Life Insurance

Life insurance is one of the best ways that estate-planning attorneys and financial planners have to ensure that an estate passes from owner to heir easily and without unnecessary tax burdens. Whether you estate is large or small, simple or complex, one of the best ways to protect it is to have the appropriate life insurance policy in place.

Even if you don't believe that your estate is large enough to benefit from the protection of a life insurance policy, at the very least your spouse and dependent children should be covered in the event of your death.

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Understanding Life Insurance and Taxes

First and foremost, always make sure your insurance policy has a properly named beneficiary. In order for the benefit to be paid to the beneficiary tax-free, he or she must be specifically named. In other words, do not name your estate as the beneficiary of any life insurance policy. If the estate is named as beneficiary, the death benefit will become a taxable part of the estate. The benefit will still be paid out free of income tax but will more than likely be subject to estate taxes.

How to use Life Insurance for Estate Planning

The main reason life insurance is so valuable as an estate-planning tool is because it pays a guaranteed lump sum amount that can be used as the beneficiary sees fit. This is especially important if the deceased's assets consist primarily of non-liquid assets like a house, property, or business. The death benefit paid on the insurance policy allows the beneficiary to pay taxes and other expenses without being forced to liquidate some or all of the assets at an inopportune time. For example, being forced to quickly liquidate property may require it to be sold well below its proper market value. Selling a business may necessitate employees be terminated, creditors not be paid, and other dire consequences. Even if expenses and taxes are covered, state and local property taxes will most certainly be due on any property within 12 months. The death benefit paid on a life insurance policy will allow the beneficiaries to liquidate assets at the time they see fit.

A Life Insurance Policy Helps Pass Your Estate in Full to Your Beneficiaries

Most of us want to see all of our personal assets passed on to our heirs intact. Whether it's our primary residence, a vacation home, or a portfolio of stocks, we want our heirs to receive as much as possible without the federal or state government taking a big chunk. However, the total value of an estate, which can include a house, land, cash, stocks, bonds, and all other assets, must be settled upon death as they pass from one owner to another. Settling an estate is about the transfer of ownership.

Settling the estate of the deceased includes taking inventory of all possessions, assessing the value of all assets, and most important, paying estate taxes based on the net worth of the entire estate. Depending on the size of the estate, federal and state taxes might reduce its total worth by a substantial amount. Federal and state law require beneficiaries to claim, and potentially pay tax on, everything they inherit. All valuable assets that are left to them will be subject to certain taxes.

Lessening the Blow of Estate Taxes with Life Insurance

To avoid having your estate significantly reduced by taxes, take steps to properly insure it. Buying a life insurance policy with a death benefit that is large enough to cover the amount of capital gains, estate, and inheritance taxes you expect your beneficiaries will owe will guarantee that they will not be forced to sell your assets or be left with a fraction of your estate. After all, part of the American dream is the ability to pass on what we've earned and built to our children and grandchildren.

Unless death occurs under suspicious circumstances, the death benefit from a life insurance policy is payable immediately and can be used by the beneficiary to pay immediate financial obligations. Life insurance policies designed specifically with estate planning in mind should cover all of the immediate expenses that your heirs will encounter upon your death. Final expenses like funeral and burial costs, professional fees for accountants and attorneys associated with settling the estate, property taxes, credit card debt, outstanding mortgages, and all other costs should be paid out of the death benefit. And if you die without a will, your estate will be subject to additional costs that will be assessed as it passes through probate. In order to avoid probate costs, and to make sure your assets are distributed according to your wishes, make sure you have a valid will or trust in place.

Using Whole Life Insurance Policies for Estate Planning

Whole life insurance is a type of permanent insurance that guarantees the entire transfer of an estate to heirs at any point. The death benefit from a term life insurance policy offers similar protection, but a term life policy can expire while the insured is still alive, which means his or her heirs will no longer be protected. Whole life insurance policies are available with a number of different investment and payout options that are suited for all types of estates. Whole life protects the insured for his or her "whole" life. As long as the premiums are paid according to the contract and the policy doesn't lapse, heirs will be protected.

The Irrevocable Life Insurance Trust

An irrevocable life insurance trust is a type of trust designed to avoid federal gross estate taxes. Rather than an individual owning the insurance policy, the irrevocable life insurance trust owns the life insurance policy. The life of the trust grantor is insured within the trust so that the death benefit proceeds are not subject to estate taxes. This is a more complex type of policy and should be set up with the help of a qualified life insurance agent.

Regardless of the type of insurance policy you choose, life insurance is an integral part of financial and estate planning. Ensuring that your beneficiaries will have enough to pay for your final expenses and any taxes your estate will be subject to will allow them to keep more of what you've worked so hard to earn.

While we've covered the basics of estate planning here, there is much more to implementing a solid estate plan. To make sure you're on the right track, contact a licensed financial advisor. It only takes a few minutes, Start Now.

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