An insured retirement plan, also known as an insured retirement program, or simply, IRP is a retirement planning concept that utilizes a permanent life insurance policy such as participating whole life insurance policy, and universal life insurance, not simply as a financial safety net against the financial burdens of death, such as what a life insurance policy offers but as an individual retirement account.
As opposed to what you may have been told, IRP is not a type of permanent life insurance, nor is it a pension plan. Rather, it’s a financial concept or a strategy that if structured and funded properly will not only secure your loved one’s financial well-being in case of premature death but at the same time builds your financial future. As a bonus, it even gives you the potential to leave a higher financial legacy to your heirs through the policy’s permanent life insurance coverage that can increase over time, depending on how your policy is designed.
Both participating whole life policy and universal life insurance allow the life insurance policy’s cash value to grow on a compounded, and tax-free basis, which stays tax-free if it’s kept inside the policy.
The tax-free or tax deferral nature of the life insurance policy’s cash value growth depends on how you access your “retirement savings” inside the policy.
There are a couple of ways how you can utilize your policy cash value at retirement:
- You can make a lump sum withdrawal, which may trigger a taxable event.
- You can withdraw funds on an annual basis, which may also (eventually) trigger a taxable event.
- You can apply for policy loans, or
- You can set up a series of bank loans, using your policy as collateral.
Life Insurance ACB [Adjusted Cost Base (Basis)]
A life insurance policy’s adjusted cost basis or ACB is the difference between the policy’s net cost of pure insurance and its accumulated cash-value growth. This amount is calculated when you first take the policy and adjusted regularly as the policy gains more cash value. When the money you withdraw from your policy is greater than its ACB, then taxation applies to the excess amount. Eventually, your policy’s ACB will decrease to zero (usually in your older years), at this point, any withdrawals or policy loans you make from your policy are taxable.
So, if directly withdrawing funds from your individual policy, and policy loans have the potential of diluting the tax advantages of this wealth-building strategy, what then is the best option for utilizing the retirement benefits of an insured retirement plan?
A Bank collateral loan strategy is the best way to gain access to your IRP retirement funds, without necessarily touching the cash values inside your policy.
By simply collateralizing your policy for (a series of) bank loans (line of credit) at retirement, the cash values of your participating whole life insurance, which remains inside the policy, continues to earn annual policy dividends, hence continuing to compound while you’re drawing funds through third-party loans, tax-free, albeit incurring interest. Consequently, your policy will remain in force, and its death benefit rises steadily as you get older. When you eventually pass away, the bank receives part of the death benefit that covers the principal, and interest of the loans you took out, used to fund your retirement lifestyle fully or partially.
IRP Isn't a One-Sized Fits All Solution
Like any other financial product, a life insurance retirement plan isn’t necessarily for everyone. It’s perfect for people who have the cash flow, who make wealth-building a priority, and who have the time horizon to allow wealth to grow and compound. Also, since the strategy uses a permanent life insurance plan, it goes without saying that you will need to qualify for a life insurance policy that is usually underwritten based on your health, medical history, and lifestyle.
Generally, an IRP isn’t advisable for Canadians who are nearing their retirement age, not unless when you have a very good cash flow such as the case for owners of privately held Canadian corporations who want to invest corporate dollars, they don’t use in their business operations (surplus funds). If your corporate dollars earn income from passive investments, it gets taxed at the highest corporate tax bracket. A corporate-insured retirement plan helps you grow your surplus funds, tax-free (or tax-deferred), inside a corporate-owned life insurance policy.
If on the other hand, you’re someone who’s already on a tight budget, and if you must negotiate for a lower monthly contribution, then an insured retirement plan isn’t for you.
If this is the case, yet you still want the opportunity to grow some sort of wealth, sheltered inside a life insurance policy, you can still implement a universal life or participating whole life insurance designed for wealth or cash value growth, based on your affordability.
Such a policy is similar, yet a scaled-down version of an insured retirement program. It will still accumulate cash values, either through market returns or dividend earnings, however, at a much smaller scale, and budget. The accumulated growth will not be enough to support your retirement lifestyle fully or even partially, but the total cash values are usually higher than what you would have contributed to the policy.
