If you own a life insurance policy with any type of cash value — a savings-like component that earns interest over time — you can use that cash value to supplement your retirement income. This is called a life insurance retirement plan (LIRP).
Using life insurance to fund retirement savings can be a good option, especially for high-net-worth individuals, but an LIRP is not the best retirement investment option for most people.
What is an LIRP?
A life insurance retirement plan (LIRP) is a permanent life insurance policy that uses the cash value that accumulates to help fund your retirement.
Any permanent life insurance policy with a cash value, such as whole life insurance, can help fund retirement. Term life insurance doesn’t have a cash value and cannot be used for an LIRP.
LIRPs mimic the tax benefits of a Roth IRA, meaning you don’t pay taxes on any withdrawals after you are 59½ years old and cash gains are tax-deferred.
What is the cash value of a life insurance policy?
Most whole life insurance policies come with a cash value account. If your policy has this feature, a certain percentage of the premiums you pay will be set aside in a special account that will accumulate interest. This is the cash value.
The exact amount that goes into savings is determined by your individual policy. Over time, your cash value account will grow.
Once your cash value reaches the threshold defined in your policy, you can access the money by withdrawing from it or taking out a loan against it. If you’re using your policy as an LIRP, the money can be used to provide tax-free income in retirement.
Keep in mind that if you withdraw from your cash value and die before paying it back, the amount you owe will be taken from that total amount you’ll be able to leave your beneficiaries when you die.
Who needs a life insurance retirement plan?
Most people won’t need life insurance at all by the time they retire. That’s because as you get older, your financial obligations — such as paying off a mortgage or supporting dependents — usually decrease and so does your need for life insurance.
But using a cash value policy to supplement retirement income can make sense for people with more complex financial needs, or people who know they’ll need life insurance coverage for the rest of their lives. These include:
High-net-worth individuals who have already maximized contributions to other retirement accounts and are seeking an additional vehicle for tax-deferred savings.
People with lifelong dependents, such as children with disabilities, who will still need life insurance coverage when they’re retired.
How much does it cost to invest in an LIRP?
The cost of your LIRP depends on how much you pay for your whole life insurance policy — a portion of what you pay in premiums goes toward investing in your LIRP and you can choose to add additional funds to that amount.
But whole life insurance rates are significantly higher than term life rates. For example, a 20-year term life insurance with a $500,000 coverage amount costs on average $26 per month for a 30-year-old. Meanwhile, a whole life insurance policy with the same coverage amount costs on average $451 per month for the same 30-year-old — 17 times more.
If you’re looking for an affordable way to buy life insurance and save for retirement, then buying a term life policy and investing the money you save from not buying a whole life policy makes more sense than funding an LIRP.
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Cost comparison: Term life & traditional investing vs. LIRP
Term & 401(k) | Term & Roth IRA | Permanent & LIRP | |
|---|---|---|---|
Monthly premiums | $24.67 | $24.67 | $571.00 |
Cost of retirement account | No minimum investment required | No minimum investment required, some brokers set a minimum initial investment | Cost of policy premiums |
Maximum investment per year | $22,500 (+$7,500 if older than 50) | $6,500 (below age 50); $7,500 (age 50 & up) | N/A |
Methodology: Sample rates are based on premiums for a 35-year-old male non-smoker in a Preferred Plus health class, applying for a $500,000, 20-year term life insurance policy and a $500,000 whole life insurance policy based on a composite of policies offered through Policygenius. Rates may vary by insurer, term, coverage amount, health class, and state. Not all policies are available in all states. Rate illustration valid as of 01/01/2024.
How can you use an LIRP to fund your retirement?
LIRPs can bolster your existing retirement savings accounts and fill in the gaps if there’s a stock market downturn.
If you maximize contributions to your traditional investment accounts, you can pay any extra funds into your cash value, creating an additional avenue for tax-deferred investment growth.
If you’re in a position where you have both traditional retirement accounts and an LIRP, having the option of which fund to choose from can help you save money.
1. Pay more than your required premium to fund your cash value
If you want to build up cash value to supplement retirement, you can overfund your policy by paying well over the required premium each month.
