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Cutting Out the Tax Man in Retirement Legally

What is the best IRS-approved retirement savings plan today that most investors know nothing about it? How about a side-by-side comparison of investments using tax code 401(k) versus 7702A. Let’s dig into this one in today’s video.

I read an article titled, “(Legally) Cutting Out the Tax Man in Retirement” by Scott Mann a writer for and you can Google the article but I will also link it in the comments below but I’ll break it all down for you here. The article said, “The life insurance industry has the best IRS-approved retirement savings plan today, and most investors know nothing about it. This retirement savings vehicle is not a company-sponsored, pre-tax qualified, 401(k)-type plan. It’s also not a Roth. It’s not an annuity or whole life. Despite sales of well over $1 Billion in 2011 for the top 39 carriers surveyed, it is the financial industry’s No. 1 secret, Indexed Universal Life or in my office we call it the IUL.” As a licensed financial professional, the IUL is my favorite investment vehicle for monthly investments into retirement, and what I have pivoted to for my own retirement account instead of investing into my 401(k).

The article written in January 2016 went on to explain, “…why the IUL is a powerful supplemental saving vehicle to an employer’s 401(k) plan, and a replacement for those whose employers don’t offer one or for some people who don’t trust the market, we need to start with the fact that after a generation of use, qualified plans comprised of equity-based investments are generally acknowledged as failures. Why is this the case? For one, the performance of qualified plans has been abysmal. Most investors have not made money in the stock market in a decade. Investors haven’t made money since before Google existed, since before the events of 9/11! The second factor is low employee participation. The two market catastrophes we have experienced since 2000 notwithstanding, one major reason people fail to save is fear of losing their money. With the recent stock market plunges, various reports say many consumers, including those in their 20s and 30s, are too afraid to save in the market, despite the market’s historical role as the best long-term place to save.”

Full disclosure here, I actually have made great gains in the market as a private investor but before moving my 401(k) to an IUL, those gains were just OK at best. I was able to beat the mutual fund options in my own retirement portfolio and the best part is when I am ready to take my distributions because I already paid the taxes before investing that money, I will be able to enjoy every penny of the gains tax-free. No capital gains taxes, no taxes at all, ever again in the IUL. 

The article goes on to mention an article I brought up in a video from last Sunday about TIME magazine’s Oct. 9, 2009 issue written by Stephen Gandel “Why It’s Time to Retire the 401(k)” and it said “ the 401(k) retirement account has long been the “go-to” first bucket to fill to provide for retirement needs, yet this is a mistake.

Mr. Gandel wrote, “The ugly truth is that the 401(k) is a lousy idea, a financial flop, a rotten repository for our retirement reserves . . . . The solution: a new type of insurance. Retirement savings, it turns out, are exactly the type of asset we need insurance for. We need insurance to protect against risks we can’t predict (when the market collapses) and can’t afford to recover from on our own . . . . Recent opinion polls show that people would be willing to give up the flexibility of a 401(k) for a guaranteed return.

Gandel’s idea is not really new, having enjoyed a 20-year track record. You insure nearly every other aspect of your life:  your health, your home, your vehicles. Why not protect your safe, comfortable retirement against the risks we can’t predict and can’t afford to recover from on our own, and why not cut out the taxman in the process? These are all legal, and totally above board, established life insurance principles. It may sound too good to be true, but it’s just what life insurance is and does. Yet the general public and even many financial advisors have absolutely no idea that a tax-free, market-risk-free, gains-locked-in, congressionally-approved solution has been sitting right under their noses for 20 years. Indexed Life’s primary benefit is the fact that, like an indexed annuity and unlike a mutual fund Roth, you keep all the gains and suffer none of the market losses. But there are many more benefits included that no other investment can lawfully offer, with the possible exception of a Roth.

Let’s lay out the basic principles of Indexed Universal Life or the IUL, and then let me take you through a rough equation to crystalize just how powerful a retirement savings tool this vehicle is.

Indexed Universal Life’s basic principles: 

1. Can be funded with after-tax monies or pre-tax monies, as in a defined-benefit pension plan.

2. Assets are protected against market loss and backed by the full faith and credit of the issuing company. While the funds are not FDIC-insured, “legal reserve” requirements apply to the insurers.

3. Assets are “linked” to the market via the selected index: Dow, S and P 500, Global, or a mix of several indices. Indices are a measurement of the price performance of a group of shares from an exchange.