Generally, an IRP is excellent for people who understand the concept, have the cash flow to support the building phase of their insured retirement strategy, have the goal and the tenacity of sticking to the plan long term to truly build their wealth, and earn financial independence through this wealth-building vehicle. With this said the insured retirement strategy is a long game and isn’t get-rich-quick.
The "IRP Specialists" and Universal Life Insurance
If you’ve been pitched by a group of life insurance brokers who only sell IRPs, ones who represent themselves as “IRP specialists” and claim that they’re the only ones who can design IRPs, know that an insured retirement plan can be designed and is a strategy available to all life licensed advisors as the core of such a strategy is a cash value accumulating life insurance policy.
A lot of times, IRP is used and marketed as a get-a-rich-quick scheme to unsuspecting Canadians who are lured by promises of high rates of returns in universal life insurance, claimed as a “pension plan”, despite a small amount of monthly contribution.
If you ever come across these “specialists”, know for a fact that no one can guarantee market returns. The promised 9% (8% + 1% bonus) average rate of return isn’t guaranteed, and the 8% projected rate of return is not “conservative”, as some of these “IRP specialists” claim.
In actuality, the realistic average rate of return on long-term investments in Canada is 5%. Just because your investment portfolio or universal life statement shows that you’ve made 20% gains this, year doesn’t mean that you’re going to make this kind of rate of return every year, mind you, your portfolio’s next year’s return can be -30%. When it comes to investing, whether the portfolio is a stand-alone investment or sheltered under an insurance umbrella, it isn’t about how much return you’ve made this year, or the last, it’s about the average rate of return that you will get in the next 10, 20, 30, or even 40 plus years.
If you want to build solid, long-term wealth for yourself and your loved ones, it’s important to forgo the get-rich-quick mentality and focus on long-term asset accumulation.
“Get rich quick” simply doesn’t exist, and if an opportunity is too good to be true, it most likely is.
It takes time and capital to build wealth, and, unfortunately, an insured retirement plan is no different.
Don’t get me wrong, a well-structured, and well-funded insured retirement plan works, but then again, it must be well-funded… and well-structured, especially when it comes to universal life.
A lot of these so-called IRPs sold in the market today are either minimum or slightly over-funded universal life insurance policies that are at risk of lapsing when you reach your retirement age.
If you’re contributing between $50.00 and $150.00 a month, on a so-called IRP, with a base universal life insurance coverage of $250,000.00, a 20-year term life rider of $250,000.00, and a 10-year critical illness insurance rider of $25,000.00, there isn’t enough extra money to accumulate inside your policy after the cost of insurance, charges, and premium taxes are deducted. Depending on your age at the time your policy was put in force, in most cases, what you have is a slightly funded universal life insurance – and not really an insured retirement plan.
Of course, you shouldn’t take my word for it, ask your agent for the same life insurance illustration for your policy but with an average rate of return of only 3%, instead of the projected 9% he or she showed you when presenting the concept.
The 3% average rate of return will test whether your policy will stay in force for the rest of your life, in the worst-case scenario that your policy portfolio only averages 3%. You will most likely average around a 5% rate of return if you’re invested at least in a balanced portfolio but knowing that your policy will not lapse in a low rate of return environment gives you peace of mind in knowing that you will not run out of life insurance coverage when your loved ones need it the most.
This, of course, goes without saying that if there’s not enough capital contributed to the policy, not only will it not be able to sustain itself as permanent life insurance, but it will also not have the cash values, as well as the annual retirement income you were promised at the time of the IRP presentation.
Par Whole Life Insurance vs. UL for IRP
Participating Whole Life Insurance
Participating whole life insurance is a type of permanent life insurance that offers both a death benefit and a cash value component. In addition, participating whole-life policies offer the opportunity to earn dividends that can be used to help pay premiums, increase coverage amounts, and grow wealth without market risks.
Here are some key points to consider:
Pros:
Guaranteed death benefit: Participating whole life insurance provides a guaranteed death benefit, which ensures that your beneficiaries will receive a certain amount upon your passing.
Cash value growth: These policies accumulate cash value over time, and the growth is typically tax deferred. The cash value can be accessed during your lifetime through policy loans or withdrawals, providing a potential source of tax-efficient retirement income.