The extra money you pay will go into the policy’s cash value and grow tax-deferred. But there are extra considerations to keep in mind.
This strategy only works if you don’t need to make withdrawals before age 59½. And an overfunded cash value policy that exceeds the annual premium limit (set by the IRS) converts into a modified endowment contract (MEC) and is subject to additional taxes and penalties for withdrawals.
2. Use the cash value to supplement retirement
Many financial experts recommend the 4% rule, which is withdrawing no more than 4% of your savings in each year of your retirement.
When you own a cash value life insurance policy, you’ll have access to your policy’s cash value in addition to your retirement accounts.
Having the cash value will allow you to have more flexibility with your retirement spending. For example, after a down year in the stock market, you can withdraw money from your policy’s cash value instead of drawing down from your IRA, which will replenish your IRA savings.
3. Long-term care support
Getting a cash value policy with a long term care rider can ensure that for the rest of your life, you’ll have access to funds if you have a chronic or terminal illness. Riders are add-ons you can purchase to customize your policy.
This rider in particular provides an accelerated death benefit as you age, if you need to pay for a nursing home, or have other medical costs associated with aging.
Life insurance retirement plans vs. 401(k)s & IRAs
Regardless of which kind of life insurance policy you decide to buy, dedicated retirement accounts such as a 401(k) or an IRA should still be the primary way you fund your retirement.
Cash value life insurance has limited investment options and relatively low rates of return compared to dedicated retirement investment options.
A 401(k) is a retirement savings plan that employers offer to employees. Many employers also match a certain percentage of employees’ contributions to their 401(k)s.
An IRA is a retirement savings plan that you open and fund on your own. IRAs can be used alone or in addition to an employer-sponsored 401(k).
Tax comparison: LIRPs, traditional 401(k)s, and Roth IRAs
Policy details | LIRP (cash value life insurance) | Traditional 401(k) | Roth IRA |
|---|---|---|---|
Contribution limits | Varies by insurer | $22,500 (+$7,500 if older than 50) | $6,500 ($7,500 if older than 50) |
How you contribute | Premiums (after-tax dollars) | Pre-tax income | After-tax dollars with no tax deductions |
How your money grows | Tax-deferred | Tax-deferred | Tax-free |
(Penalty-free) withdrawal qualifications | 59½ years old and up and an account at least 15 years old | 59½ years old and up | 59½ years old and up and an account at least five years old |
Withdrawal taxes | Only if your withdrawal exceeds cash value base amount | Taxed as regular income | No income taxes |
Required minimum distributions | Varies by policy premiums | 70½ years old and up | None |
Capital gains tax | Yes | Yes | No |
Pros and cons of life insurance retirement plans
In some circumstances, a life insurance retirement plan can offer additional flexibility, but there are several reasons why relying on cash value life insurance for retirement isn’t recommended for most people.
Pros of LIRPs | Cons of LIRPs |
|---|---|
Guaranteed death benefit when you die | Expensive premiums that can be difficult to maintain long-term |
Penalty-free access to cash value (if borrowing and not withdrawing) | Additional fees for withdrawals depending on how long you've held the policy |
No contribution limits | Lower investment returns than a 401(k) or IRA |
Tax-deferred cash value | Cash value loans accrue interest until repayment (the loan plus interest is deducted from your death benefit when you die) |
Guaranteed minimum | Contributions are not tax-deductible |
Is whole life insurance a good investment for retirement?
While there’s no one-size-fits-all approach to saving for retirement, getting whole life insurance as part of an LIRP isn’t a good fit for most people.
Whole life insurance policies have high premiums compared to term life insurance and lower benefits compared to traditional 401(k)s or IRAs. But if you’re a high earner who contributes the maximum amount to your retirement each year, then an LIRP might be worth exploring.
The best alternative to an LIRP is buying a term life policy and maintaining a 401(k) or Roth IRA. Even if you regularly max out your retirement accounts, a standard post-tax investment account can deliver a higher return on your contributions.
And when you no longer need life insurance coverage, it’s simpler to drop term life coverage than it is to cancel a permanent policy.
