Can Life Insurance Be an Asset?

Traditionally life insurance is seen as a mere safety net, however, it holds potential far beyond its primary role of providing security for your loved ones. In this blog, we’ll explore how certain types of life insurance policies can serve not only as a protective measure but also as a strategic component in your overall asset portfolio.

From offering tax benefits to contributing to long-term wealth accumulation and estate planning, life insurance can be a multifaceted tool in your financial toolkit. Whether you’re a young professional starting out, a business owner looking to secure your financial future, or someone planning for retirement, understanding the asset-like qualities of life insurance could open up new avenues for your financial strategy.

In this article:

• Life Insurance as More Than Just a Safety Net
• Case Study: Julia’s Journey with Life Insurance
• What is Life Insurance?
  • Types of Life Insurance: Term vs. Whole Life vs. Universal Life
• Life Insurance as an Investment Tool
• Comparing Life Insurance to Traditional Investment Assets
• Benefits of Including Life Insurance in Your Asset Portfolio
• Potential Downsides of Life Insurance as an Investment
• Frequently Asked Questions (FAQs) about Life Insurance as an Asset

Life Insurance as More Than Just a Safety Net

Traditionally, life insurance has been used primarily as a form of financial protection. It’s commonly understood as a safety net, designed to provide financial security to dependents in the event of the policyholder’s untimely death. This traditional view focuses on life insurance’s most fundamental function: to offer a lump sum, known as the death benefit, to beneficiaries, thereby helping to cover final expenses, pay off debts, and provide for any loss of income.

This protective aspect is undeniably crucial, especially for those with financial dependents. People often see life insurance as a moral responsibility, a way to ensure that their loved ones are not burdened financially in their absence. This perspective places life insurance in the category of risk management tools, akin to car or health insurance, which are primarily designed to mitigate specific financial risks.

Introducing the Concept of Life Insurance as an Asset

Over the years, the evolution of various life insurance products has broadened its functionality, making it not just a protective measure but also a potential asset. This aspect is often overlooked in standard discussions about financial planning.

To consider life insurance as an asset, one must look beyond term life insurance, which purely serves as a safety net, to other types like Whole Life and Universal Life insurance. These policies include an investment component, known as the cash value, which grows over time. 

This cash value offers several advantages that categorize life insurance as an asset:

1. Cash Accumulation: Unlike term life insurance, Whole Life and Universal Life policies allow part of your premiums to be invested, creating a cash value that grows over the policy’s lifetime. This cash value can be borrowed against or withdrawn, under certain conditions, providing financial flexibility.
2. Tax Benefits: The growth of cash value in a life insurance policy is often tax-deferred. Additionally, the death benefit paid to beneficiaries is generally tax-free. This makes life insurance an attractive component in tax planning strategies.
3. Estate Planning: For high-net-worth individuals, life insurance can be a tool for estate planning. It can provide liquidity to pay estate taxes, thereby preserving the value of the estate for the beneficiaries.
4. Retirement Planning: Some policies allow policyholders to supplement their retirement income by withdrawing or borrowing against the cash value.
5. Stable Growth: As an asset class, the cash value in a life insurance policy often provides a more stable return compared to more volatile investments like stocks.

While life insurance’s primary role as a safety net is well-established and crucial, its potential as an asset is an important consideration for a more holistic approach to financial planning. It offers a unique combination of protection and investment, making it a versatile tool in one’s financial portfolio. Understanding this dual nature can help individuals make more informed decisions about their life insurance purchases, tailoring them not just to their protection needs but also their long-term financial goals.

Case Study: Julia’s Journey with Life Insurance

Julia, a 37-year-old lawyer with two young children, made a strategic decision to purchase a Whole Life insurance policy. She acknowledged that the basic term life insurance provided by her employer might not adequately cover her family’s long-term financial requirements, particularly with considerations like her children’s future education expenses and the ongoing mortgage on their family home. The Whole Life policy offered a dual benefit: a reliable death benefit for immediate family security and a cash value component as a long-term investment. This cash value grew tax-deferred, gradually becoming a significant asset that supplemented Julia’s retirement funds, providing stability against market volatility. 

Ultimately, the policy not only served as a safety net during her working years but also as a vital part of her estate planning, ensuring a substantial tax-free inheritance for her children. Julia’s choice highlights the utility of life insurance, extending beyond immediate protection to become a cornerstone of her family’s financial strategy.

What is Life Insurance?

Life insurance is a financial contract between an individual and an insurance company, where the insurer agrees to pay a designated beneficiary a sum of money upon the death of the policyholder. In exchange, the policyholder agrees to pay regular premiums to the insurance company. The primary purpose of life insurance is to provide financial protection and security to the beneficiaries of the policyholder, ensuring they are not financially burdened in the event of the policyholder’s death.