Dividends: Participating policies pay out dividends based on the insurer’s financial performance. These dividends can be used to increase the cash value, purchase additional coverage, or receive in cash annually.
Cons:
Higher premiums: Participating whole life insurance generally has higher premiums compared to term insurance or universal life insurance. The premium payments are designed to build cash value and support the policy’s guarantees.
Limited flexibility: These policies have less flexibility compared to universal life insurance when it comes to adjusting premium payments or death benefit amounts. However, they still offer some flexibility within certain limits.
Universal Life Insurance
Universal life insurance, on the other hand, is a more flexible type of permanent life insurance that provides a death benefit and a cash value component. The cash value component of the policy depends on the market performance of the underlying investment portfolio.
Here’s an overview of its features:
Pros:
Flexible premiums and death benefit: Universal life insurance allows you to adjust your premium payments and death benefit amount within certain limits. This flexibility can be beneficial if your financial situation changes over time.
Cash value growth potential: Like participating whole life insurance, universal life policies accumulate cash value over time. The cash value growth is usually tax-deferred and can be accessed during your lifetime to supplement retirement income.
Investment options: Universal life insurance often offers a range of investment options for the cash value component, allowing a policy owner to potentially benefit from market growth.
Cons:
Market risks: The investment component of universal life insurance exposes policyholders to market risks. If the investments underperform, it can affect the cash value accumulation and the policy’s ability to support the desired death benefit or provide retirement income.
Complexities: Universal life insurance policies can be more complex than participating whole life insurance. Understanding the policy’s features, including the investment options and their associated risks, is crucial.
When considering an insured retirement plan strategy in Canada, both participating whole life insurance and universal life insurance can be viable options. The choice depends on your individual needs, risk tolerance, and financial goals. It is essential to work with a knowledgeable insurance advisor to assess your specific circumstances and determine which policy aligns with your retirement objectives.
Please note that insurance and tax regulations can change over time, so it’s always important to consult with a qualified insurance professional or financial advisor who can provide up-to-date information and guidance tailored to your specific situation.
Is an Insured Retirement Plan a Good Strategy
IRP or an insured retirement plan, in general, isn’t a bad strategy; in fact, it actually is an excellent strategy but it depends on how yours is structured, especially when using universal life insurance.
With a universal life insurance policy, premium contributions are flexible, there’s a set minimum and maximum amounts that you can deposit into your policy periodically, depending on the amount of life insurance coverage applied. This is where the risk of lapsing lies for most ill-designed IRP policies here in Canada.
Since the contribution amount is flexible, you can get a universal life insurance policy by simply funding the minimum amount to cover your policy’s initial cost, especially in the case of a YRT (yearly renewable term) policy.
When your policy gets approved, you’re already covered for the life insurance component, despite funding the bare minimum. This doesn’t mean, however, that you’re going to be covered permanently. As you age, the minimum amount required to keep the policy in force increases, and the amount of contribution you started with, may no longer be enough to keep the policy in force during your elder years, as a result, your policy will lapse.
When your coverage lapses, you will no longer be covered by life insurance and will leave your loved ones exposed to the financial consequences of death. If it was supposedly an IRP policy, it would have been non-existent as there were never enough funds to sustain such as strategy due to the absence of over-funding.
Of course, the premium flexibility of universal life insurance has its benefit as well, as it allows you to position yourself into owning a potentially permanent life insurance coverage by initially funding the minimum cost of the policy. This goes without saying, that you must fund your policy with the proper amount for the policy to stay in force as permanent insurance.
The key to an insured retirement plan is maximizing your deposits and minimizing your policy’s costs. Depending on your affordability, age, health condition, and lifestyle, minimizing the coverage amount, maybe a good idea, so you get more money going into the investment or cash value component of the policy, instead of the premium required to service the life insurance component of the plan.
