age. Obviously, the way you come out on any insurance is if something breaks or you die or something like that sooner than their actuarial tables. That’s when you win with the insurance company. On average, you have to lose with an insurance company for them to make a profit. That’s just logical.

I buy term life insurance, or I suggest term life insurance for estate planning where there’s a family farm or a business or a bunch of real estate or something that’s illiquid that the family doesn’t want to have to sell in order to do this. But let’s say you had a $10 million estate or a $20 million estate today. You’re married, which would mean you’d have about $10 million that’s potentially exposed to federal estate taxes. You can shelter up to $10 million with a simple AB trust today. Let’s say you had some exposure. Then you’re going to have estate taxes of probably $3 million or $4 million. Out of your $20 million estate, make sure you have $3 million or $4 million that’s liquid. Just tell the family to be using that for paying the estate taxes. In the meantime, use term insurance.

You don’t have to worry about that at all today unless you’ve already got an estate of over $10 million, because you don’t have federal estate tax except over $5 million. Again, if you’re married with an AB trust, you can pass to your heirs up to $10 million with a very simple, very basic estate plan today.

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