Death doesn’t stop taxes from being owed and bills needing to be paid. There’s a long list of potential expenses associated with a person dying, including:
- Federal and state estate taxes
- Funeral and burial expenses
- Unpaid medical bills
- Debt (e.g. mortgage, credit cards, auto loans, private student loans)
- Executor’s fees
- Attorney’s fees
- Court costs
- Appraiser’s fees
- Small business expenses (e.g. payroll, training a successor)
Easily-accessed funds are needed when you die.
Liquidity refers to the ease at which an asset can be converted into cash. For example, checking and savings accounts are liquid. They are easy to access and you receive the money instantly.
Real estate and coin collections are illiquid. These assets cannot be quickly sold for cash. You need to first find a buyer, and there’s a risk of being forced to sell below market value due to needing cash quickly or there not being enough buyer interest.
Life insurance provides liquidity.
How does life insurance provide liquidity?
Life insurance can provide liquidity in two ways: during the life of the insured and immediately after the death of the insured.
During the life of the insured, a permanent life insurance policy can provide liquidity through cash values. The policyowner (who may or may not be the insured) can access cash values for any purpose, through either withdrawals or loans on the policy, on a tax-free basis. These cash values can be accessed easily and they are paid out quickly.
Upon the death of the insured (who may or not be the policyowner), the death benefit provides instant liquidity for family members.
In many situations, a family’s assets may be tied up in its home, a retirement plan, or a business. Without another source of capital, your family could be required to liquidate assets to cover final expenses, pay off debt, or replace lost income. Life insurance provides the liquidity that family members need so they can avoid the stress and financial turmoil of selling assets.
Life insurance is one of the best tools to ensure that your estate has sufficient cash to satisfy the claims of creditors and pay taxes and other costs that result when an estate owner dies. In addition, if your estate is large enough to potentially incur estate taxes, your life insurance can be arranged as to not be included in the gross estate.
The life insurance death benefit provides tax-free cash that’s available quickly after death. It can provide money to your executor to pay taxes and debt, and also provide inheritance or income replacement for your beneficiaries.
For business purposes, life insurance provides the answer to another liquidity need: a buy-sell agreement. If the owner or partner of a business dies, their share of the business passes down to their heirs. Life insurance proceeds through a pre-arranged buy-sell agreement can be paid to the owner’s estate in exchange for their interest, or share, in the business.
Without this arrangement, the deceased owner’s heirs would now have ownership in the business. The heirs may not be the best choice for the business’ success.
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Why do estates require liquidity?
Estate taxes are due nine months after your death. Being able to pay this on time and in full avoids borrowing and paying in installments with interest.
Creditors want to get paid in a timely manner. Being able to pay them quickly avoids garnishing and making claims on the estate.
Having sufficient estate liquidity ensures paying taxes and other expenses doesn’t deplete the estate assets meant to go to your heirs and beneficiaries.
Which type of life insurance is right for me?
The type of life insurance you need depends on your financial situation and family’s personal and financial goals.
If you have a large estate and want to provide an inheritance, permanent life insurance or a blend of both is your best option.
» Learn more: Term versus Whole Life Insurance
Term life insurance is temporary and, therefore, may not last as long as you need it to. However, if your estate is under the tax exemption amount ($11.7 million for 2021), then term life insurance may meet your needs of income replacement for your family and liquidity for expenses associated with an unexpected death, such as medical expenses and funeral costs.
If you’re concerned about estate taxes and liquidity, talking to an advisor about permanent life insurance options will help. We can provide advice and personalized quotes. Start by learning more about permanent life insurance on our whole life page. You can also request quotes on this page or contact us directly.
About the writer
Natasha Cornelius, CLU
Senior Editor and Life Insurance Expert
Natasha Cornelius, CLU, is a writer, editor, and life insurance researcher for Quotacy.com where her goal is to make life insurance more transparent and easier to understand. She has been in the life insurance industry since 2010 and has been writing about life insurance since 2014. Natasha earned her Chartered Life Underwriter designation in 2022. She is also co-host of Quotacy’s YouTube series. Connect with her on LinkedIn.