A Better Insured Retirement Strategy
As you may already know, most so-called IRPs sold in the market today are nothing but ill-designed, and ill-funded universal life insurance policies with yearly renewable term costing. If you have one, check how much the universal life component of your policy is (the UL death benefit), and check how much you’re currently contributing to your policy. If you’re contributing between $50, and $200 with a total death benefit of between $500,000.00, and $750,000.00, $200,000 or $250,000 of which is universal life insurance, your IRP may not work as discussed. Remember, the insurance component of the policy isn’t free, so part of your monthly contribution should service the cost of the policy, and the higher the universal life-death benefit amount, the higher the costs.
The chart below calculates these usual contribution amounts at an average rate of return of 5%, for 20 years in a tax-free savings account. Notice that without the cost of insurance, the total accumulated amount even for $200 a month of contribution is only $81,491.56. For many of us, this amount just isn’t enough to retire on, even when you have CPP and OAS as it will run out in a couple of years even when it’s inside an insurance policy. Just think about it, how many times can you get $20,000.00 a year from $80,000? Following the 4% rule of retirement, you can only get around $3,000.00 a year from such a nest egg. Again, not to mention that your policy’s costs will continue charging behind the scenes throughout your lifetime.
If you’re 20 years away from retirement, you should put away more, regardless of what your retirement strategy is. However, I see a lot of UL policies that are funded for these amounts yet loaded with insurance benefits. While higher death benefits and critical illness insurance coverage are necessary, most owners of UL IRP policies were given the wrong expectations when they signed their universal life insurance applications.
Minimizing the cost of insurance will allow you to take full advantage of such a policy, the coverage should be high enough to allow you to deposit your desired amount but not too high that it eats up the growth of the cash value component of your policy.
While there’s a cost involved in an IRP strategy, the insurance component is necessary as it is the part that allows the tax-free asset growth of the plan. Without the insurance part, it’s just another investment account, which you can’t register if you’re registered accounts are already maxed out.
A life insurance retirement strategy allows Canadians who already maxed out their registered accounts such as an RRSP, and TFSA to grow wealth, tax-free inside an insurance umbrella, which doesn’t get taxed as a non-registered investment does.
The drawback of universal life insurance for insured retirement purposes is its premium flexibility. While it allows people to get potentially permanent insurance in place by only contributing minimum premiums at the start, then funding it down the road to keep it permanently in force, it also allows for minimum deposits for maximum coverage amount.
As a result, there’s a tendency for unscrupulous life insurance agents to sell their clients minimum-funded universal life policies dressed as IRPs to maximize their commissions.
Another drawback of universal life insurance when used as a life insurance retirement plan is that you must move your portfolio out of the market and into a savings account whenever you get policy loans or bank collateral loans. This means that you can’t remain invested in market portfolios while you’re borrowing to fund your retirement. As a result, your policy stops making money, while you’re borrowing. This is because, as collateral, life insurance carriers and banks (lenders) are not comfortable taking collaterals with fluctuating values.
Participating whole life insurance is a better policy base for an insured retirement strategy. With participating whole life insurance, your asset growth is more predictable and is not affected by market downtrends because instead of being invested in market portfolios. Your asset grows annually through the policy’s dividend earnings. This means, that you will never get negative returns.
At retirement, your policy will continue to earn dividends, even when you take out loans against your policy, either with the insurance carrier (policy loan) or a bank. You don’t need to move your funds from market portfolios into a savings account as is the case with universal life, since your fund aren’t directly invested in market portfolios.
If you want to learn more about how an insured retirement plan with a participating whole-life policy can work for you. Feel free to book a consultation here.
Do I need an insured retirement plan?
That depends on your specific financial situation and goals.
Like any other financial planning tool, an IRP isn’t for everyone.
For one, you should have the cash flow to finance your wealth accumulation through an insured retirement plan.
If you’re being forced into it and you’re not completely confident that you’ll be able to maintain the policy’s monthly contribution, it may not be for you.
The ideal candidates for an insured retirement plan are Canadians who would like to build, and grow wealth, tax-free (or tax-deferred), enjoy tax-free retirement income by leveraging their life insurance policy, are comfortable with leverage (bank collateral loan/line of credit), has a need for life insurance coverage (income protection or estate planning), and again, has the necessary cash flow to finance their insured retirement plan.
If this is you, book a free consultation with us, here.
