A “Second-To-Die Policy”, also known as “survivorship life insurance policy” insures two people under one policy and pays the benefit upon the death of the second person. The two people are usually spouses.
It’s a type of joint life insurance, second to First-to-Die life insurance (where the face amount is paid after one of the two policyholders passes away).
Survivorship life insurance is useful if you run a small business with your spouse, if you have a special-needs child with long-term financial care needs, or if you need to plan for college tuition.
The survivorship life insurance policy can be a whole life policy or term life insurance policy, with some differences in the life insurance rates.
More precisely, second-to-die policies are generally sold as whole life, universal life, or variable universal life insurance policies.
In the following paragraphs, we’ll go over the main benefits of this type of life insurance, compare the pros and cons of this type of policy and go over the usual rates.
One of the features that separate this type of insurance policy from others is that the surviving spouse does not gain any benefits from it.
This type of policy mostly appeals to couples with a lot of assets. With a second-to-die policy, they can protect their wealth during its transfer to their children.
The insurance begins with an annual premium that covers the death benefit. Excess payment builds cash value and then goes on to cover some or all of the increased premiums that you pay.
The catch with this is that once it’s bought, it’s very difficult to cancel and gain any benefits if one of the partners walks out on the policy.
If you can, however, manage to keep paying the premiums, the contract remains valid.
Second-to-die life insurance is most commonly used for:
- Estate planning, especially when there’s a considerable estate.
(Unlimited marital deduction comes into play to lower or defer the federal estate tax. Second-to-die life insurance provides estate liquidity upon the second spouse’s death.)
- Protecting spouses with successful careers against the loss of earnings, in case both of them die.
- Protecting a company against the potential loss of key employees, like executives.
- Funding charities.
Now that we’ve covered the main points, let’s go deeper and explore:
A second-to-die life policy certainly comes with a lot of advantages. Since its creation, most spouses have used it to minimize the amount in taxes during wealth inheritance.
The second to die policy is perfectly designed to address the transfer tax issue. Couples generally buy life insurance only for tax liability. The tax liability is usually due after the passing of the last surviving spouse.
With Second-to-die life insurance, the death benefits that are paid out when both spouses die are income-tax-free.
Parents often take up this policy to protect their children from the burden of death taxes. However, there are much more benefits to this type of policy than tax loopholes.
Second-to-die policies are cheaper than taking up individual life policies for any couple, which means: more affordable premiums.
Because these policies are based on the joint life expectancy of a couple, insurance companies face less risk of death with two spouses on one policy.
That’s why the insurance companies charge fewer premiums for the policy.
As stated earlier, because two lives are involved, there is less risk for the insurance company. They, therefore, often go easy on the applicants.
During the underwriting (the procedure used to determine whether you qualify for insurance or not), the insurance company focuses on the younger and healthier of the two applicants.
Age is one of the main factors in the calculations of the premiums to be paid. However, in survivorship insurance, insurance companies calculate premiums using the average age of the couple.
So if the first insured is 45 years old and the second insured is 35 years old, the underwriter will base the rate on the average age of 40.
The main benefit of any joint life insurance policy is paying only one premium for life insurance coverage instead of two.
For new business owners or a young family, the savings that a joint life insurance policy can provide can be alleviating.
The estate tax can significantly impact the net worth of the estate.
The federal government has a limit on the value of family estates that can be transferred to heirs without taxation. The current value is at 11.4 million dollars. If the estate has a higher cost, then the heirs to it will have to pay 40% in inheritance taxes. In some cases, the tax rates have been as high as 55%.
When the spouses die, the insurance company pays out the benefits to the family trust. This ensures that the payout is not considered part of the estate, and hence, it cannot be taxed.
To avoid or mitigate inheritance taxes, wealthy families will purchase a second to die plan through an Irrevocable Life Insurance Trust. The heirs of the family wealth get the typical rights that come with a family trust.
