People often have questions about overfunded life insurance at Trajan Wealth. Some of the most common queries include:
- Is it possible to overfund life insurance?
- Is it in your best interest to overfund life insurance, and what are the implications for your taxes?
- What are the pros and cons of overfunding your life insurance?
Trajan Wealth can help you evaluate whether overfunding your life insurance policy is the best choice. First, let’s address some of the questions you may have about this decision.
What Is Overfunded Life Insurance?
Overfunded life insurance refers to the act of paying more into your life insurance policy than is required. Most life insurance policies require a specific premium monthly, quarterly, or annually to keep the policy active. Almost all permanent life insurance policies have a cash value element. By overpaying your required amount, you add more to the inherent cash value of it.
Why Would You Want to Overfund Your Life Insurance?
Did you know that typically you can withdraw or borrow money from your policy’s cash value? Overfunding increases the pool of money in your policy you’re eventually able to draw from. More money is always a good thing when it comes to financial health.
Tax advantages are also a great reason to consider overfunded life insurance. In most cases, you’re not required to pay income tax on interest generated from life insurance! Plus, the IRS doesn’t set a yearly limit on how much you can contribute to a life insurance policy.
However, there is a limit to how much you can put into your policy before you assume tax liability. If you exceed that amount, you could trigger a Modified Endowment Contract and lose some favorable tax treatment.
What Should You Keep in Mind When It Comes to Overfunding Life Insurance?
Each life insurance policy has different features. Be sure that loans or withdrawals from your policy don’t reduce the amount your beneficiary will inherit, cause a lapse in your policy, or generate a liability in your income tax. Also, note that overfunding life insurance policies is only possible with universal or whole life insurance, and not term life insurance.
At Trajan Wealth, we recommend talking to a financial advisor before choosing to overfund your life insurance. We’ll be able to spot any issues that may arise and offer our professional opinions on them.
Risks of Overfunding a Life Insurance Policy
While overfunding a life insurance policy can offer numerous benefits, it’s important to consider the potential risks involved. Here are some factors to keep in mind:
- Policy Lapse: Overfunding a life insurance policy can inadvertently increase the risk of policy lapse, especially if your financial circumstances change. If you are unable to sustain the overfunding level in the future, it could lead to the erosion of the policy’s cash value and possibly cause it to lapse.
- Liquidity Constraints: Overfunding a life insurance policy ties up a portion of your financial resources within the policy, potentially limiting your liquidity. This could affect your ability to access funds for other pressing financial needs or emergencies.
- Complexity and Flexibility: Overfunding a life insurance policy can add complexity to your financial portfolio. The associated rules and restrictions, especially regarding loans and withdrawals, may impact the flexibility of utilizing the cash value.
Want to Look into Overfunding Your Life Insurance Policy?
Our team would love to help! We can answer your questions about overfunded life insurance policies. Trajan Wealth is happy to look into your life insurance policy, and get you set up. Making smart financial decisions today is one of the best ways to influence your financial health tomorrow.