How Much You Should Save for Retirement
How much you need to save up depends on your specific financial situation and goals. If you’re young and are just getting started, you should save at least 10% of your gross income toward wealth accumulation. This is the bare minimum, the more you set aside, the better. Remember, you’re buying your future here. If you’ve passed the age of 35, you should aim to keep at least 25% of your income for your retirement savings.
If you can’t afford to set aside money for retirement planning, then there’s a problem! Either you have an income problem or a spending problem.
Most Canadians who work full-time don’t have an income problem but most, do have spending problems. If this is you, you must identify where your money is going, then cut down on unnecessary spending. Download our free cash flow worksheet here to help you identify the unnecessary spending that you can cut down on and have a better idea of where everything is going.
Once you’ve identified your unnecessary spending, you can start putting more money aside for emergencies, and your retirement planning.
Book a Discovery Meeting with Us!
Our team here at SmartWealth can help you set up an effective insured retirement plan that works for your situation.
Book an appointmentOn the other hand, if you feel that you’re already keeping your spending to your basic needs, yet your cash flow just isn’t enough, then you may have an income problem.
There are a couple of ways on how you can increase your income. You either find a part-time job (or another full-time job) or start a side hustle to supplement your income. I usually, advise the latter because there’s a limit to how much you can earn when you’re working for someone else. Side hustles on the other hand allow you to earn on a per-deal basis, instead of the number of hours you’ve spent at a job. Don’t get me wrong, you still must work hard (or even harder) with your own enterprise compared to working a per-hour job.
If you have decent credit, and you want to learn more about personal finance, and insurance, while at the same time helping others secure their financial well-being, and build wealth for their future, shoot me a message here. We can help you get started as an independent financial security advisor.
Benefits of an Insured Retirement Plan (IRP)
This article delved into what an insured retirement plan is, and how it works in Canada.
As you may know by now, securing your financial future is of paramount importance, and an insured retirement plan offers numerous advantages that can help you achieve just that. Here are some key benefits worth exploring:
Insurance Protection while you're actively working.
A Life insurance retirement plan offers life insurance protection as a key feature, ensuring that the life insured’s loved ones are financially protected in the event of premature death.
The death benefit to the beneficiaries helps to replace the breadwinner’s lost income, cover expenses such as funeral costs, and finance other financial obligations such as a mortgage, or consumer debts of the deceased fully or partially.
This life insurance protection can be particularly important for those who have a young family and may not have adequate coverage for their family’s protection against lost or reduced income in case of the premature death of one of the breadwinners. It’s also beneficial to those who are looking to leave a higher net estate to their heirs since the policy’s death benefit is paid out tax-free.
Tax-Efficient Retirement Income
One of the standout features of an insured retirement plan is the potential for a tax-efficient retirement income when an annual bank loan or a line of credit is established using the policy’s cash values as collateral for the loans at retirement.
While it’s obvious that you will be charged interest on your loans, any money drawn (borrowed) with the bank loan strategy isn’t considered income for income tax purposes, and hence isn’t added as part of your taxable income at retirement. Plus, a properly designed insured retirement strategy’s death benefit will more than cover the principal and interest of your loans at death.
You do have the option to pay the interest annually if you don’t want the interest to compound, thereby leaving more to your heirs when you pass away in your later years.
Protection Against Market Fluctuations (Par Whole Life)
Financial markets are known for their unpredictable nature, and sudden downturns can wreak havoc on retirement savings. However, a participating whole-life insured retirement plan shields you from the volatility of the market. Participating whole life insurance policies cash value component isn’t directly invested in the market, as opposed to universal life, which ensures that your principal and accumulated earnings are protected, allowing for a stable and reliable financial future. You can sleep soundly knowing that your retirement nest egg is safeguarded from the uncertainties of the market.
Tax Benefits and Flexibility
Insured retirement plans offer tax advantages that make them an attractive choice for retirement planning. Contributions made to these plans are typically tax-deferred, meaning you don’t pay taxes on the income until you withdraw. This tax efficiency, coupled with the flexibility to choose how much and when to withdraw, or not to withdraw funds at all, gives you the ability to manage your retirement tax liability strategically. This flexibility empowers you to optimize your retirement income while minimizing the impact of taxes.
