In mountain climbing, success is not simply about making it to the top. It includes coming back down the mountain. Likewise, retirement planning should not focus solely on accumulation.
The focus should be on providing sufficient net income for the client and his loved ones when he is no longer working. Rather than measuring a client's retirement preparedness by the amount he has saved, you may want to measure how much net income is available to meet his needs -- and this may include providing for his family in the event that he dies before reaching retirement age.
The trouble with accumulation-focused retirement plans
Most of today's retirement planning is accumulation-focused: the goal is to reach a targeted amount of savings prior to reaching retirement age. Accumulation-focused plans can be either qualified retirement plans or nonqualified retirement plans. While there are different requirements and limitations for the various plan types, both qualified and nonqualified retirement plans share similar planning obstacles.
Obstacle #1: Protection in the event of an early death
Retirement planning is not only about the individual; it is also about those loved ones who rely on him for support. In this sense, retirement planning is an extension of income planning -- you work both to provide for your loved ones now and to provide for them when you are no longer working. While planning tends to focus on the event of retirement (the voluntary end to working), a plan will be incomplete if it does not provide for loved ones in the event of an early death.
How to take a distribution-focused approach
An alternative to the accumulation focus of qualified and nonqualified retirement plans is to consider using a cash-value life insurance policy to potentially increase retirement security. This strategy uses after-tax funds to purchase a life insurance policy, which can be used both for death benefit protection and as a potential source of retirement income.1
Using life insurance as part of a retirement plan has the potential to overcome the obstacles associated with accumulation-focused retirement planning. Life insurance can provide a benefit for a client's family in the event he dies before reaching retirement.2 Distributions from a life insurance policy's cash values may occur at any time prior to age 59 1/2 without a premature distribution penalty from the IRS.
Transitining to a distribution-focused plan
What can you do if the client is already participating in a qualified or nonqualified retirement plan and wants to transition to a distribution-focused plan?
Qualified retirement plans: If the client currently participates in a qualified retirement plan, such as a 401(k) or an IRA, you have three options. One option is to freeze his contributions and instead start making premium payments to a cash-value life insurance policy. A second option is to continue making just enough contributions to get the maximum matching contribution available from the employer.
David Houston is an advanced marketing consultant with ING's Insurance Sales Support team. He has experience in estate and business planning, life insurance sales and non-qualified employee benefits. David started his career in private practice with a small Minneapolis law firm and has since worked as an advanced marketing attorney with several major life insurance companies and for a major vendor of bank-owned life insurance (BOLI). He can be reached at (612) 372-5520 or email@example.com.
1. A portion of the policy's surrender value may be available as a source of supplemental retirement income through policy loans and partial withdrawals. Policy loans and partial withdrawals may vary by state, reduce available surrender value and death benefit or cause the policy to lapse. Generally, policy loans and partial withdrawals will not be income taxable if there is a withdrawal to the cost basis (usually premiums paid), followed by policy loans (but only if the policy qualifies as life insurance, is not a modified endowment contract and is not lapsed or surrendered).
2. Proceeds from an insurance policy are generally income-tax free and, if properly structured, may also be free from estate tax.
3. Treas. Reg. 1-409A-3(f)
4. Treas. Reg. 1-409A-3(j)(4)(ix)(C)
5. The ING Life Companies and their agents and representatives do not give tax or legal advice. This information is general in nature and not comprehensive, the applicable laws change frequently, and the strategies suggested may not be suitable for everyone. You should seek advice from your tax and legal advisors regarding your individual situation.