For 2021, the estate tax applies to assets valued at over $11.7 million per individual, or $23.4 million for married couples.
It would be wise to consider a second-to-die policy if you have a child with special needs. The death benefits that come with it can be used for taking care of the child and providing for all of their needs.
Similar to an irrevocable trust, after the death of the first spouse, the second spouse will not have access to this money, which means that it will only be kept for the child.
In fact, that is the best way to go about this is to set up an irrevocable trust that will include the policy.
This means that the insurance proceeds of the death benefit will not be taxed. An irrevocable trust will also ensure that the policy does not change any of the benefits that the child with special needs enjoys from the government.
There are two sides to every coin, so survivorship insurance policies also come with their downsides.
This is one of the more obvious major cons. None of the insured ever enjoy the benefits of this type of insurance.
Furthermore, the premiums can also be a burden to the surviving partner. This is why one of the main things to consider is whether one partner or the other can continue to pay the premium when one of them dies.
However, it’s good to know that permanent life insurance can be sold to save you from lapsing.
If managing the premiums becomes difficult, the spouse who is still alive can sell the insurance through viatical settlements.
This type of policy does not focus on cash value addition, but it offers the largest death payout.
Term insurance is an attractive option due to lower premiums, but since they don’t provide lifetime coverage, you are at the risk of outliving them.
If you plan to fund a trust, make sure to get an insurance policy that will guarantee a death payout when you die.
A Second-To-Die policy does not leave room for making any changes once they come into effect. This means you cannot renegotiate the terms or requests for any additions to it.
Changes are not allowed even in the case of a separation, divorce, or the death of your partner.
Because of this contract’s nature, it is of utmost importance to consider all of the aspects before purchasing this type of policy.
As we’ve already mentioned, the most important question is: Will you be able to keep paying the annual premiums on your own after your partner passes?
As we’ve already established the average age is used during underwriting to determine the premiums that are to be paid, but this also comes with disadvantages for the partners.
For instance, the younger partner who would have paid fewer premiums now has to pay higher premiums due to the increased years (average).
Finally, always make sure to remain aware of all these cons while basing your financial plan on all the pros.
After Going over the pros and cons of Second-To-Die insurance policies, the next obvious step is to take a look at the rates and find the best life insurance company for your needs.
Naturally, this choice depends on your budget and your unique preferences.
It’s good to know that most joint life insurance policies are between $250,000 to more than $1 Million in coverage.
Apart from the aforementioned cons, there are some more practical things that deserve their own, separate mention.
The second-to-die life insurance product was developed in the 1980s after a new tax law that granted the possibility to delay federal estate taxes until the passing of both spouses. This law helped surviving spouses avoid spending finances to pay enormous tax bills.
But even with this type of policy, state taxes ARE due after the death of the second spouse on assets that exceed the federal estate and gift tax exemption amount, which is $11.7 million per individual in 2021. ($23.4 million for married couples.)
Currently, the maximum federal estate tax rate is 37 percent.
Second-to-die policies can provide liquidity — or immediately available cash flow — which can be used to pay the administrative costs and estate taxes due on your estate when both you and your spouse pass.
This can happen only if the death benefit is sufficient to pay the administrative costs.
If you establishing a trust, you need to ensure that it’s an irrevocable trust with this type of policy.
Revocable trusts are considered as assets by the IRS, and since they count as part of the estate they will be taxed when you die. This means that even your second-to-die policy death benefit will be taxed.
The main point to take away here is that, unfortunately, there isn’t a one-size-fits-all solution for buying and committing to a policy.
On one hand, second-to-die policies are less expensive, the qualifications for survivorship policies may be less difficult than those required for individual term insurance (or whole life insurance), and they can be used to offset estate-settlement costs.
On the other hand, remember that marital changes don’t affect these policies, there is no cash value, and you can’t alter them.
No matter how appealing the benefits may sound, always make sure to keep your focus on your end goals and to take your time before settling for any type of life insurance.