Preservation of Government Benefits
For individuals relying on government benefits such as the Old Age Security (OAS) or the Canada Pension Plan (CPP), an insured retirement plan can be highly advantageous. By structuring your retirement income through insurance products, you can minimize the impact on these government benefits, ensuring you receive the maximum entitlement. This strategic approach allows you to optimize your retirement income and enjoy the benefits you’ve earned.
Protection Against Longevity Risk
Living longer is a wonderful prospect, but it also comes with financial challenges. Outliving your savings is a genuine concern for many Canadian retirees. However, a well-planned insured retirement plan eliminates this worry by providing an additional retirement income source to supplement all your other retirement income sources, allowing you to enjoy your golden years without the fear of running out of money.
Legacy Planning and Wealth Transfer
An insured retirement plan can be an effective tool for legacy planning and transferring wealth to your loved ones. By designating beneficiaries, you can ensure a tax-free wealth transfer directly to your heirs, bypassing the probate process, and eliminating (or minimizing) capital gains taxes at death compared to other retirement strategies.
This streamlined approach facilitates the efficient transfer of wealth, helping you leave a higher net estate value to your loved ones.
Insured Retirement Plan FAQs
Q: What is an Insured Retirement Plan (IRP)?
An Insured Retirement Plan is a specialized retirement planning strategy that combines life insurance protection, and retirement savings to provide individuals with a reliable income source during their retirement years, in addition to government pensions that they may receive.
Q: How does an IRP differ from a traditional retirement plan?
Unlike traditional retirement plans, an IRP offers the unique advantage of integrating life insurance coverage with long-term retirement planning. It provides a tax-efficient retirement income, tax-advantaged growth, flexibility, estate planning benefits, and potential creditor protection.
Q: What are the benefits of including life insurance in the retirement plan?
Including life insurance in the retirement plan offers additional security for your loved ones. In the event of your passing, the policy provides a tax-free death benefit, ensuring your loved one’s financial well-being. This combination of retirement planning and life insurance coverage provides peace of mind and protection for both you and your family against the financial risk of premature death, and reduced income at retirement.
Q: What tax advantages does an Insured Retirement Plan offer?
Contributions to an IRP grow on a tax-deferred basis, meaning you don’t pay taxes on the growth until you begin making withdrawals. This tax advantage allows your wealth to compound more efficiently, potentially resulting in a larger nest egg for your golden years.
Q: Are there estate planning benefits associated with an IRP?
Absolutely. An IRP provides valuable estate planning benefits through the tax-free death benefit provided by the life insurance component. Life insurance proceeds bypass probate, are creditor protected, and are distributed according to your wishes, facilitating a seamless transfer of wealth to the next generation, privately.
Q: Does an Insured Retirement Plan offer any creditor protection?
The assets held within the plan may be shielded from creditors, providing an added layer of security and safeguarding your hard-earned savings against unforeseen financial liabilities, as long as your beneficiaries are considered “preferred beneficiaries”, and are irrevocable. By naming your spouse, children, parents, or grandchildren as the life insurance irrevocable beneficiaries, creditors can’t go after your life insurance policy’s cash values, and death benefits. One thing to note here is that you can’t leverage the policy, access the cash values, change your beneficiaries, or surrender your policy without your irrevocable beneficiary’s consent.
Q: Can I contribute to an Insured Retirement Plan at any age?
There’s no age limit as to when you would like to start an insured retirement plan. Ideally, you should start saving or investing for your retirement the moment you start earning a living. The older you are, the more you must put away any kind of retirement plan since your time horizon shortens. One of the more important considerations when planning to implement an insured retirement strategy is your health status and lifestyle at the time of your application. Another is your attained age. When you’re older, the cost of insurance tends to be higher. If you have a serious health condition, you may not be approved for a policy.
As the old Chinese adage states: The best time to plant a tree was 20 years ago. The second best time is now.
Q: How do I get started with an Insured Retirement Plan?
To get started with an Insured Retirement Plan, reach out to a reputable financial professional or insurance agent who is knowledgeable about structuring a permanent life insurance policy for insured retirement purposes.
If you would like to work with us. Please book your appointment here to get started.
