Life Insurance Retirement Plan: How It Works?
To ensure there are enough finances for later years, planning for retirement requires detailed steps, taking into consideration traditional life options such as 401(k) plans and IRAs. However, there are other alternative approaches such as Life Insurance Retirement Plan (LIRP). This strategy aims to build wealth that is not taxed while also permanent life insurance providing a death benefit.
We at NHI Money believe in flexible financial strategies that maximize value for the user. In this guide we aim to simplify a life insurance retirement plan, explain its workings, and analyze its potential benefits for you.
What Is a Life Insurance Retirement Plan (LIRP)?
A life insurance retirement plan (LIRP) can be defined as an approach involving permanent life insurance policies like whole life or indexed universal life (IUL) designed to fund a retirement plan. This cash value can then be tapped into in retirement through policy loans and cash withdrawals. The advantage this provides is no tax which makes it beneficial towards high income earners.
Unlike traditional retirement plans, which have constricting contribution caps, life insurance retirement plans offer flexible contributions without tax consequences, penalties, or loss of coverage, even after death.
How it differs from traditional retirement plans
A life insurance retirement plan differs from a 401(k) or IRA in several key ways:
| Feature | LIRP | 401(k) / IRA |
| Tax Treatment | Tax-free withdrawals via policy loans | Tax-deferred growth, taxed upon withdrawal |
| Contribution Limits | No IRS-imposed limits | Annual contribution caps apply |
| Market Exposure | Can be insulated from market downturns (IUL, Whole Life) | Directly tied to market performance |
| Early Access to Funds | No penalties for withdrawals via policy loans | Penalties for withdrawals before 59½ |
| Death Benefit | Provides a death benefit to beneficiaries | No built-in death benefit |
Who should consider using life insurance as part of a retirement strategy?
Not everyone needs a life insurance retirement plan, but certain individuals can benefit significantly:
- High-income earners who have maxed out contributions to traditional retirement accounts.
- Business owners and self-employed individuals looking for tax-advantaged savings options.
- Those seeking tax-free income in retirement to reduce overall tax liability.
- Individuals who want lifelong life insurance coverage while also growing their wealth.
How Does a Life Insurance Retirement Plan Work?
A Life Insurance Retirement Plan (LIRP) is designed to maintain a life insurance policy while providing a savings mechanism that grows over time – an added benefit of LIRPs is the tax-free status of the funds. The underlying strategy of this plan is a permanent life insurance policy combined with a savings strategy that is the cash value which grows through the course of the contract’s term. Let’s break down how it works into five steps:
Step 1. Buy a permanent life insurance policy
With the intention of starting off a life insurance retirement plan, first, one must procure a permanent life insurance policy. In contrast to term life insurance that covers an insured for a specified duration, permanent policies (whole life, IUL, or VUL) extend after the set term, offer lifelong coverage and have a built-in cash value component.
As with other forms of permanent life insurance, this policy accomplishes two objectives: granting a death benefit to the insured’s other family members and actively growing wealth. Depending on the policy type you select, the cash value grows over time and provides additional financial growth along with life insurance protection.
Step 2. Pay premiums, with a portion going to cash value
Premium payments towards a life insurance policy include the cost of an insurance policy. This cost is inclusive of the death benefit protection which will be offered. Additionally, a large portion of your premium is applied toward the policy’s cash value component.
The cash value that a policyholder can access without having to forfeit insurance protection is like a savings account that is bound to grow with time. The continued payment of premiums translates into increased cash value, often on a tax-deferred basis, meaning taxes won’t apply to the increase.
This approach allows you to build a financial asset in addition to life insurance, all while contributing towards your premiums which improves the overall financial security and retirement funds for the individual.
Step 3. Cash value grows tax-deferred over time
Based on the policy adopted, the cash value of a life insurance policy grows for instance in whorl life policies ‘whole life provides unchanging and guaranteed growth’ while IUL’s and VUL’s offer stock market index cash based growth. This also provides the chance for growth but has certain risks that come with it.
An advantage of cash value growth is that you don’t pay income taxes on the funds as long as they stay in the policy. This tax-deferred growth helps your cash value accumulate faster than savings accounts or investments that face annual taxation.
Step 4. Withdraw or borrow from cash value in retirement
A life insurance retirement plan permits policyholders to tap into the cash value of their insurance policy during retirement, which is a notable benefit. You can either withdraw cash or use them as collateral for a policy loan.
