There are questions surrounding survivorship life insurance. Life insurance is a big deal in any household. Without it, you’d have to worry about your loved ones. There are many options to choose from when it comes to buying life insurance. Our experts answer some questions revolving around this topic.
Question – What is the difference between survivorship life and joint life insurance?
Answer – Timing! SL and joint life are at opposite ends of the spectrum. SL is last-to-die insurance and joint life is first-to-die insurance. They are designed to satisfy entirely different estate and financial planning needs. SL provides cash to meet the costs resulting from the last death among the covered insureds and is typically used to provide estate liquidity. Joint life provides cash to meet the costs resulting when the first of the covered insureds dies and is more frequently used in business applications, such as to fund buy-sell agreements.
Question – Should single life insurance be considered as an adjunct to survivorship life?
Answer – Survivorship life, although a useful tool, is not a panacea for all estate planning needs. In many cases complicating factors may make survivorship life alone an insufficient tool to meet estate liquidity needs and asset transfer objectives. Single life insurance is often needed when use of the maximum marital deduction is inconsistent with wealth transfer objectives. For instance, if a significant estate tax liability is anticipated at the first death, it is obviously important to continue to hold individual insurance on the life of each spouse. If one anticipates first death costs to be minor, the cash surrender value on the SL policy may be available to provide liquidity to the surviving spouse to handle these costs. In many SL plans, the cash surrender value under the SL policy increases dramatically at the death of the first spouse. This substantial cash surrender value may alleviate any liquidity problems caused by first death costs.
Advisers also may recommend single life insurance in other circumstances. For example, in some cases one spouse wishes to provide for children from a prior marriage at his or her death without having to wait until the subsequent death of the spouse. In these cases amounts transferred outright to children are included in the deceased’s estate. Single life insurance can provide the necessary cash to pay estate taxes without the need to liquidate estate assets, thus preserving the assets for the children.
Advisers also may suggest keeping assets with substantial appreciation potential out of the surviving spouse’s estate. In such cases, one could use life insurance on the first-to-die (payable to an irrevocable trust or a family partnership) to purchase the assets. Under current law, the income tax on any unrealized gain at the time of the first death is avoided because the assets receive a step-up in basis. If, as is commonly the case, the insurance proceeds are invested to provide income for the surviving spouse and the appreciation potential of the assets is substantially greater than any accumulated income on the insurance proceeds, the differential in value avoids estate taxation at the second death.
Question – Would not individual policies on each spouse meet their estate planning needs as well as a SL policy?
Answer – Individual policies on the life of each spouse certainly would provide benefits to fund the costs of the death of either spouse. However, if the objective is to provide for the costs of the second death, the SL policy is substantially more cost-effective. As described earlier, the addition of a second life in a Survivorship Life policy dramatically reduces the cost for a given level of coverage.
In cases where the objective of the estate plan is to defer most or all of the potential estate tax liability to the time of the second death, the use of single life policies on each spouse will provide benefits at the first death, which is earlier than needed. If the deceased has any incidents of ownership in the policy, these benefits will be included in his or her estate and generally added to the assets included in the estate of the surviving spouse. Although these benefits will provide liquidity for the costs of settling the second estate, they unnecessarily increase the tax base of that estate. It is easy to demonstrate that SL is the most cost-effective method to provide life insurance benefits to handle the liquidity needs caused by the second death of two spouses.
Question – Why not simply insure the spouse with the longest life expectancy (generally the younger spouse)?
Answer – In some instances, one spouse is much younger than the other. Under these circumstances, the younger spouse is quite likely to be the last-to-die. A single life policy on the younger spouse would provide the necessary liquidity for the second death costs in most cases. This approach, however, has some inherent flaws. First, despite any differences that exist between the age and health of the two spouses, it is never a certainty that one particular spouse will die first. Most people underestimate the probability of the younger spouse predeceasing the older spouse. The probability remains quite significant even for sizable differences in ages.
For example, the probability that a forty-year-old will predecease a sixty-five-year-old is 12 percent, or more than one in ten, based on mortality factors in the IRS Table 2000CMT. If the older spouse should survive, the single life policy on the younger spouse will pay the benefits at an inappropriate time and further increase the settlement costs of the older spouse’s eventual estate. Also, as described earlier, an individual policy covering the younger spouse will be more costly than a SL policy covering both spouses. In all events, the addition of this life will cause a decrease in the required premium for a given face amount if all other factors are equal.
Question – But isn’t a single life policy on the younger spouse the only option if the older spouse has impaired health or is uninsurable?
Answer – No! Most insurers will issue Survivorship Life policies even if one of the insureds is highly rated or otherwise uninsurable. The insurance company is never at greater risk on a SL policy where one spouse is highly rated or otherwise uninsurable than they would be on a single life policy issued on the healthy insurable spouse. There is always some probability that the healthy spouse will die first, regardless of the severity of the second spouse’s health impairment. Although the premium for the SL policy may be almost as great as the premium for the single life policy on the healthy spouse, it will never be more.
Therefore, prospective insureds can obtain a SL policy that should always cost less than a single life policy and that will provide the necessary coverage for the surviving impaired-health spouse in the event the healthy spouse dies first. In other words, the single life policy will always provide less advantageous coverage for greater cost in these circumstances. A SL policy is an especially attractive plan of insurance in these cases.
Reproduced with permission. Copyright The National Underwriter Co. Division of ALM