Using Indexed Universal Life to Help The Sandwich Generation

Family financial planning is not always a smooth and sequential transition

By Brett W. Berg

With more and more people caring for parents and children at the same time, protecting income replacement and building supplemental cash reserves are important financial planning goals. These people fit within the category that some researchers are labeling the “sandwich generation,” because they are in the middle of two generations that need their help and, in many cases, their financial support.
On January 30, 2013, Kim Parker and Eileen Patten of the Pew Research Center detailed several findings of the Pew Center’s research in a report entitled “The Sandwich Generation: Rising Financial Burdens of Middle Aged Americans”.

While a comprehensive review of the report is beyond the scope of this article, some facts support the proposition that many clients either face the immediate issue or potential issue of supporting parents and children at the same time. According to the report, in 2012, nearly half of the adults in their 40s and 50s who were surveyed (47%) reported they have a parent aged 65 or older and are also raising a minor child or supporting a grown child (age 18 and over). Moreover, the same report for 2012 noted that 15% of those surveyed had provided financial assistance to both the parent over age 65 and to a child in the past year.

From a life insurance planning perspective, when considering how much death benefit may be necessary, the needs that must be considered when evaluating the type of protection necessary are numerous. For the children dependent upon the sandwich generation clients, traditional needs such as income replacement are obvious. In addition, financial advisors and life insurance professionals should consider how much coverage is necessary to pay other debts such as a mortgage and taxes due at death. In addition, because the sandwich generation clients are taking care of elderly parents, a financial advisor should investigate whether any debts have been incurred by the clients to help pay for care of their parents as well as how much may be necessary to help continue care should the sandwich generation clients die prematurely.

Accumulating Enough Cash

When selecting a policy, even though death benefit protection is a primary concern, an important additional consideration is cash accumulation. The sandwich generation clients may have potential financial burdens for an extended period of time that may well last into their retirement years, so building up cash inside a life insurance policy could provide another source of either supplemental retirement income or supplemental income that may help offset the financial burdens associated with supporting their parents and/or children for an extended period of time.

For this reason, variable universal life (VUL), indexed universal life (IUL) and cash accumulation-oriented universal life (UL) policies may be popular with sandwich generation clients.
In today’s environment, IUL may be of interest to the client in that many IUL designs provide upside potential for cash accumulation while providing downside protection for the cash value in the event of market downturns. In general, most Index ULs offer a basic interest account as one choice and at least one index account. They typically “sweep” funds through a basic interest account into the index account. There is no crediting rate on the index account.

The “illustrated” rate may be based on a 25 year backward history of that index’s performance – even though past performance has no impact on future results. Any future projections are hypothetical. The actual performance of an Index UL will be derived from actual index performance, and subject to some upward cap on participation that can limit gains and a floor that limits losses. In general, the carrier hedges their risk by purchasing options, resulting in asset performance that mirrors their crediting liability. The upside potential and downside protection offered by the IUL product may be particularly attractive to the client.

Using a Trust as a Planning Tool

Regardless of the type of insurance policy selected, if the client dies early and he/she has named the family as beneficiary, the family may receive the death benefit to help provide income replacement, pay for final expenses, etc. In situations involving sandwich generation clients, the use of a trust may be an important planning tool.

The death benefit may be paid to the trust, which may include the elderly parent as well as the children as beneficiaries of the trust. This is particularly important if both parents in the sandwich generation die prematurely. The trustee of the trust may be given discretion to make distributions to the elderly parent and/or the children. As in all cases involving estate planning, a client should consult with a licensed attorney knowledgeable in estate planning to develop an appropriate plan to meet the client’s specific needs.

Assuming the client lives to retirement, the client may take withdrawals and/or loans from the policy at retirement to help pay for a child’s expenses and/or help an elderly parent.
It’s important to note that both loans and withdrawals from a permanent life insurance policy may be subject to penalties and fees and, along with any accrued loan interest, will reduce the policy’s account value and death benefit and may have tax consequences. If the policy is a VUL, depending upon the performance of a VUL policy’s investment choices, the account value may be worth more or less than the original amount invested in the policy.

Please note that if your premium payments exceeds tax law limits, your policy will be classified as a Modified Endowment Contract (MEC). Lifetime distributions from MECs receive less favorable tax treatment than generally provided life insurance policies. Assuming a policy is not a MEC, withdrawals are taxed only to the extent that they exceed the policyowner’s cost basis in the policy and usually loans are free from current federal taxation. A policy loan could result in tax consequences if the policy lapses or is surrendered while a loan is outstanding. Distributions from MECs are subject to federal income tax to the extent of the gain in the policy and taxable distributions are subject to a 10% additional tax prior to age 59½, with certain exceptions.”

In conclusion, when working with clients in their 40s and 50s, financial professionals have every reason to consider whether clients are or will be supporting both their parents and their children at the same time. For these sandwich generation clients, permanent cash value life insurance, including IUL, may be an important part of managing the financial issues that may arise.