- Withdrawals: You have the option of withdrawing cash from your policy retirement account. Assuming that the growth rate of the policy exceeds the premiums paid by some income taxes on withdrawing cash, it is possible to make tax free withdrawals from the account till the bookkeeping hurdles are passed.
- Loans: Policy loans maintain their classification as tax free caps on repayment and require no particular repayment schedule. While policy loans are in the taxable post estate realm, non repayment with unpaid loan portions and their interest does diminish the death benefit.
Life insurance retirement plans are advantageous in several ways but the primary benefit is the availability of access to funds without incurring a tax liability.
Step 5. Policy still provides death benefit for beneficiaries
You are able to withdraw from the cash value of your policy, and the life insurance part of it continues to protect you. So, if you die, the amount that is set to be paid will still be given to your beneficiaries like it was when you bought it.
The death benefit serves as an inheritance for your loved ones, providing financial support after you’re gone. This ensures that while you are working on your finances, the money policy protects valued family members far into the future.
Types of Life Insurance Used for Retirement Planning
While examining a Life Insurance Retirement Plan (LIRP), it is important to learn about the various forms of permanent life insurance policies offered in the market. Each one has its unique benefits and characteristics and will depend on your specific financial objectives, how much risk you are willing to take, and what your retirement plans look like. Here’s a summary of the four primary forms of life insurance used during retirement planning:
Whole Life Insurance
Whole life insurance is the oldest and most traditional form of permanent life insurance. It offers a guaranteed death benefit and the policyholder receives a cash value which grows over time, at a fixed rate, depending on the insurance company. The policyholder pays premiums for the whole duration of the policy’s life, wherein tax-free death benefit will be disbursed to the heirs and dependents after the death of the policyholder.
Key Features:
- Guaranteed cash value growth at a fixed rate.
- The entire life premiums insurance policy will remain constant (level) throughout the life of the policy.
- The coverage is permanent for the insured’s entire lifetime.
Indexed Universal Life (IUL)
Indexed Universal Life (IUL) insurance is a type of flexible permanent life insurance policy where the cash value increases according to the performance of a particular market index such as (the S&P 500). The policy offers a balance between growth potential and downside protection since the cash value is usually capped at a certain level of percentage.
Key Features:
- Opportunity to earn greater returns based on the performance of a market index.
- Amounts of death benefit and premium payments are adjustable.
- A set minimum interest rate protects against losses from the market decline.
Variable Universal Life (VUL)
While Variable Universal Life (VUL) offers flexibility just like IUL, it differs in that the cash value is allocated to a fund containing several different types of securities including stocks and bonds. The potential for greater returns also exists, but there are additional risks in comparison to IUL policies.
Key Features:
- Significant potential for appreciation by investing in stocks, bonds, and mutual funds.
- Adjustable premium payments and death benefit amounts.
- Risk of investment lies with the policyholder without minimum growth guarantee.
Guaranteed Universal Life (GUL)
Compared to the other permanent life policies, Guaranteed Universal Life (GUL) offers lower premium rates while providing an insured permanent life coverage. Cash value accumulation is guaranteed, but very low or zero is achievable.
Key Features:
- Low rates for permanent coverage.
- Cash value growth is negligible or non-existent, but a death benefit is assured.
- Lacks investment components, classifying it as pure life insurance.
Benefits of a LIRP
A Life Insurance Retirement Plan (LIRP) is appealing to many individuals who wish to safeguard their retirement funds and provide for their dependents because it comes with a variety of features. Here are some of the primary benefits of using life insurance as a retirement plan.
Tax-Free Growth & Withdrawals (via policy loans)
An important benefit of LIRP policies is the accumulation of cash value which grows tax-deferred. In addition, borrowing against the cash value of the policy is usually tax-exempt. This allows for easier retirement savings since you can access your funds without triggering income taxes.
No Contribution Limits (unlike 401(k) or IRA)
Similar to traditional retirement accounts, there are no set contribution limits with a LIRP. This feature more than benefit allows higher income earners and business owners to take advantage effortlessly in a tax-benefitted way without the limits imposed on 401(k)s and IRAs.
Protection Against Market Losses (for IUL & whole life policies)
Policies such as Indexed Universal Life (IUL) or Whole Life enable you to enjoy growth potential without the risk of losing money during market downturns. This means there is no loss when the market declines, which significantly benefits LIRP policies over stock or mutual Fund investments.
Death Benefit for Beneficiaries (unlike traditional retirement accounts)
One of the primary advantages of a LIRP is that, unlike a regular retirement account such as a 401(k) or an IRA which has no provision for death benefit, it provides a death benefit to the beneficiaries. The combination of retirement and life insurance ensures that your family will not suffer financially in your absence.
