A diversified retirement fund protects you against the ups and downs of the market and balances a mix of pre-tax and post-tax funding dollars that will help you today and in the future when you need the retirement income. Many options are available for your consideration, all with unique features and pros and cons.
Indexed Universal Life combines an investment vehicle with whole life insurance coverage. Roth individual retirement accounts (IRAs) are funded with after-tax money, an option that is especially helpful for younger investors and those who anticipate their tax rate and earnings will be higher in retirement. Deciding which retirement fund is right for you takes a bit of research.
What Is an Indexed Universal Life (IUL)?
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Indexed Universal Life Insurance serves a dual purpose being a life insurance policy and a retirement investment vehicle. IUL policies provide life insurance, with additional money not spent on the insurance premium going to index funds.
Index funds, such as the S&P 500 or Japan’s Nikkei 225, are popular ways to diversify investments. IULs vary from other permanent life insurance in that the policy’s cash value is based on the value of the investments. Typical permanent life insurance, or whole life insurance, accrues value over time. A value that is typically based on a crediting rate that the insurance company sets. Permanent life insurance costs more than term life insurance, but it is guaranteed for a lifetime and builds value. Premiums are fixed for the lifetime of the policyholder.
IULs have a cap and a floor on the investments, limiting returns and protecting investors from losses in the market. The insurance and investment tool also has tax benefits when it comes time to withdraw or take loans against the investment.
IUL Advantages
IULs help investors build up a nest egg that will provide tax-free income in retirement as well as life insurance, both essential financial tools to provide you and your family with financial security. In addition, IULs have several other benefits for investors:
- Reduced risk through a floor that limits loss.
- Enhanced earnings compared to traditional permanent life insurance.
- Permanent life insurance that has a locked-in premium.
- Tax-free lump sums for heirs, with no capital gains taxes.
- No limits on the investment amount.
- No penalties or age requirements to withdraw money or take a loan.
- No income restrictions on eligibility.
- Tax-free cash through withdrawals or contract loans against the accrued value.
IUL Disadvantages
IULs have some potential drawbacks that investors should consider before pursuing this type of savings vehicle:
- Cap rates limit earnings to a maximum of about eight to 12%.
- Regulations behind IULs are complicated.
- Fees can be high compared to other investment options.
- As with any life insurance policy, premiums are higher for older or have health issues.
- IULs require management to maximize their benefits.
What Are Roth IRAs?
Roth IRAs are usually separate investment vehicles through a brokerage and are independent of employment. Commonly used by younger investors who want to save for tax-free retirement income, Roth IRAs work best for those who anticipate being in a higher tax bracket after retirement. Investment dollars are contributed after income taxes are taken out.
Traditional IRAs give investors immediate tax benefits by using pre-tax dollars for savings, reducing tax bills; taxes are paid when the money is withdrawn after retirement, commonly at a lower tax rate.
Roth IRAs grow tax-free, with tax-free withdrawals possible after five years. Investors may contribute up to $6,000 a year, with a $1,000 catch-up provision for investors over age 50. Income limits apply, with contribution maximums phasing out starting at $125,000 income for single filers and $198,000 for married filers. Single people earning over $140,000 and married couples making over $208,000 are ineligible for direct Roth IRA contributions.
Since Roth IRAs aren’t tied to an employer, investors have numerous options available. Unlike traditional IRAs, Roth IRAs don’t have mandatory minimum distributions starting at age 70½ and can be held for the account owner’s lifetime.
Roth IRA Advantages
Roth IRAs have several advantages to consider:
- Tax-free withdrawals are possible since money is added after income taxes are paid.
- Emergency withdrawals without penalty are possible.
- No required minimum distributions.
- Many investment options.
- No caps on earnings (but no floors on potential losses).
Roth IRA Disadvantages
There are some potential pitfalls to Roth IRAs that investors should review:
- Income limits mean high-income individuals aren’t eligible.
- Contributions max out at $6,000 a year, with an additional $1,000 for those over age 50.
- They are typically not offered by employers.
- Investors don’t have immediate tax deductions like regular IRAs.
- Before the account is five years old, withdrawals face penalties. Prior to age 59½, withdrawals may incur a 10% policy plus taxes. Investors over age 59½ face taxes before the five-year threshold.
Which One Is Best For You?
Roth IRAs and Indexed Universal Life accounts offer tax advantages and unique benefits depending on your age and circumstances.
Roth IRAs can work for any investor, but they can be more appealing for younger investors who expect their income to increase later in life and don’t need the tax break of investing pre-tax dollars like traditional IRA investors. Income and investment limits apply, but funds grow tax-free over the years.
IUL investments appeal to those who want to combine life insurance with retirement investments and limit exposure to volatile markets. IULs have caps and floors to protect investors, and the life insurance payout can help heirs with other tax bills.
Depending on your investment goals and your family’s needs, an IUL or a Roth IRA can play an important part in a well-rounded retirement portfolio. However, balancing investment products into a diverse retirement plan can be a complex undertaking. As a result, some investors delay deciding how and where to add valuable investment vehicles to their retirement nest egg.
Contact 3D Partners Wealth Advisors for expert advice on making your long-term financial vision a reality through maximizing returns, limiting risks, and optimizing tax benefits. You can reach us via our convenient online form, and a member of our team will get back to you as soon as possible.