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Seek triple shelter in life insurance

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in Small Business Tax

Whoever says there are no more great tax shelters left hasn’t looked at life insurance lately.

Strategy: Acquire permanent life insurance on the family’s main breadwinner. If you’re already insured, consider adding extra coverage.

Not only can permanent life insurance provide proceeds that can sustain a family in its time of need, it’s a three-way tax winner. And the benefits will only be enhanced if scheduled tax rate increases are allowed to stand.

Here’s the whole story: Although there are many variations, the two main types of life insurance are “permanent” and “term.” With permanent insurance, like traditional “whole life,” your policy stays in force as long as you continue to pay the premiums. In the meantime, the policy builds up a cash value you can borrow against. Alternatively, you’re entitled to the accumulated cash value minus any applicable charges or fees if you surrender the policy. As long as you keep paying premiums (or the policy is fully paid up), your beneficiaries will receive the death benefit.

In contrast, there’s no cash value build-up with term insurance. You simply pay the premiums for a specified term. If you die during the term, a death benefit is paid out. Once the term expires, all bets are off, unless you choose to renew.

For purposes of this article, we’ll focus on permanent insurance. Permanent insurance still provides the following income tax breaks:

  1. No income tax is owed when you acquire the policy.
  2. No income tax is owed on the inside build-up of cash proceeds.
  3. No income tax is owed when the death benefit is paid.

Thus, life insurance is completely exempt from income tax. It’s a tax shelter trifecta that’s hard to beat.

The tax benefits of life insurance are currently even more attractive to high-income tax­payers. Barring any new legislation, tax rates are going up, effective for 2013. For starters, the tax brackets are adjusted upward, with a top tax rate of 39.6% replacing the top rate of 35%. Furthermore, the maximum tax rate of 15% for long-term capital gains jumps to 20%, while qualified dividends no longer benefit from preferential tax treatment. Finally, a new 3.8% Medicare surtax may apply to certain investment earnings.

When you stack it all up, the top effective income tax rate on some income is 43.4%—not counting any state income taxes!

Tip: With information readily available, you should be able to find a policy that fits your needs.

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{ 2 comments… read them below or add one }

patrick April 19, 2014 at 4:47 pm

The best company for this is Northwestern Mutual, consistently higher cash value return than any of it’s competitors, year in, year out.


Mat November 13, 2014 at 10:33 pm

Higher return, but less money coming out. You need to look to see what their loan rate is and whether or not they use indirect recognition on how their dividends pay when you pull money out. Following patrick’s choice of company, you’ll accumulate more money, but actually be able to spend less. Counter intuitive, I know, but true.


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