The 5 Roles Life Insurance Can Play in Retirement

Role #1: Cash-Value Withdrawal

Permanent life insurance plans (like whole life insurance) may include an interest-earning feature. You can withdraw cash or take out a loan from a whole life insurance policy. This provides retirees with options for taking care of their expenses without depleting another retirement fund.

If you’re withdrawing up to the amount you’ve already paid in premiums (known as the policy basis), the withdrawal may be tax-free. Any income you withdraw beyond the policy basis, however, is considered a gain and would be subject to income tax.

As you consider this option, remember that any withdrawals you make will reduce your death benefit. It’s typically best to only use this option when there is an emergency need for funds.

Role #2: Taking a Loan

You can borrow against the value of a whole life insurance policy if you’re in need of funds immediately. If you choose to take this route, you’re borrowing the money you’ve already paid into the plan.

Taking out a loan will incur interest, which will be added to the balance owed. The loan—plus interest—is then repaid from the death benefit, meaning you’ll be leaving your loved ones with less. It could lead to the more dangerous situation of not repaying the loan in a reasonable time, which could result in the loan balance exceeding the cash value, as in an underwater mortgage. If this is the case, the policy will lapse.

Role #3: Life Insurance Policy Riders and Retirement Plans

You can add a rider to your whole or term life insurance policy. A rider is a supplemental benefit that you pay extra for and is commonly referred to as an accelerated benefit. Riders may cover an unexpected expense or a specific type of death event. For example, a catastrophic illness rider will allow you to use the cash value to manage certain types of emergency medical expenses. It’s different from a liquidating cash value and will reduce the death benefit. In terms of retirement plans, riders (such as a catastrophic illness rider) can expire when the policyholder is over 65, depending on the insurer. Hence, riders may be more beneficial for early retirees.¹

Role #4: Tax Benefits in Retirement

Life insurance policies can shelter part of your retirement plan from being taxed by the federal government. If you have a cash-value plan, the IRS will not tax the growth annually, but will tax the income when you cash out. The taxable amount will be the difference between the total premiums paid and the cash out amount.²

The withdrawals from and loans against your policy will be tax-free. This includes the funds from accelerated benefits. It’s important to note that if you have a life insurance policy paid by your employer, anything above $50,000 is considered taxable income.³

Role #5: Safety Amid an Economic Downturn

Whole life insurance policies with cash value aren’t influenced by stock market fluctuations. If you have a diverse portfolio, a portion of your retirement savings may lose value during an economic downturn. When this is the case, you may need to rely on your cash-value assets while your stocks and other assets take time to recover their value.