Insured Retirement Plan: What is IRP and How Does it Really Work?

Introduction

An Insured Retirement Plan (IRP) is a financial concept that utilizes a permanent life insurance policy—usually universal life—as a vehicle to build wealth for retirement. This strategy allows policyholders to fund their life insurance policies beyond the base premium (cost of insurance, charges, and fees) with the aim of creating tax-free wealth accumulation within the policy and using a line of credit against the policy for tax-free retirement income. Let’s explore how it works, its benefits, and the key considerations to ensure the IRP functions as intended.

What is an IRP?

An Insured Retirement Plan is not a type of life insurance but a financial planning strategy. The concept is simple: use a life insurance policy to build wealth tax-free during the accumulation phase and then access those funds through tax-free loans during retirement. It serves two purposes:

1. Life Insurance – Protecting loved ones financially in the event of the policyholder’s death.
2. Wealth Accumulation – Building wealth within the life insurance policy to be accessed during retirement.

An IRP is available to anyone with a life-licensed financial advisor and is not restricted to any specific group. It is important to note that a minimum-funded or poorly structured universal life insurance policy does not qualify as an IRP.

How Does an IRP Work?

In an IRP, the policyholder funds the insurance policy with the intention of building the cash value within the policy. The idea is to pay for permanent life insurance coverage while simultaneously accumulating wealth. The policyholder can then use their life insurance policy as collateral for a series of bank loans, enabling tax-free income in retirement.

However, the key to making this strategy work is proper funding. A universal life insurance policy must be funded sufficiently to provide both permanent life insurance coverage and enough funds to cover annual loans. If the policy is funded just enough to provide basic coverage, it will not generate the necessary returns or value to fund retirement needs.

Common Issues with IRPs

While IRPs offer substantial benefits, there have been many instances where universal life insurance policies were sold as IRPs without the proper structure or funding. These policies were often sold with minimum funding, leaving policyholders under the impression that their policies would provide a substantial retirement income, only to find out that the funds inside the policies were insufficient.

The flexible nature of universal life insurance policies means they can offer permanent or non-permanent coverage based on the funding within the policy. If not enough funds are allocated to the policy, the policyholder may find their policy lapses, and the promised retirement income is not realized.

The Importance of Proper Funding

For an IRP to work, it must be funded with your target savings amount on top of the base cost of insurance. It's essential to project conservative rates of return (typically between 3% and 5%) to ensure the policy is growing at a reasonable rate. Avoid relying on inflated projections of return rates, as no one has control over the market’s future performance.

Funding an IRP requires commitment. Just like contributing to other retirement savings vehicles such as RRSPs or TFSAs, ensuring adequate funding is key to ensuring that the policy can support retirement income needs through loans.

The Advantages of an IRP

1. Tax-Free Retirement Income: One of the major benefits of an IRP is the ability to access tax-free income during retirement. By using the policy or collateral loans, you can receive tax-free income to support your retirement lifestyle.
2. Dual Benefit: You’re simultaneously building wealth for retirement while securing life insurance coverage to protect your loved ones. This "two birds with one stone" approach is what makes the IRP particularly attractive.

Conclusion

An Insured Retirement Plan (IRP) can be an effective tool for retirement planning, offering both life insurance coverage and tax-free wealth accumulation. However, for it to work as intended, proper funding is crucial. A policy that’s not sufficiently funded may not provide the retirement income needed, and the life insurance coverage may not last. To get the most out of an IRP, it’s essential to plan carefully, ensure adequate funding, and work with a trusted advisor to make informed decisions.

This article is written for educational purposes.

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