If you're like many Americans, most of the money you plan to use while in retirement is held in qualified accounts such as 401(k)s or IRAs, but that attitude on savings is shifting to income-tax-free retirement vehicles like indexed universal life.

In this episode of Money Script Monday, Sean presents 5 categories to focus on when repositioning your retirement income to an indexed universal life policy.

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Video transcription

Hello, and welcome to another edition of Money Script Monday.

My name is Sean Brady, and today's topic is things you need to consider when funding your IUL with qualified money.

If you're like many Americans out there, you hold most of your retirement savings in qualified plans or IRAs.

But that might be changing as prospective retirees are being pitched this strategy in which you're taking withdrawals from your tax-deferred qualified plans and then contributing them to indexed universal life policies for the purpose of income tax-free retirement income.

Now, this strategy could be beneficial towards you, or it could be very bad for you, and that's why we want to talk about how it works and all the things you need to consider before moving forward with a strategy like that.

How does it work?

How does it work? If you're like one of those Americans that has most of your savings in qualified plans and IRAs, then you may lack the non-qualified funds to purchase an IUL policy.

If you're over the age of 59 and a half, this may be an additional option for your financial strategy.

How it works is, you withdraw a portion of your qualified funds, and then you pay the income taxes on those withdrawals, and then whatever's left over you're going to use as premium to purchase an IUL policy.

That way, you're moving money from your tax-deferred vehicle, paying the taxes, and then moving it into an IUL policy where the loans and withdrawals may be income tax-free.

Now, this strategy offers you a balance for your accumulation potential, your risk, and your tax efficiency of your overall retirement portfolio.

Unlike IRAs and qualified plans, IULs offer death benefit protection for your beneficiaries as a part of your financial strategy.

Appropriate for me?

So, is this strategy appropriate for you?

If you're nearing retirement or are retired, this strategy offers death benefit protection, as I mentioned, for those beneficiaries.

Accumulation potential with protection from market losses, which could be big, and then lastly, it adds diversification to your retirement strategy.

But in many cases, withdrawals from your qualified funds and IRAs to purchase an IUL is actually not always an appropriate strategy for you in retirement.

That's why it's really important for you to team up with your tax advisor and qualified financial professional to really go over the tax implications of going with a strategy like that.

Retirement strategy I should consider?

Now, number three, is this a retirement strategy that I should consider?

Again, first meet with a tax advisor and a qualified financial professional, and that way, you guys could go over and analyze your IRA and qualified plans to really take in these factors.

What is your total tax liability?

You team up with your tax advisor, and then you guys would calculate how much income taxes you would be projected to pay over your lifetime.

And then, based upon those answers, you would be able to determine whether it even makes sense to take a distribution from your qualified plans or IRAs and incur that immediate tax burden, and then use those funds to purchase an IUL policy.

After-tax accumulation potential, so again, you would analyze what the growth potential would be for your qualified plan and what the growth potential of those after-tax funds would be in an IUL policy and compare the two.

Down markets, again, what would happen to your qualified plan or IRA in a negative market, what would happen to your IUL policy in a negative market.

Just things to consider when you're looking at this strategy.

Tax impact?

Tax impacts. So, what are the tax implications of going along with this type of strategy?

Withdrawals from qualified accounts.

They're taxed as ordinary income, and that's why you team up with your tax advisor to determine an appropriate approach for paying those taxes.

Premiums should be determined on post-tax amounts.

If you withdraw from your qualified plans or IRAs, they really should be after-tax amounts that you're putting into your IUL policy, after-tax premiums.

For example, if you have withdrawn $40,000 from your IRA and you are in a 25% tax bracket, then the premium you should consider funding into your IUL policy for that year should be $30,000.

And it's really important to note that it's generally unwise to use IUL policy loans to pay income taxes because those loans you take early on can really impact the available cash value within your policy, and it's just adding an avoidable risk that you really shouldn't take on.

Other considerations

And finally, other considerations. Is there a need for death benefit protection?

This is a life insurance policy, after all.

Cash value needs time. What that means is, IUL cash value needs time to accumulate.

You should really only consider taking withdrawals from your IRA or qualified plan if you do not need that money for income within the next 10 years or so.

IULs require health and financial underwriting.

I want to underscore that withdrawals from qualified plans are taxable, and if you take withdrawals prior to age 59 and a half, there would be an additional 10% federal tax that would apply.

During your working years, when you may experience some of the highest income tax rates of your lifetime, it may not be appropriate to take withdrawals and add additional taxable income if you're taking withdrawals from IRAs or qualified plans.

That's why it's really important to work closely with a tax advisor, because they're the ones that's going to be able to help find how adding additional taxable income, now and into the future, is going to affect your income tax return.

I hope you found today's presentation of value, and we'll see you again next time on Money Script Monday.