Investments vs. Insurance
A word of caution: Your decision should be based on your personal situation, these are general guidelines.
Investment growth inside a life insurance policy is slightly lower than equity based investments but they have significant advantages.
- Life insurance funds grow tax-free but within tax free limits.
- You can invest 100% of the savings/investment component of a life insurance policy in an index where the returns are based on the performance of a stock market index.
- The funds are “creditor proofed” if the policy is set up properly. Creditors can not get at the funds inside this life insurance policy, which is important for many business owners and others who are concerned about lawsuits.
- If the life insurance policy is set up properly, the entire investment account plus the face value of the insurance policy goes to the beneficiary tax-free on death of the insured. There are not even any Probate Fees. The same applies to a Whole Life Insurance policy but the cash value may or may not be in addition to the face value depending on the type of Whole Life Insurance policy
Tax Treatment: RRSP vs. Universal Life Insurance
Let’s examine a scenario where Mr. X at the time of his death had $100,000 as investment within a Universal Life Insurance Policy and in addition also had $100,000 in a standard mutual fund.
After his death entire investment account of $100,000 would pass to his nominated beneficiaries together with the face value of the policy with no taxes or probate fees. Payment could be issued within a few days of proof of death.
Whereas entire investment of $100,000 in mutual funds would be subjected to both income taxes as well probate fees and the funds may not be released until after the estate has gone through probate and has been settled.
Universal Life Insurance as a tool for Estate Planning
It is my experience that Universal Life Insurance policies are being used for estate planning as much as they are for meeting traditional insurance needs. There are numerous tax saving and estate planning strategies that utilize this type of life insurance.
It may be advantageous to stop contributing to an RRSP when you believe that you already have sufficient RRSP funds for retirement, and set up a Universal Life Insurance policy. It should be noted that consideration of whether this strategy would be of benefit and then when to start it, should be part of your retirement and estate planning process.
The face value of the life insurance policy can cover anticipated estate taxes and a savings component grows tax-free and will pass on to your beneficiaries without the probate fees and a potential 43% tax hit that the RRSP funds experience. You can still get at the money in the savings portion if it becomes necessary but in a significantly tax favored basis compared to withdrawing money from an RRSP. The downside is that you do not have the tax credit on your RRSP contribution but it still may make sense from an estate planning perspective.