Access to Funds Before 59½ (No IRS penalty)
Unlike 401(k)s or IRAs that charge a fee for withdrawing funds prior to the age of 59 ½, LIRP policies can withdraw the cash value from the accounts at any age without incurring IRS tax penalties which is a valuable asset to individuals seeking access to retirement accounts at an earlier age.
Life Insurance vs. 401(k) & IRA: Which Is Better?
During the journey of saving for retirement, individuals frequently face a dilemma regarding the purchase of life insurance versus using more conventional options like a 401(k) or an IRA. While both sides have their advantages and disadvantages. Sometimes understanding the distinguishing features helps fit the criteria to reach the right commitment.
Tax Advantages
- Life Insurance: The profit made from a loan secured through a life insurance policy is generally non-taxable. Additionally, there is no tax on the accumulation of the policy meaning that the funds can strengthen in value without being taxed immediately.
- 401(k) & IRA: Unlike most retirement savings plans, contributions to a 401(k)s and IRAs can be withdrawn tax-free during retirement. However, the same is not true when subtracting funds during retirement as taxes will be incurred.
Growth Potential
| Investment Type | Growth Potential |
| Life Insurance | Moderate Returns |
| 401(k) | Stock Market Returns |
- Life Insurance: Policies such as IUL and VUL have a cash value investment that grows steadily with a cap along with being life insurance policies.
- 401(k): 401(k) accounts, in contrast, provide access to the stock market and are therefore much more volatile and risky but when compared to the other options, offer better returns.
Contribution Limits
| Account Type | Contribution Limits |
| Life Insurance | No Contribution Limits |
| 401(k) & IRA | Set Contribution Limits |
- Life Insurance: One of the main benefits of a LIRP is that there’s no limit to the contributions you can make which means high earners can optimize retirement savings by utilizing this vehicle.
- 401(k) & IRA: Both IRAs and 401(k)s set limits on the contributions that an individual can make per year, and thus, set restrictions on also how much money is added yearly.
Withdrawal Flexibility
| Account Type | Withdrawal Flexibility |
| Life Insurance | No Age Restrictions |
| 401(k) & IRA | Age 59½+ Withdrawal Restrictions |
- Life Insurance: Since no age limits are enforced on the cash value of a life insurance policy. It becomes an easier option for anyone who was planning to retire earlier than 59½ years.
- 401(k) & IRA: Withdrawals from a 401k or IRA are subject to a 10% penalty for withdrawing prior to reaching 59½ years of age which makes them a lot less flexible.
Who Should Consider a Life Insurance Retirement Plan?
LIRPs provide life insurance as well as a retirement savings account and this approach suits some individuals or groups but not others. A Life Insurance Retirement Plan (LIRP) can be a powerful tool for retirement planning but it’s not for everyone. Here’s who should consider a life insurance retirement plan.
High-income earners maxing out traditional retirement accounts
After a certain income level, people begin to face constraints on adding funds to their 401(k)s or IRAs. LIRPs offer these individuals a way to continue saving while having Life Insurance. Since there are no yearly LIRP contribution restrictions. These accounts can be an efficient means of long term saving.
Business owners & self-employed individuals
A LIRP functions as both a retirement saving account and a Life Insurance policy which makes it especially useful for business owners and self-employed individuals. Compared to other retirement plans, which have a major set of rules for self-employed persons, a LIRP enables more freedom alongside better tax benefits.
Those looking for tax-free retirement income
A life insurance retirement plan provides a way to withdraw funds tax free through policy loans in retirement, as a withdrawal can be very helpful for someone trying to minimize their taxes in retirement. If tax-free income during retirement sounds appealing, then a LIRP may be suitable for you.
People wanting permanent life insurance protection alongside retirement savings
Business owners, self-employed individuals, and executives often seek permanent life insurance coupled with a savings vehicle in one strategy. People who want to achieve financial security and at the same time. Have a retirement fund often look for a dual-purpose solution. And a LIRP fits the bill as it offers considerable permanent life insurance coverage alongside wealth-building through its cash value.
How to Set Up a LIRP
Setting up a Life Insurance Retirement Plan (LIRP) starts with integrating a suitable policy and working with professionals to assess the policy regularly and ensuring that it aligns with your retirement vision. So here’s how to set up a LIRP.