This protection is especially crucial for individuals who have dependents relying on their income. Life insurance can help cover living expenses, pay off debts, fund children’s education, and even cover funeral costs. Essentially, it’s about peace of mind knowing that loved ones will have financial support during what would be an incredibly challenging time.

Types of Life Insurance: Term vs. Whole Life vs. Universal Life

Term Life Insurance: Term life insurance provides coverage for a specified period, or term (e.g., 10, 20, or 30 years). It’s purely a protection policy, with no savings or investment component.

• Benefits: Lower premiums compared to other types of life insurance, making it an affordable option for many people. It’s straightforward and easy to understand.
• Drawbacks: No cash value accumulation, and if the policyholder survives the term, the policy expires without any payout.

Whole Life Insurance: Whole life insurance offers coverage that lasts for the policyholder’s entire life, as long as premiums are paid. It includes an investment component, which is the cash value that grows over time.

• Benefits: Provides both a death benefit and a savings component. The cash value can be borrowed against or withdrawn, and it grows at a guaranteed rate.
• Drawbacks: Higher premiums compared to term life insurance. It’s more complex and might not be the best option for those primarily seeking affordable coverage.

Universal Life Insurance: Universal life insurance is a type of permanent life insurance with more flexibility than whole life insurance. Policyholders have the ability to adjust their premiums and death benefits.

• Benefits: Offers the flexibility to adjust premiums and coverage amounts. Includes a cash value component that can earn interest.
• Drawbacks: More complex in terms of premium payments and death benefit adjustments. The cost and the value can be affected by market conditions and interest rates.

Each type of life insurance serves different needs and financial objectives. Term life is often chosen for its simplicity and lower cost, providing protection for a specific period. Whole life and universal life are more suitable for those looking for lifelong coverage with an additional investment element, albeit at a higher cost. The choice depends on individual circumstances, financial goals, and the level of coverage required.

Life Insurance as an Investment Tool

Life insurance, particularly Whole Life and Universal Life policies, can be considered not only as a tool for protection but also as a vehicle for investment. Both these types of life insurance come with a savings component, known as the  cash value, that adds an investment dimension to the traditional insurance product.

1. Whole Life Insurance: This type of insurance provides a fixed death benefit and a cash value component. Premiums are typically level and do not change throughout the life of the policy. The cash value in a whole life policy grows at a guaranteed rate set by the insurance company. This growth is based on a portion of your premium payments and the insurer’s financial performance.
2. Universal Life Insurance: Universal life insurance offers more flexibility compared to whole life insurance. Policyholders have the option to adjust their premium payments and death benefits within certain limits. The cash value in universal life policies earns interest based on the current market or minimum interest rate, which can vary over time.

How Cash Value Accumulation Works

• Mechanism: In both Whole Life and Universal Life policies, a portion of each premium payment is allocated to the cash value account. Over time, this account grows, either at a guaranteed rate (in whole life insurance) or a market-dependent rate (in universal life insurance).
• Accessing Funds: Policyholders can access the cash value through loans or withdrawals, subject to the terms of the policy. This can provide financial flexibility for various needs, such as education expenses, emergency funds, or retirement income.
• Growth Over Time: The cash value component benefits from tax-deferred growth, meaning you don’t pay taxes on the interest, dividends, or capital gains as they accrue.

Tax Benefits Associated with Life Insurance

1. Tax-Deferred Growth: The cash value in a life insurance policy grows tax-deferred. This means that you don’t pay taxes on the interest or investment gains as long as they remain within the policy.
2. Tax-Free Death Benefit: The death benefit paid out to beneficiaries is generally tax-free. This can be a significant advantage for estate planning, as it provides a lump sum that can help cover estate taxes or other expenses without additional tax burden.
3. Tax-Efficient Access to Cash Value: Policyholders can often access the cash value through loans or partial withdrawals in a tax-advantaged manner. Loans against the policy’s cash value are typically tax-free, although they reduce the death benefit and can accrue interest. Withdrawals are also tax-free up to the amount of premiums paid.
4. Estate Tax Benefits: For high-net-worth individuals, life insurance can be structured to help manage estate taxes. Policies owned by an irrevocable life insurance trust, for instance, may not be considered part of the taxable estate.

Comparing Life Insurance to Traditional Investment Assets

When evaluating life insurance, especially policies with a cash value component, it’s vital to understand how they stack up against traditional investment assets like stocks, bonds, and real estate. Each asset class comes with its own risk and return profile, as well as liquidity considerations, making this comparison crucial for informed financial planning.

Stocks: Investing in stocks often offers higher potential returns but with greater risk, due to market volatility. Stocks can provide capital appreciation and dividends, but their value can fluctuate significantly over short periods. They are generally more liquid than life insurance, as they can be sold quickly in the public markets.

Bonds: Bonds are typically less risky than stocks but offer lower potential returns. They provide regular income through interest payments and are considered a more stable investment. However, their value can be impacted by interest rate changes and the creditworthiness of the issuer. Like stocks, bonds are relatively liquid, especially if they are traded on major markets.

