The conundrum of howto accumulate enough assetsto provide incomethroughout a potentiallylengthy retirement hastaken center stage in the Americanfinancial press recently, spurred by thetrend toward the closing of traditionaldefined-benefit pension plans. Goingforward, it appears that the majority ofAmerican workers—including highlycompensated professionals—are essentiallyon their own in making sure theydon't outlive their resources in theirretirement years. Fortunately, attractivesolutions are emerging and beingrefined that make it easier to fulfill thisoverarching financial goal.
One solution is the use of variableuniversal life insurance (VUL) as ameans of supplementing income inorder to maintain a certain standard ofliving in retirement. VUL policies havebeen refined in recent years by insurers,and are continually being offeredwith new features that increase theirappeal as an appropriate supplementalvehicle for high-income-earning individualsprimarily aged 35 to 55. Theproducts are especially relevant forthose who also have a death benefitneed to protect a dependent spouseand children by paying off a mortgage,repaying professional school studentloans, or providing funds to support ayoung family's needs.
For example, say a 45-year-old malewho has contributed the maximum toqualified retirement plans such as401(k)s and IRAs, but who realizesthat due to the contribution limits onthese vehicles, he will be unlikely toaccumulate enough assets to reach hisretirement income goal. By contributing$25,000 into a currently availableVUL policy every year for 20 years,and assuming an 8% rate of return,this investor would be able to obtain$84,149 of annual income starting atage 65 for 15 years. During the 20-year accumulation phase, the policy'scash value grows to $1.004 million,and during this period the insured mayaccess the policy cash value via loansor withdrawals, which in most casesmay be taken without paying incometax. Compared to qualified plans thatare subject to limits and which are fundedwith pretax dollars, VUL policies arefunded with aftertax dollars and generallyhave higher contribution limits, butpotential investors should double-checklimit amounts with their tax advisors.
Beginning in year 21 of the policy,when the insured may be in retirementand in a lower tax bracket, they maybegin to take potentially tax-free annualwithdrawals of $84,149. Unlike mostqualified plans, however, withdrawalsfrom insurance policies are not mandatoryand may occur at anytime. In qualifiedplans such as IRAs, which are subjectas well to early withdrawal penalties,mandatory distributions mustbegin at age 701/2. In addition, the VULpolicy would provide a sizable deathbenefit for the insured's heirs, with netassets at year 20, for example, of $1.35million. Insurance policy death benefitsare generally excludable from the incomeof the beneficiaries.
VUL fares well as a retirementincome vehicle in comparison withother options. Whereas an annuityalso may have tax-deferred growth,the income is taxed. Mutual funds aretaxed when the investment is made, onany annual investment gains and againon gains when the funds are withdrawn.Given their attributes, VULpolicies can be a useful tool for retirementplanning and usually should be atopic for discussion between highlycompensated professionals and theirfinancial advisors. Qualified plans areexcellent vehicles, and if funded properlycan contribute, on average, closeto 60% of a retiree's income needs.Clearly, highly compensated individualsoften have a need to supplementthat figure if they wish to maintain aretirement lifestyle commensurate withthe one they presently enjoy.
Naveed Irshad is vice president of lifeproduct management at John Hancock. Hedirects product design and development forthe company's comprehensive life insuranceproduct portfolio, which providesestate and business planning solutions for the high-net-worth,affluent, and emerging affluent markets. Hewelcomes questions or comments at 617-572-8501 firstname.lastname@example.org.