Choose the right policy
The most critical step setting up a LIRP is for one to select the most suitable life insurance policy. To pick the most appropriate policy, you can find a comparison table of the most used life insurance policies in regard with retirement planning below.
| Policy Type | Key Benefits | Best For |
| Whole Life Insurance | Permanent coverage, fixed premiums, guaranteed cash value growth | Those looking for stability and guaranteed growth |
| Indexed Universal Life (IUL) | Flexible premiums, potential for higher returns tied to stock indices | Those looking for growth potential with flexibility |
| Variable Universal Life (VUL) | Investment flexibility with various sub-accounts, potential for high returns | Investors who are comfortable with risk and want to grow their policy’s cash value |
| Guaranteed Universal Life (GUL) | Lower premiums, permanent death benefit, no cash value growth | Those who need affordable life insurance with a focus on the death benefit |
Work with a financial advisor
A professional will assist you in determining the amount of coverage necessary. The payment schedule for premiums, and methods to strategically position the policy towards retirement savings. It’s essential to engage with a financial consultant while creating a life insurance policy retirement plan as they will ensure that the framework designed meticulously caters to the clients’ retirement objectives.
Optimize premium payments
Having the right insurance policy also means these policies should allow withdrawals upon reaching retirement age, thus having an increased cash value. To meet these objectives, one should focus on optimizing premium payments. This strategy, alongside properly balancing payments and value growth, will ensure maximized benefits from the policy. Although the primary focus is life insurance, the policy should also include an increase in funding for cash value.
Monitor and Adjust the policy over time
Significant changes, ranging from your personal circumstances to custom necessities, are bound to occur in the course. Routine reviews of the plan help in adjusting it according to changes in cash flow requirements, policy investments, and even updating designated beneficiaries, all of which help in meeting clients’ aspirations. It’s wise to periodically revise the LIRP and implement suitable changes to stay aligned with the client’s retirement goals.
Further reading:
FAQs
Can you use life insurance as a retirement plan?
Of course, you can use life insurance to enhance traditional retirement savings options by supplementing retirement accounts. It offers life insurance benefits while also allowing for the accumulation of cash value that you can access, usually without taxes through loans, during retirement.
What is the cash value of a $10,000 whole life insurance policy?
The factors determining the cash value of a whole life insurance policy worth $10,000 include the insurance company. The policy’s stipulations, the policyholder’s age, payments, and whether or not dividends will be included. Typically:
- In the first few years of the policy, cash value will grow slowly as a part of the premium payment is used for servicing expenses (administrative costs) and the cost of completing coverage.
- For the policies that are participating, around 10 to 20 years. Cash value will grow significantly with the aid of compounding interest and boosted dividends (if applicable) for non-participating policies.
- It can be accessed, over time through loans against the policy, withdrawals. Or complete surrender, but must be noted, these have the potential to reduce the death benefit.
Contacting the insurance provider or checking the policy illustration can give policyholders estimates.
Is it better to have 401k or life insurance?
Choosing between a 401(k) retirement plan and life insurance differs depending on one’s financial goals:
- A 401(k) plan is meant for retirement savings due to its tax benefits, potential employer-matching, and appreciation in the value over time. It is best understood as an investment vehicle designed to accumulate wealth over time.
- Life insurance (particularly whole life or indexed universal life) is a policy taken out mostly for financial protection or estate planning. Sometimes serving as an investment for wealth accumulation via cash value growth.
Which one Is better?
- If the goal is to save money for retirement, a 401(k) is generally the better option since it offers greater potential returns.
- For those who require family financial protection, legacy planning, or a method for tax-advantaged income transfer. A permanent life insurance policy might be an appealing policy to consider.
- Along with a 401(k) or IRA, some high-net-worth individuals use cash value life insurance as a secondary saving option because it is a tax-efficient saving tool.
For most people, striking an ideal balance is combining both: life insurance as a protective measure and a 401(k) for retirement.
Is a LIRP worth it?
Those looking to save for retirement while also wanting life insurance coverage may consider a LIRP as a worthwhile choice. A LIRP is not for everyone as those with considerable retirement goals may wish to opt for aggressive investment strategies.
Conclusion: Is a Life Insurance Retirement Plan Right for You?
A Life Insurance Retirement Plan or LIRP combines insurance and wealth in one package. But requires consulting a professional before committing. It works best for individuals looking for terms like: income during retirement without tax, flexibility. And life insurance coverage within a single plan. Always confirm with a financial advisor if a LIRP will fit into your financial plan before moving forward.
With the right guidance, one can build a tailored retirement plan that meets your specific requirements, ensuring an optimal financial outcome.
