Are you hoping to leave your children with an inheritance once you pass? Using a life insurance policy can provide many unique advantages regarding estate planning. Learn more about the benefits of giving your kids an inheritance with life insurance and the three things you should consider before doing so.
The Benefits of Passing on Your Life Insurance
Investments and stocks are never guaranteed because they fluctuate with the market. So, if the stock market were to collapse before your death, your beneficiaries may receive less than you intended. With life insurance, the policy can be fixed and guaranteed so that when the time comes, the amount your beneficiaries receive from the death benefit will be precisely what was planned for.
- Life insurance payouts also bypass the estate and probate process so that any proceeds will be tax-free to your beneficiaries. This flow-through can translate into thousands of dollars in savings. Your beneficiaries can also use the benefit to offset other possible taxes. For instance, if you pass on a second property to your children, they might be required to pay capital gains tax. They might be forced to sell the property if they do not have enough money in the bank to cover these taxes. However, if they receive insurance proceeds, they could use these funds to pay taxes and keep the property.
- The life insurance benefit can also help pay off any debt obligations passed down to your beneficiaries. If you carry a mortgage, credit card debt or other amounts at death, the insurance proceeds can be used to pay these off.
As you can see, the ability to pass on tax and probate-free benefits to your children can help provide them with many advantages while solving problems that may arise at the time of death. But what must you consider before purchasing or ramping up your insurance policy?
Key Considerations
1. How Much Is Enough?
The amount of insurance coverage you require is not a one-size-fits-all answer but rather a nuanced decision based on many factors, including your personal circumstances and financial situation.
While it may be tempting to determine your life insurance needs independently, consulting with an insurance broker is highly advisable. These professionals possess the expertise and knowledge to thoroughly assess your situation and guide you toward the most suitable insurance policies and coverage levels.
Remember, life insurance needs may change over time due to health considerations, asset accumulation, or debt load. Therefore, it is crucial to regularly review your life insurance coverage with your broker to ensure that it continues to align with your evolving needs and potential circumstances.
2. What Policy Should You Choose?
Not all policies are created equal, and the policy you choose can impact the payout to your beneficiaries. Whole or universal policies are more expensive, but they are often the better option for estate planning because they guarantee a death benefit. An insurance professional can help you determine what policy is right for you.
3. How Do You Name a Beneficiary?
To ensure your children receive your full intended life insurance, you’ll need to name them as your beneficiaries. Some policies may differ based on requirements, but here is a high level of what you need to know:
- Bypassing Fees: Naming your children as beneficiaries and specifying in your policies that you want them to receive the assets can help avoid probate fees and ensure they receive the inheritance promptly following your death. If you don’t name your children as beneficiaries, the death benefit will go to the estate and be decided as written in the will.
- Multiple Children: You can name various beneficiaries for your life insurance. Further, you can make decisions regarding the division of assets and benefits, whether everything is spilt 50/50 or otherwise.
- Your Kids are Minors: If you name your children as beneficiaries and they’re still minors, the insurance companies won’t pay them the death benefit until they are of age, which is typically around 18 or 19 years old, depending on the province. It is recommended that you appoint a trustee. A trustee is a designated person or institution (relative or lawyer) responsible for securing the money for your children until they are of age.
Do You Pay Taxes on Life Insurance that is Inherited?
Typically, no, your beneficiaries will not pay taxes on the life insurance they receive from your plan. However, there are cases where taxes would be owed. These include:
- Didn’t Name a Beneficiary: Your estate will inherit the assets and must pay estate taxes on the death benefit.
- Cancelling Your Life Insurance: Cancelling your life insurance policy, known as “cash surrender,” means forfeiting coverage in exchange for a payout. Some of that payout is taxable.
- Selling Your Life Insurance Policy: Selling your life insurance is known as a “life settlement.” This payout is more than a cash surrender payout but less than the death benefit. This payout is also taxable.
- Withdrawing Cash From Your Policy: Any cash value from the policy you withdraw is taxable.
- Your Beneficiaries Earn Interest From The Policy: If your beneficiaries receive interest on the cash policy from the policy, that money is taxable.
How Will It Factor Into Your Estate Plan?
Using life insurance as an inheritance can be a worthwhile option, but depending on how your estate plan is set up, it might not be appropriate for your situation. An advisor can help you maximize your tax position to provide your family with the most protection.
Our team at Rowat Insurance can help refer you to a life insurance policy that’s right for your estate planning. Contact us today to learn more.