Real Estate: Real estate investments can offer both income (through rents) and capital appreciation. While they can be less volatile than stocks, real estate investments require significant capital and have high transaction costs. Liquidity is a major consideration, as selling real estate can take time and is subject to market conditions.

Life Insurance (Whole and Universal Life): These policies provide a death benefit and a cash value component that grows over time, often with less risk than stocks and real estate. The return on the cash value is typically more stable but lower compared to stocks and real estate. Life insurance offers unique tax advantages, such as tax-deferred growth and a tax-free death benefit. However, it’s less liquid than stocks and bonds, as accessing the cash value usually involves policy loans or withdrawals, which can reduce the death benefit.

Benefits of Including Life Insurance in Your Asset Portfolio

Incorporating life insurance into an asset portfolio can yield significant benefits, touching upon long-term financial planning, estate management, and investment diversification. Each of these aspects plays a crucial role in crafting a comprehensive financial strategy.

Long-Term Financial Planning and Security: Life insurance, particularly permanent policies like Whole and Universal Life, contributes to long-term financial stability. Unlike other investment vehicles, life insurance provides a guaranteed death benefit, ensuring financial support for beneficiaries regardless of market conditions. For the policyholder, the cash value component acts as a financial buffer, growing tax-deferred over time. This can be a reliable source of funds later in life, potentially supplementing retirement income or serving as an emergency fund.

Estate Planning and Wealth Transfer Benefits: Life insurance excels in estate planning. The death benefit can be used to pay estate taxes, debts, or other expenses, ensuring that the policyholder’s assets are preserved for their intended heirs. This is particularly beneficial for larger estates where taxes can significantly erode the value passed on. Additionally, life insurance proceeds are generally paid out quickly and directly to beneficiaries, bypassing the often lengthy probate process. This provides immediate financial support to beneficiaries when it’s most needed.

Diversification and Its Advantages: Diversification is a cornerstone of sound financial planning. Including life insurance in an investment portfolio helps diversify risk. The cash value of life insurance policies is typically less susceptible to market fluctuations compared to stocks and bonds, providing a stabilizing effect on overall portfolio performance. This diversification can be especially valuable during market downturns, where more volatile investments might suffer.

Furthermore, for those concerned about the impact of inflation on their investments, certain types of life insurance policies offer options or riders that can address these concerns, either by increasing the death benefit or by linking cash value growth to inflation indices.

Potential Downsides of Life Insurance as an Investment

When considering life insurance, particularly Whole and Universal Life policies, as an investment tool, it’s crucial to be aware of certain potential downsides and critical considerations. These aspects revolve around cost comparisons with other investment vehicles, the structure of fees and premiums, and the impact of policy loans and withdrawals on the policy’s value and death benefits.

Cost Comparisons with Other Investment Vehicles:

• Life insurance policies with an investment component typically have higher premiums compared to term life insurance or straightforward investment vehicles like mutual funds or ETFs (Exchange-Traded Funds).
• The cost of these premiums must be weighed against the potential benefits, including the death benefit and tax-deferred cash value growth. It’s important to compare the expected returns of a life insurance policy against other investments, keeping in mind the risk profile and the time horizon of your investment strategy.

Understanding the Fees and Premiums:

• Whole and Universal Life insurance policies often come with complex fee structures. These can include administrative fees, mortality charges, and investment management fees, which can eat into the policy’s cash value, especially in the early years.
• Premiums for these policies are typically higher to cover both the insurance component and the investment portion. It’s important to fully understand how your premiums are allocated and how this allocation might change over time.

The Impact of Policy Loans and Withdrawals on Death Benefits:

• Policyholders can borrow against the cash value of their life insurance policy or make withdrawals, which can be seen as a benefit. However, these actions can significantly impact the policy.
• Loans and withdrawals reduce the cash value and the death benefit of the policy unless they are repaid. Interest on loans can also accumulate, further reducing the death benefit.
• If not carefully managed, policy loans and withdrawals can lead to a policy lapse, leaving the policyholder without coverage and potentially with a tax liability on the loan amount.

Frequently Asked Questions (FAQs) about Life Insurance as an Asset

Find a solution for what you’re looking for 

While life insurance policies offer unique benefits and can enhance your financial planning, they should be integrated thoughtfully alongside other retirement savings options, ensuring a balanced and robust strategy for your long-term financial security and peace of mind. At Protect Your Wealth, we work with and compare policies and quotes from the best life insurance companies in Canada to ensure the best solution for you and your needs. We provide expert life insurance solutions, including no medical life insurance, critical illness insurance, term life insurance, and permanent life insurance to build the best package to give you the protection you need. 

Contact Protect Your Wealth or call us at 1-877-654-6119 to talk to an advisor today! We’re proudly based out of Hamilton, and service clients anywhere in Ontario, British Columbia, and Alberta including areas such as Mississauga,  Edmonton, and Kamloops.