As you navigate the financial planning landscape, this article guides you through the similarities between Roth IRAs and Whole Life Insurance, two essential tools in your retirement and wealth management arsenal. It illuminates how both options offer tax-advantaged growth, laying the groundwork for your secure financial future.
Traditional IRA vs Roth IRA
An IRA stands for an Individual Retirement Account. Most people know that both Traditional IRAs and Roth IRAs are tax-advantaged accounts for setting aside retirement savings. The problem is, to gain the tax benefits they offer, you must adhere to rules regarding how much you can contribute based on criteria such as your age and income, along with limitations on when you can access the money.
Traditional IRA:
A traditional ira allows you to fund your account with tax deferred income. You do not have to pay income tax on the money you put into your traditional ira account, but you money will be subject to income taxes when you withdraw it down the road.
Maximum yearly contribution for 2023 will be is $6,500 for an individual, $7,500 if you are over 50 years of age. (The IRA catchโup contribution limit for individuals aged 50 and over is not subject to an annual costโofโliving adjustment and remains $1,000. Source.)
If you also participate in an employer-sponsored retirement plan, and your income is over $74,000 for individual filers and $123,000 for joint filers, you are not allowed to deduct your contribution.
If you donโt participate in such a plan but your spouse does, and you file jointly, if your joint income is greater than $203,000 you are not allowed to deduct your contribution.
All withdrawals from traditional IRAs are taxed in the year they are taken.
Roth IRA:
A Roth Ira uses after tax dollars. The benefit is that all gains in the Roth Ira are income tax free and when you withdraw funds form a Roth Ira, those funds are income tax free.
Contributions to a Roth IRA for 2023 are also limited to $6,500 in any year for an individual, and $7,500 if you are above age 50.
For 2023, the adjusted gross income phase-out range for taxpayers making contributions to a Roth IRA is between $218,000 and $228,000 for married couples filing jointly, increased from between $204,000 and $214,000. For singles and heads of household, the income phase-out range is between $138,000 and $153,000, increased from between $129,000 and $144,000. Source: IRS.GOV.
Unlike traditional IRAs, contributions to a Roth are not tax deductible. However, all funds withdrawn from a Roth are income tax free.
Given the different treatment of withdrawals between the plans, Roth IRAs are typically favored by those who expect their retirement income to remain at a high level or even rise in retirement, while traditional IRAs are often more attractive to those who expect their retirement income to decline, putting them in a lower tax bracket.
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A Modern Approach To The Infinite Banking Concept
Roth IRA vs Whole life Insurance
| Whole Life Insurance | Roth IRA | |
|---|---|---|
| Pre-tax Contributions | No | No |
| Tax-advantaged Growth | Yes | Yes |
| Guaranteed minimum return | Yes | No |
| Subject to stock market risk | No | Yes |
| Tax-free access to funds | Yes | Yes |
| Death benefit protection | Yes | No |
| Annual maximum contribution limit | No | Yes |
| Required Minimum Distributions (RMDs) | No | No |
| IRS 10% early withdrawal penalty (under age 59 ยฝ) | No | Yes |
| Penalty-free access to funds for healthcare or long-term care needs | Yes | Maybe |
| Time limit on accessing distributions for beneficiaries upon death of the account holder | No | Yes (10 years) |
| Ability to borrow funds | Yes | Limited |
| Continued growth on the full account value - including funds that are "borrowed" | Yes | No |
Investors looking to put aside as much money as they can for retirement may want to take a look at using whole life insurance as a replacement for or in addition to a Roth IRA.
Given that the tax treatment of this type of life insurance is similar to that of Roth IRAs, it is worthwhile to perform a comparison of the two types of accounts.
7 Ways Whole Life Insurance Beats a ROTH IRA
Tax Deferred Growth
Funds in the cash account of a whole life policy grow tax deferred, similar to funds in a Roth, and can be withdrawn in the form of a policy loan or partial withdrawal tax free, as long as the amount withdrawn doesnโt exceed the total amount invested.
No Contribution Limits
Unlike a Roth, contributions to a whole life policy are not limited to a relatively modest amount. Instead, you can overfund whole life insurance to get the most out of the tax incentives it provides.
Death Benefit
Also unique to whole life insurance is the inclusion of a death benefit that can increase over time and that is received free of taxes by your beneficiary or beneficiaries.
If you are funding a roth ira and pass away, your account balance is the total amount that would be passed to your beneficiary. In contrast, once you begin a whole life insurance policy you have a leveraged death benefit many multiples higher than your premium payments, particularly in the early years.
Guarantees
Whole life insurance offers a guaranteed growth rate in a policyโs cash account. It also offers guaranteed fixed premiums and a guaranteed death benefit. A roth ira offers no such guarantees and your capital is at the risk of the market.
Dividends
Participating whole life insurance also offers you the opportunity to receive dividends on your policy, and while these arenโt guaranteed, some mutual companies have paid dividends each year without fail for more than a century.
No Age Requirement for Disbursements
While funds in a Roth IRA in most cases canโt be withdrawn or accessed via a loan prior to age 59 ยฝ, funds in your life insurance cash value account can typically be accessed at any time, without government-imposed restrictions.
And when taking out a loan on the life insurance cash value, your cash value continues to grow via credited interest and dividends. So you can leverage your cash value for opportunities which allow you to make money in two places at once (in your policy and in your investment) using the same dollars.
