In every stage of life, there are different needs and there are often concerns about risk. One example being, “If I were to die, how will my family be able to cover our expenses, taxes, or debts?” Life Insurance is the most common vehicle utilized to address this risk. There are two types of Life Insurance: Permanent and Term. Term insurance is normally the appropriate option for the average individual as it is far less expensive in the early years versus that of Permanent insurance. You may have Term insurance to match up with the term of your mortgage, your anticipated date of retirement, or until children are out of school.
The downside of Term insurance is that when you renew it, the premium payments become much larger to the point where it becomes too expensive to maintain. It is at this point we often see Term insurance expire at no value. But what if there was value to the policy? This could allow you to donate the policy, receive a charitable tax receipt and give back to a worthy cause, whether that is a hospital, religious organization, alma mater, or any charity of your wishes.
A strategy being used increasingly often is to have that life insurance policy valued based on its Fair Market Value (FMV) and transfer the ownership to the charity. The insured receives a tax receipt equal to the FMV and the charity could convert the Term insurance to Permanent. Generally, on donation of a Term policy, there must be some form of health issue that did not exist at the time that the insurance was issued. This creates value of the policy for the tax receipt and it will fit the risk profile for the charity due to the reduced life expectancy.
Let us take an example of Joe Smith, a 60 year old teacher, who has recently been diagnosed with type 2 diabetes. He has a $1,000,000 convertible term 10 insurance coming up for renewal and is not looking to renew or convert it due to the spike in costs and the fact that he recently paid off his mortgage and his kids have completed University. He also has a close personal attachment to a local Children’s Hospital that took care of his daughter when she was born prematurely.
Joe speaks with his Financial Advisor about the best course of action and his advisor suggests having the policy valued to gift to the Hospital. Due to his age and health condition, the actuary was able to value the policy at a value of $100,000. The Hospital Foundation is also willing to pay the future premiums due to the internal rate of return being over 12%. In this case, Joe was able to get a significant tax receipt and paid it forward to the charity he wanted to give back to.
It is important to note that Permanent insurance also works well for charitable gifting. If the policy is paid up it is easier to donate as there are no future premium outlays from the charity and likely a higher FMV as well.
When we move from one phase in our life cycle to another, it is important to thoroughly revisit your overall plan before taking action. It is often quite easy to either cash in a policy or let it expire; but under further review there could be significant planning that is left on the table that could benefit a great cause while rewarding the donor with a significant tax deduction.
By Fraser Lang CLU, CFP, CHS, Senior Vice President, GBL Inc.
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