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What should you do with old life insurance policies?

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Just as your closet can accumulate a collection of old ties and handbags, you can accumulate a number of life insurance policies over time.

Perhaps you purchased a policy when you first got married, a second when you bought your first home and yet another after having children. Then, when your business no longer needed its buy-sell insurance, the policy was transferred to your ownership. And let’s not forget the policy that you bought from cousin Vinny when he was in the insurance business for six months.

At this point, though, the mortgage and college tuition bills have been paid off and you’ve built up enough assets to retire comfortably–It now makes perfect sense to evaluate your policies to determine if they still satisfy a need.

The purpose of life insurance is to pay for an obligation that would burden your family if you were to die. Certainly, if you still have debts or insufficient retirement funds, there may be a need to maintain some level of insurance. However, for most people at retirement, that life insurance can be repurposed to pay for estate taxes or to make bequests.

Once your estate exceeds $5.45 million, or a sum twice that if you are married, the federal estate tax rate is 40 percent of the excess. Many state inheritance tax rates can create significant additional costs: While Pennsylvania’s rates are not among the highest, our home state still has inheritance tax rates of 4 percent to direct lineal decedents, and 15 percent to all others.

Just as your closet can accumulate a collection of old ties and handbags, you can accumulate a number of life insurance policies over time.

So, if you want to leave a friend $100,000, for example, it is more efficient to bequeath $100,000 through an insurance policy held in an irrevocable trust, thereby avoiding the federal and state estate taxes.

To evaluate your situation, you should request current statuses and “in-force” illustrations for all your policies. The status will list important items, including the costs and types of coverage; the Paid-To-Date; and the owner and beneficiary designations. Many people are shocked to learn just how outdated their beneficiary designations are. The “in-force” illustrations can project what will happen if you keep paying the scheduled premium or if you stop paying it altogether.

We encounter numerous vagaries when analyzing how policies have performed over time. Many were sold when interest rates were much higher. So, an old universal life policy that originally credited 8 percent interest annually may have since had its crediting rates reduced by more than half. Such a dramatic decrease can cause it to collapse without a substantial premium increase.

On the other hand, an old whole-life policy may provide a great return relative to current products as a result of favorable guaranteed minimum cash-value rates, and consistent, albeit nonguaranteed, dividends.

There are no hard-and-fast rules on what to do with each policy. For example, if one policy was a 20-year-term policy that is now nearing the term’s end, it may make sense to discontinue it. However, it may have a very valuable conversion feature, allowing you to convert it to a permanent policy in the same underwriting class as when you purchased it. If you recently underwent a triple bypass procedure, this move would be worth strong consideration.

Each policy requires its own periodic in-depth analysis: You shouldn’t just fall into the habit of blindly paying your life insurance premiums in perpetuity. Not to mention that an evaluation of your policies will make it much easier to position them to achieve your estate goals, versus having your executors sort it out.

This article was originally published in the August/September 2016 issue of Worth.

Risk & Insurance

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