As a parent or grandparent, the importance of planning your estate cannot be overstated. Ensuring your children and grandchildren receive as much of their inheritance as possible is a key concern. One significant aspect of this is reducing estate taxes, as the government collects taxes on your estate and charges probate fees. To minimize the money the government gets from your estate, it’s crucial to employ tax-efficient estate planning strategies.
You can pass tax-exempt assets like your Tax-Free Savings Account and equity in your principal residence to your beneficiaries without additional taxes. But how do you pass on wealth to your grandkids and protect assets that aren’t tax-exempt? One solution you should consider if you want to know how to reduce estate taxes is using life insurance for its tax advantages.
Wealth Transfer Using Permanent Life Insurance
When it comes to intergenerational wealth transfers, permanent life insurance can be a game-changer. These policies provide the liquidity needed to pay estate taxes and offer a lasting legacy, making them an ideal choice for wealth transfer.
Permanent Life Insurance
An effective way to implement a wealth transfer using life insurance is to get a permanent life insurance policy. These policies provide a permanent death benefit and give you control and flexibility in your financial planning.
There are three types of permanent life insurance. They are:
- Term 100.
- Universal Life Insurance.
- Whole Life Insurance.
Term 100
Term 100 is a life insurance policy that will pay a death benefit until you reach 100. You choose the insurance amount you want when setting up the policy. The premiums are guaranteed for life. There is no cash surrender value or investment component to Term 100 life insurance. However, there are no taxes or probate fees on the death benefit if you designate a beneficiary or beneficiaries.
Universal Life Insurance
Universal life insurance offers a flexible death benefit, flexible premiums and the opportunity to select the investments you want with the excess you contribute. Your premiums must meet the minimum to keep your policy in force. Your maximum premium cannot exceed the amount the Canada Revenue Agency sets to keep your policy tax-exempt.
The premium covers the insurance cost, administrative fees, and a savings component. The money you build up through premiums and investment returns is called a Cash Surrender Value (CSV). You can access that money by withdrawing it and paying applicable taxes, using it as collateral for a loan, or surrendering the policy.
Your universal life policy can be sole or joint. If it’s a joint-life policy, it can pay the death benefit either when the first or last person passes away.
Universal life insurance offers more flexibility than whole life.
Whole life insurance
A whole life insurance policy has a specified death benefit, and premiums are set for the policy term. You can pay off your policy in ten or twenty years and no longer have premiums. However, most people take a life term and make premium payments as long as the policy is in force.
Your policy will build CSV as you pay your premiums. The extra cash is usually invested in fixed-income products; any earnings are distributed to you in the policy. Many people use the distributions to buy additional insurance.
You can access the CSV in the same ways as a universal policy. Like a universal policy, your life insurance component can be sole or joint.
Wealth transfers using permanent life insurance
So, how can you, as a grandparent, use permanent life insurance to transfer your wealth to your grandkids? You can use this estate planning strategy to reduce taxes in several ways.
- You can have a policy that you own, insuring your life. That way, you control the policy. When you pass away, the beneficiaries receive the tax-free death benefit. When you control a policy, you choose who the beneficiaries are; you can change addresses, appoint a contingent owner or change the policy owner. You can insure your adult child’s life and have the grandchildren as beneficiaries. You control the policy until you pass away.
- You can appoint a contingent owner for the policy. They become the owner if you pass away. They may not be the insured or the beneficiary, but they can change the policy. A contingent owner can be helpful if the insured is too young or incapable of controlling the policy.
- Another option is to use a permanent life insurance policy to insure the life of your child or grandchild. This way, you can pay the premiums while you are alive and transfer the policy to them when they come of age. They can continue the payments, or you can keep making the payments. There are several advantages to doing this:
- You lock in premiums when they are younger
- You have a long time to build cash surrender value
- They’ll have a life insurance policy in place, so they don’t need to worry about qualifying for one at a later date
- They can use the cash surrender value to fund milestones such as a post-secondary education, wedding or home purchase.
A permanent life insurance policy can benefit your grandchildren in the present and the future. Using the life insurance proceeds to pay estate taxes will protect your estate. A tax-free death benefit allows your grandkids to receive a lump sum without paying taxes.
Having a life insurance policy with a cash surrender value they can use during their lifetime gives you the opportunity to leave them an ongoing legacy they can use throughout their lifetime.
Would You Like More Information?
If you are concerned about the impact estate taxes could have on your grandkid’s inheritance, we can help you create an estate plan to minimize your tax burden. Our advisors at MDL Financial Group are experts in estate planning strategies to reduce estate taxes. We have over 30 years of experience helping clients plan their financial futures. Call us at 613-416-9649 or online to book an appointment to learn more about how we can help you.
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