Cash Value Life Insurance

Blackstone Group LP has been counseling its clients to use specially designed cash value life insurance to avoid paying taxes on investment gains. Life insurance has always had tremendous tax treatment. With new tax laws that were passed at the end of 2017, the tax benefits are potentially even more valuable. All growth and dividends compound tax-free (IRC Section 72). Basis can be withdrawn tax-free and gains can be withdrawn as tax-free loans (IRC 72 and 7702).

Finally, all death benefits are income-tax-free. Many tax advisers have been advising high-net-worth clients to take advantage of the preferential tax treatment afforded to life insurance. Blackstone’s subsidiary Lombard International estimated that their clients have placed more than $3 billion into cash value life insurance contracts over the past year.

These specially designed life insurance contracts can be used to invest in aggressive assets such as hedge funds or more traditional investments. Investors looking for less market risk in addition to tax-free growth and future tax-free income frequently use specially designed index universal life contracts. These insurance contracts earn interest based on the returns of a stock index like the S&P 500 subject to a cap of approximately 12 percent, but the contracts do not lose in the years the index is down. Additionally, all gains are typically locked in on an annual basis.

One of the biggest drawbacks of traditional cash value life insurance is that traditional policies have very significant insurance costs, which will reduce returns. However, if designed correctly, insurance costs can be minimized to about 1 percent per year, which is much less than the taxes would have been. Many companies are allowing the death benefit to be accessed tax-free in the event of the need for long-term care. Most importantly, a future tax-free retirement income could be even more valuable if tax rates rise in the future.