When you retire, your income usually decreases, since you’re no longer working. Fortunately, a lot of your expenses decrease, too. You can say goodbye to work-related costs like commuting to the office, or union dues. You no longer have to save for retirement. But what about life insurance? If you already have a policy, is now the time to cash it in or let it lapse? And if you don’t have a policy, does it make sense to buy one now?
As is the case with many personal finance questions, the answer is: It depends.
- What’s life insurance for?
- What happens to your retirement income when you die?
- What could your family use your life insurance benefit for?
- How buying life insurance can save tax
- How do you pay for life insurance in retirement?
- Are you concerned about the potential impact of declining health on your ability to get life insurance?
- What if you already have life insurance before you retire?
- Do you need life insurance in retirement?
What’s life insurance for?
Life insurance is meant to protect the people who depend on your income. People like your spouse and children. It can also protect your small business, or your business partners. It’s also helpful for paying for your funeral. But if you no longer earn an income, what are you insuring? And if you have no spouse, children or business depending on you, who are you protecting?
Let’s look at it from two angles:
- Where is your money coming from?
- What could your family need the money from your life insurance for?
First, identify the sources of your retirement income. What difference will your death make to your money? And then, what will your family need money for at that point – and will they have enough?
What happens to your retirement income when you die?
The average retired Canadian lives on money from some or all of these sources:
- CPP/QPP and Old Age Security (OAS)
- Retirement savings:
- Employee pension plan (if you have one)
- Other sources of funds, like your home equity and non-registered investments
The main thing to note here is what happens to this money when you die. OAS stops. CPP pays a small death benefit. Plus, it will top up your spouse’s monthly benefit – but only to the maximum allowed. If you and your spouse were both at or near the maximum, your widow won’t get twice their CPP. And once you’re both gone, CPP stops, too.
If you haven’t used it all up before you die, you can pass on your retirement savings. After a little paperwork, your surviving spouse can inherit your RRSP, RRIF and TFSA, tax-free. But if you leave your savings to your children, they’ll have to pay tax on it.
The default setting for company pensions and life annuities is to stop paying on your death. But you can sometimes arrange upfront for a smaller benefit, in exchange for a survivor’s or a guaranteed payment. Depending on the option you choose, the payments may be a percentage of what you received. Or they may continue for a certain time after your death.
Assets like a family home, cottage, or non-registered investments don’t disappear upon your death, of course. But the tax situation can change. If your surviving spouse inherits your home, they pay no income tax, even if the home has gone up in value. If it’s their principal residence, they won’t pay tax when they sell it, either. But if your children inherit the family home or cottage, they must pay tax on the capital gain. That’s true even if they don’t sell. By virtue of it passing to your kids, the government considers it sold to them, and taxes it accordingly. If your property has been in the family for many years, the capital gain could mean a hefty tax bill. If they don’t have the money, your kids may even have to sell the property to cover the tax. They’ll also have to pay tax on any non-registered investments you leave them.
What could your family use your life insurance benefit for?
A lot of the reasons you buy life insurance while you’re working can still apply when you retire. Your family could use the life insurance you already have for:
- Paying off debt. What if you still have a mortgage? Or a car loan, or a debt-consolidation loan? You may even still be carrying student debt (either yours or your children’s). A life insurance policy can help your spouse get out from under your debt. If you’re the surviving spouse, you’ll pass your debts to your estate, not your children. But this means your estate must pay them off, leaving less for your kids.
- Your funeral. Depending on your wishes, your funeral could easily cost anywhere from $10,000 up.
- Income support for your family. Without your CPP or OAS payments, your spouse may no longer have enough income to live on comfortably. As well, you may be helping to support your grandchildren, or an adult child with a disability.
Read more: What’s the best age to get life insurance?
How buying life insurance can save tax
Keep in mind that life insurance benefits are tax-free. Because of that, there’s another important reason for retired people, in particular, to buy life insurance: tax planning.
Suppose you’ve saved well and spent carefully all your working life, and you continue to live simply in retirement. Now, throw in some good investments and perhaps a company pension. You’ve never thought of yourself as even remotely wealthy. But add up all your assets and income sources, and you could well have more than you’ll foreseeably need.
Angela MacLean, BN, is a Sun Life advisor. She says her clients run into this situation often. “I bet you 95% of my clients are worth more than they think,” she says.
If there’s money left over after you die, what happens to it? As mentioned, if it goes to your children, they will have to pay tax on it. But there is a way to get more money into your children’s pockets and less into the government’s. You can buy a life insurance policy that will pay your children a tax-free benefit on your death. That way, you can keep more of your estate intact for your children. That same policy can also provide the funds to keep the cottage in the family, if that’s a concern.
You can also use life insurance to equalize the value of your estate among your children. That can be an issue if you leave a cottage, farm or business to only one child.
Read more: Why name a beneficiary?
How do you pay for life insurance in retirement?
Life insurance isn’t cheap at your age, of course. MacLean estimates it can cost 8-10 times more to buy a policy in your 60s than it does in your 30s. And that’s if your health is still good enough to qualify. But your advisor can help you buy a policy that can still pay out much more than what you paid in premiums. “The growth component in a whole-life policy can increase the size of your estate exponentially,” says MacLean. By taking some of your projected estate to buy life insurance, you’re not really spending it, she adds. “You’re just moving it from one bucket to another.” (And that’s from a taxable bucket to a tax-free one.)
What if declining health is a concern?
You can start thinking about estate planning as early as your 40s or 50s. That’s what MacLean does with many Clients. She projects family needs and business growth over time, and recommends affordable term life insurance right away. Then, as cash flow permits – kids grown, mortgage paid off – they can convert to a permanent life insurance policy.
What if you already have life insurance before you retire?
About half of the retired clients MacLean knows do. But they tend to own smaller policies, typically less than $100,000. “That was a lot of money 30 or 40 years ago. But once they see the tax benefits, everyone wants more than they already have,” MacLean says. With their estate goals clearly in mind, they might raise their coverage to $250,000 or even $500,000.
Here’s where it’s vital to get help from an advisor. Together, you can run the numbers and estimate the approximate size of your estate. Your advisor can then recommend the right policy type and size, and the most tax-efficient way to fund it.
This article is meant to provide general information only. Sun Life Assurance Company of Canada does not provide legal, accounting, taxation, or other professional advice. Please seek advice from a qualified professional, including a thorough examination of your specific legal, accounting and tax situation.