How to Use Life Insurance to Hedge Against Taxes

We often remind our clients that life insurance can provide much more than simple replacement income in the event that you pass away unexpectedly. Yes, this is perhaps the most common use of life insurance, but it certainly is not the only one. Life insurance can provide a creative solution to many other estate planning quandaries.

Last week, we discussed how a fictional couple could use life insurance to equalize inheritances among their children. This week, we’ll use another fictional example to illustrate how life insurance can protect your heirs from problems created by estate taxes.

Let’s imagine that Debra, a widow in her late sixties, owns a considerable amount of property that she inherited from her own parents. Her husband, meanwhile, passed away leaving her with a modest life insurance policy and Social Security spousal benefits. Debra is getting by okay, but she hardly has millions of dollars in the bank!

Meanwhile, that property she inherited from her parents has begun to appreciate in value. What was once rural farmland is now located in the middle of a rapidly developing suburban area. Debra knows that in a few more years or so, that property will probably be worth millions. She’s holding onto it, in hopes of selling it at the right time. Her retirement will become much more comfortable at that time, and she can leave a large inheritance to her two grown children, Janet and John.

However, Debra is concerned that if she passes away before she’s ready to sell that property, Janet and John could be forced to sell it in order to pay estate taxes on their inheritance. If the timing is wrong, or if Janet and John are under pressure, they might have to settle for a sale price that isn’t really ideal for them.

Debra meets with her insurance professional, who offers a creative solution: Debra can purchase a life insurance policy that is sufficient to cover the taxes due on her estate. This way, Janet and John can pay the IRS what they owe, and hold onto the inherited property until the most beneficial time to sell. This way, Debra knows she is leaving valuable property to her children, and that they can reap the most benefit possible from the inheritance.

For more information on using life insurance to hedge against estate taxes, give us a call. We can help you evaluate your situation and decide if this strategy might work for you.