Creditor Protection
You might be aware that Roth IRAs offer creditor protection on a state by state basis. However, you may not be aware that a huge advantage of whole life insurance is the creditor protections offered as well.
Life insurance creditor protections vary state to state, but many states will provide 100% exemptions for the cash value in your whole life policy, as well as protection of the death benefit paid to your beneficiary.
For example, if you are a Florida resident and you are being sued for negligence or you are filing a personal bankruptcy, under Florida law your cash value may be 100% protected from all creditors. As always, when it comes to legal matters, please check with a local attorney-at-law.
The Self Banking Blueprint
A Modern Approach To The Infinite Banking ConceptThe Rich Person Roth
Whole life insurance is sometimes called the Rich Person Roth because it can be used for a similar purpose โ setting aside funds for tax-favored growth.
In both cases between whole life vs Roth IRA, the tax-free growth of the accounts allows your money to grow faster than it would if taxes had to be paid each year.
Additionally, withdrawing funds free of taxes can benefit you by keeping your taxable income lower than it would be when receiving taxable proceeds.
Whole Life Insurance Advantage
The big advantage of using whole life insurance in the form of a Rich Person Roth over a Roth IRA is the lack of any statutory limit on the amount you can contribute to such a policy. This ability to overfund life insurance for later use makes whole life insurance an excellent means of building up substantial savings in a shorter amount of time versus a Roth IRA.
Such whole life policies arenโt necessarily just for the โrich,โ either. While they do typically work best for those with substantial income, they can also be useful for individuals who started late in saving for retirement and are trying to make up for lost time and set aside significant sums of money currently but are unable to do so in a Roth IRA or other retirement account because of contribution limits.
If you are making over $100,000 a year the likelihood is that the Roth contribution limit does not allow you to set aside enough funds to cover your retirement needs, especially if you are getting a late start on saving for retirement.
If you are in this position, using dividend paying whole life insurance to set up a Rich Person Roth can expand your ability to put aside tax-favored funds for retirement.
Guaranteed Growth & Premiums
While whole life cash account policies may not offer the same upside growth potential as investments in the stock market through mutual funds or similar vehicles, the guaranteed nature of the growth they offer means that they are not subject to the same risk.
A well-designed whole life policy can create cash value in year one, and gradually add increasing sums to the cash value account over the policyโs life span, producing returns that in recent years have compared favorably with other cash equivalent alternatives.
Buy Term and Invest the Difference
Some claim that it is better to buy term life insurance and invest the difference instead of whole life. However, besides the fact that this would result in tax consequences on any income earned on the difference (on sums not invested in an IRA or other retirement plan), there is also the issue of the increasing cost of term insurance as you age.
A whole life policy offers a premium payment and death benefit that is guaranteed for life as long as premiums are paid. This differs from term life which is inexpensive when you are young but becomes more and more expensive as the years go by, in many cases resulting in greater total expenditure on life insurance over the long-term.
Life Expectancy Considerations and Zero Net Loans
An individualโs life expectancy should be considered when evaluating the use of whole life as a source of retirement savings. Generally, the longer tax-deferred compounding has to work, the more advantageous it is.
Also, the impact of the cost of funding the life insurance portion of your whole life policy should be taken into account as well. The longer your funds grow tax-deferred, the less impact such fees have.
Generally, those with poor health will benefit less from a Rich Person Roth, as they will have less time to benefit from tax-deferred compounding. However, if you are in poor health, the life insurance coverage provided by whole life is likely to be more valuable than it would be for someone in excellent health.
Loans are free of taxation from life insurance policies as they are considered to be loans taken against the death benefit guaranteed by the insurance company. Thus, the insurance company will charge an interest rate for the loan. This interest can be offset by interest credited on the funds still invested in the policy.
Because of this, it makes sense to look for policies that offer Zero Net Loans, where the interest you pay on the loan is fully offset by the gains on the funds invested in your policyโs cash account, resulting in zero net interest costs.
Whole Life vs Roth IRA: Which is Best?
Both financial vehicles offer some great benefits. In a perfect world, the correct answer to this question would be both life insurance and Roth IRA and here is why.
With whole life insurance you get a non-correlated asset that can be tapped into when the market has negative returns. Having an alternative source of funds when the market is dumping is a great tool in retirement to protect your retirement from sequence of returns risk. Rather than have to take money out of your retirement account when it is down 10, 20, 30 or 40%, you can take money out of your life insurance policy and let your retirement account recover.
And with a Roth IRA, you have the opportunity to make investments in various assets without having to pay taxes. Taxes are the number one wealth killer, so being able to make money on investments and not have to pay taxes on that money is a huge benefit.
Conclusion
And there you have it. Both life insurance and Roth IRA are excellent vehicles for protecting and growing wealth. In a perfect world you would choose to fund both with as much money as you possible can so that when you get to retirement age you can enjoy the fruit of not having to pay income tax, but if you die prematurely your life insurance death benefit will provide a legacy to your heirs.
For more information about how a whole life insurance policy can help you meet or exceed your retirement goals, feel free to give us a call and let us know how we can help you out!
The Self Banking Blueprint
A Modern Approach To The Infinite Banking Concept
1 comment
John Salierno
interesting