Last Updated: 10/10/2018
If you will be receiving a traditional pension when you retire, you may want to consider utilizing a pension maximization strategy to get the most from your retirement income.
Depending on your age and overall health, maximizing your pension with life insurance may save you thousands of dollars each year. This money can be used to get the most from your retirement while still providing your surviving spouse with the income they would need if you were no longer around.
In this article we’ll explain how you can use life insurance to maximize your pension benefits, also known as pension maximization. We’ll also show you how to choose the correct life insurance death benefit to compare to a spousal pension benefit.
Quick Article Guide:
- What Is Pension Maximization and How Does It Work?
- Which Pension Strategy Is the Best for Me?
- Real Example of Pension Maximization
- Overlooked Benefits that Pension Maximization Can Offer
- Which Type of Life Insurance Is Best For Pension Maximization?
- Shop Early. Here’s Why:
- The Term Life Advice Advantage
Most pension plans offer a single-life annuity (single-pay) option and a joint-life annuity (survivor benefit) option. A single-life annuity will provide a larger monthly payment, but it will only make payments to the pension earner. If the original pension earner passes away, the pension payments will stop.
A joint-life payout provides a reduced payment to the pension earner and their spouse. If the spouse outlives the pension earner, they will continue to collect payments from the pension until they pass away.
Most joint-life annuity pension plans offer a much smaller monthly payment than a single-life annuity pension. Pension maximization involves determining whether or not a life insurance policy can provide a comparable replacement income for your surviving spouse for less than the monthly reduction of selecting a joint-life annuity plan.
To help you determine if purchasing life insurance for pension maximization is the best option for your situation, we’ve created these 5 easy steps. Most pension plans will advise you of your pension options at least 6 to 12 months before your planned retirement date.
Step 1: Determine the monthly difference between your pension’s joint-life and single-life plan.
To calculate this number, subtract your pension’s monthly joint-life payment from the single-life payment.
As An Example:
Single-life pension = $2,550
Joint-life pension = $1,700
$2,500 (single-life) – $1,700 (joint-life) = $850 (monthly cost of joint-life plan)
Monthly cost of joint-life or survivorship pension plan = $850
Step 2: Determine the annual income your joint-life pension offers.
Multiply the joint-life pension your plan offers by 12 to determine the annual benefit your spouse would receive.
From the Example Above:
$1,700 (joint-life pension option) x 12 (number of months in the year) = $20,400
Annual Income Offered by the Joint-Life Pension (before taxes) = $20,400
Step 3: Determine the amount of money your spouse would stand to receive from your pension.
To calculate this number, subtract your spouse’s current age from 95 or 100 (depending on family longevity).
From the Example Above:
Spouse’s current age = 60
95 (life expectancy) – 60 (current age) = 35 years
Next, multiply this number by the annual income your spouse would receive from the joint-life pension plan.
35 (years) x $20,400 (annual income from joint-pension plan) = $714,000 (before taxes)
Lastly, multiply this number by 0.65 or 65% to account for income taxes.
$714,000 (joint-life pension before taxes) x 0.65 (income tax multiplier) = $464,100
Approximate joint-life pension benefit after taxes = $464,100
$464,100 is the amount of money you would need to replace for your spouse if you selected the single-pay pension plan and passed away the following day. (Remember, the death benefit from a life insurance policy is untaxed unless your estate is worth more than $11,200,000.)
Step 4: Determine the cost of a life insurance policy with a face amount that is equal to the amount of income you would need to replace for your spouse.
When purchasing life insurance for pension maximization, we recommend securing a policy with guaranteed rates and coverage until 90 or later depending on your family’s history of longevity.
Level Rates for $465,000 of Coverage to Age 90 or Later (62-Year-Old Male in Excellent Health)
|To Age...||Monthly Premium Cost|
*Displayed monthly rates are accurate as of 10/15/2018 and are provided for illustrative purposes only.
Step 5: Compare the cost of a life insurance policy to the cost of selecting the joint-life pension.
If the monthly cost of a life insurance policy is less than the amount you’d sacrifice each month by selecting the joint-life or survivor-life option to protect your spouse, we recommend maximizing your pension with a life insurance policy.
If the cost of the life insurance is higher, or if you’re uninsurable due to a serious health condition, we recommend choosing the reduced pension payout with the spousal or survivor-life benefit. In this example, selecting a $465,000 policy with level rates to age 95 would save approximately $224.18 per month, or $2,690 per year.
Last year, we worked with a man named Todd S. from Cleveland, Ohio. Todd was getting ready to retire after working for more than 25 years for a large corporation. Six months before Todd reached his retirement date, Todd’s company offered him his pension options:
Todd’s Pension Options:
A joint or survivor benefit for $1,609 per month, or a single-life annuity for $2,457 per month.
If Todd elected for the joint/survivorship benefit though his pension plan, his pension would have been reduced from $2,457 per month to $1,609, a difference of $848 per month.
Determining the Right Amount of Coverage:
When we worked with Todd last year, he was 63 and his wife, Helen, was 59. In Todd’s family, men typically live to their late 80’s. Todd’s wife and her family tend to enjoy greater longevity, and typically live into their early 90’s.
If Todd selects the single-life pension option and passes away, Helen would lose out on $1,609 a month, or $19,308 per year (before taxes) – money that she would have collected from the joint-life pension plan.
If Helen lives to age 95, and Todd dies tomorrow, the value that the joint-pension would have paid her is approximately $695,088 before taxes ($19,308 x 36 years), or about $451,800 after taxes.
