Life Insurance - Your Retirement Account's Best Defense

The single best, most cost-effective yet amazingly underutilized strategy for protecting retirement account balances, especially large ones, from being decimated by the highest levels of combined taxation is buying life insurance to offset the tax burden beneficiaries may face.

How Much Life Insurance Should You Have?

You should have enough to cover the taxes and other expenses that must be paid on your estate after you're gone. To do that you will need to know the balance in your account at the time of your death, which means you will have to project that balance. You cannot go by today's market or values - because if you have an IRA that's worth, say, $1 million right now and you are only 60 years old, that IRA could easily be worth $5 million or more over the long term given today's long life expectancies.

A good rule of thumb is to buy enough life insurance to cover at least 50 percent of the projected value of you estate at your death. That may seem like a lot of insurance to buy now, but as you and your account grow older and fatter, not only will purchasing more life insurance become an increasingly expensive proposition, but if your health deteriorates, you may become uninsurable.

A quick way to estimate the value of your IRA (without taking withdrawals or taxes into account) is to use the "rule of 72." This is a little math trick that shows how many times over the years your retirement account money will double at a given interest rate. Just divide 72 by an estimated average interest rate. For example, if you use a conservative interest rate of, say, 6 percent, that means your money will double ever 12 years (72/6 = 12). An 8 percent rate would double your money every 9 years (72/8 = 9), and so on.

Let's use the rule of 72 with some dollar figures, and say your IRA isn't a million but $300,000, and you're not 60 years old but 50 (with a life expectancy of 86).

Using an average 8 percent interest rate for the rest of your life, the value (straight growth excluding withdrawals or taxes) of your $300,000 IRA will double every nine years (72/8 = 9), so that by the time you reach 86, your $300,000 IRA will have doubled four times and be worth $4.8 million!

It is absolutely astounding what compound interest can do, especially in a tax-deferred account such as an IRA. That is why even people with modest retirement accounts need life insurance. Through the magic of compounding, even the smallest accounts can well exceed the estate tax exemption (currently $5.34 million) come inheritance time.

So, there you have the "Insure It" step. It really is amazing to see how powerfully a creative but simple life insurance plan can build tax-free wealth, isn't it? Can you imagine choosing tax confiscation of your retirement account when this alternative exists? And yet many hundred of thousands continue to do just that, even with professional advice.

But you're not going to be one of them, are you?

You've seen the light!$

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Source: The Retirement Savings Time Bomb...And How To Defuse It by Ed Slott