Selecting the Best Option:
The annual cost of taking the spousal survivor benefit on Helen is $10,176 per year ($848 per month). For pension maximization to make sense for Todd and his wife, the cost of his life insurance needs to be less than $848 per month. Todd wants to make sure if he dies before Helen, she will have money to live on comparable to what she would have received had he chosen his employer’s joint/survivor pension option.
Todd determined that if he was able to purchase a $451,800 life insurance policy for less than $848 per month, Helen would be equally or better protected and they’d have more money to live on during their retirement years.
Determining Todd’s Rates:
After a risk assessment phone interview, we conservatively estimated that Todd would qualify for a “Preferred” rate, or the second best risk category due to his elevated cholesterol, blood pressure, and weight. The company providing best rates for his specific medical history and build was Protective Insurance, an A+ (Superior) rated insurer.
We walked Todd through the approval process, and we were able to get Todd’s policy approved at one rate class better than expected, “Preferred Best.” Based on Todd’s approved rates, he purchased a $450,000 death benefit with fixed rates until age 95, providing a buffer of more than 10 years past his life expectancy.
Todd’s cost for level coverage until age 95? Approximately $652.00 per month.
By using life insurance for pension maximization, Todd and Helen have an additional $196.00 each month ($848 – $652) or $2,352 each year to enjoy their retirement.
Todd and Helen have more peace of mind than if they’d chosen the joint-life pension option, and most importantly, more money to live on each month. In addition, the life insurance may also provide some additional benefits to Todd and Helen or their surviving family members.
- If Helen passes away before Todd, Todd can cancel his life insurance at any time with no penalties. He also has the option to change the beneficiary listed on his policy. In comparison, if you chose a reduced pension with a joint-life benefit, you can’t go back and change your election.
- If Helen outlives Todd, she will receive the death benefit from the life insurance policy upfront and untaxed. This allows her the options of reinvesting the money or paying off any outstanding debts with high interest rates.
- Helen will have complete control over the money left behind by Todd’s life insurance policy. This will allow her to leave any additional money behind to the family member(s) of her choice. Unlike a pension, a life insurance policy can create an inheritance for your loved ones.
- The longer Todd lives, the larger the surplus of replacement income the life insurance will provide to Helen. (Remember, the life insurance policy is designed to pay the full amount Helen would stand to gain from the pension if Todd passed away tomorrow.)
- Todd and Helen can reduce the amount of their life insurance policy in the future, if needed. This will allow them to save additional money each month on the cost of their life insurance coverage.
- With life insurance, you have the ability to receive the death benefit as a lump sum, or over time, similar to a pension or annuity. If you choose the “paid over time” option when you purchase your policy, some life insurance companies will further reduce the cost of your life insurance premiums.
To maximize your pension, you want to purchase an affordable life insurance policy that you won’t outlive. For most of our clients, the type of life insurance coverage that offers the best combination of “longevity” and lowest monthly cost is guaranteed universal life insurance.
A guaranteed universal life insurance policy, or “GUL” policy, does not require an additional investment to build a cash value. We never recommend purchasing an insurance policy that offers to build a cash value because these policies rarely perform as promised. In addition to their inflated cost, cash accumulating policies or non-guaranteed universal life insurance policies often carry expensive money management fees and penalties if you decide to cancel.
With guaranteed universal life insurance, you pay for the cost of your coverage only and your rates cannot increase over time. These policies work just like term life insurance but instead of guaranteeing your rates for a set number of years, GUL insurance offers guaranteed rates and coverage to a specific age. Most guaranteed universal life insurance policies offer level rates and coverage to age 90, 95, 100, 105, 110, or 121.
The longer your policy is guaranteed for, the higher the cost. To help you make the best decision, your agent will review your options before and after your application is approved, so you can choose which is best before starting your coverage. Some guaranteed universal life insurance policies also allow for a reduction of your death benefit/insurance premium if your needs for coverage change in the future.
To learn more about the guaranteed universal life insurance and view sample policy costs, please see our article, “What is Guaranteed Universal Life Insurance and How Does It Work?”
Most of our clients are surprised to learn that getting approved for a life insurance policy can take 6-8 weeks. In some cases, the amount of time needed to approve or “underwrite” your life insurance policy can be further delayed by your physicians, especially if they do not transmit your medical records in a timely basis.
Unfortunately, many people procrastinate and do not contact us until they have less than a month to choose a pension option. You want to be approved for life insurance before making a permanent decision about your pension. For this reason, we always recommend applying for life insurance coverage at least 3 months before your pension election deadline.
Once you reach age 50, your age is a big factor in the cost of life insurance. Most companies will consider you to be a year older if you are within 6 months of your next birthday, but some companies allow us to “backdate” your application to get you the best rate. By shopping early, we can help you lock in the coverage you need, at the best possible rate.
Once your policy is approved, you can change the amount of coverage you accept, decline the insurance, or make your first payment to start your policy. Life insurance companies typically allow you at least 30 days to accept your coverage and make a payment.
Term Life Advice is an owner-operated life insurance brokerage, and we’re licensed to sell life insurance throughout the United States. We offer our clients the best customer service in the industry, and more than 50 years of collective experience. Our years of experience allow us to provide pre-qualification underwriting right over the phone, saving you time and money.
Most importantly, our services are free, and we work with more than 60 top-rated life insurance companies. Having access to dozens of highly-rated companies allows us to match our clients with the most affordable coverage available. Most importantly, we only work with financially solid and reputable insurers that are “A” or better rated by AM Best.
Whether you’re looking to maximize your pension options or protect your family, we can help. Our life insurance specialists will put you on the right track to a secure retirement.
Give us a call today, toll-free at: 855-902-6494. In one short phone call, we’ll answer all your questions and compare rates from dozens of life insurance companies to find your best options. You can also request a free online life insurance quote below to instantly compare rates from dozens of insurers.