4. Any gains, being real, interest-bearing gains subject to a cap, are locked in and never given back: the policyholder accrues a gain, or from zero up to 2.5% floor in the case of a down market, but never a market-induced loss.

5. Historical returns, based on actual illustrations from the top carriers going back to the late 1980s, are usually somewhere between 7-9%, meaning actual interest rates of return are not average as financial advisors prescribe to. This wasn’t in the article but our averages even beat the 9% interest gains historically on most of our illustrations, in many cases much higher.

6. Income can be pulled out prior to age 59 and a half and is tax-free. A withdrawal is considered a policy loan against the death benefit, which acts as collateral.

7.  The death benefit is paid out to the beneficiary tax-free.

Which is the better vehicle to save for retirement and pass on wealth to your kids? The 401(k) or the 7702A tax code? Common Objections from people who LOVE their 401(k) are: 

  • I save in taxes now because my contributions are invested pretax
  • My company matches what I contribute
  • I think my taxes will be lower in retirement

Something to Think About

  • Are you going to be in a HIGHER or LOWER tax bracket?
  • How many TAX DEDUCTIONS are you going to have in retirement?

Let’s break down and do that side-by-side comparison between the tax codes 401(k) vs the 7702A which the IUL takes advantage of as well as about half a dozen other tax codes. Let’s run the numbers first on the 401(k) on a 25-year-old let’s call him John working for a company making $40k a year.

  • The company match is 5%, John is contributing 10%
  • Company annual match is $2k, John contributes $4k, total contributions is $6k
  • John works until age 60, 35 years of contribution, the average growth of 5%
  • The total account balance goes from $0 to $569,017.94 for John, NOT TOO BAD!

Now let’s run the numbers for the 401(k) for John because we need to account for the taxes in the 401(k).

  • Ultra Conservative Tax rate 35% (State and Federal)
  • John lives until 90 (Payments last for 30 yrs)
  • Has to be moved from 401k account into a bank account at retirement (1% growth at best)
  • John’s Total Account Balance age 60: $569,017.94
  • Yearly Distribution: $21,830.07
  • Taxes Paid: $7,640.52
  • Annual Post-Tax Amount: $14,189.55
  • No Death Benefit

Question for you if you were John, can you financially survive on $14k per year?

Let’s run the numbers for John using the 401(k) along with the 7702A.

  • John at 25 years old working for a company making $40k a year
  • Company match is 5%, John is contributing 5%
  • Company annual match is $2k, John contributes $2k, total contributions is $4k
  • John contributes 7.5% to 7702A (Higher because of money saved on insurance and other products)
  • John works until age 60, 35 years of contribution, the average growth of 5% in 401k, the average growth of 6% in 7702A
  • Total account balance in 401k is $379,345.29, total account balance in 7702A is $277,980.00

Next let’s run the numbers if John was to utilize the 7702A also known as the IUL.

  • Tax rate 35% doesn’t matter, 7702A isn’t taxed on distributions
  • John lives until 90 (Payments last for 30 yrs)
  • Doesn’t have to be moved from 7702A account into a bank account at retirement, continues to grow at 6% growth
  • Total Account Balance age 60: $277,980.00
  • Yearly Distribution: $39,180.00
  • Taxes Paid: $0.00
  • Death Benefit at age 90: $218,000

$39,180 annually beats $14,189, plus a Death Benefit of $218k, But Wait there’s more!

Now John will have a 401k and a 7702A for retirement

  • Yearly Total Income Increased from $14,189 to $53,369
  • Plus we have Permanent Insurance and a Death Benefit to pass on.
  • Death Benefit can be put into a new 7702A for the beneficiary creating a jump start on the beneficiary’s wealth building.
  • Death Benefit is passed on is also Tax-Free.

Finally the side-by-side for John after contributing to both account types. Which is the better vehicle to save for retirement and pass on wealth to John’s kids? How about your kids?

John’s Total Personal Contributions Into his 401(k) $140.000 vs his 7702A which was $105.000

Total Yearly Take Home from his 401(k) would be $14,189 and from his 7702A is $39,180

Total Withdrawn at Death at age 90 from the 401(k) would be $425,670 and the 7702A would be $1,175,400

Total Passed On at Death from the 401(k) would be nothing versus the 7702A leaving behind $218,000 tax-free

This is just an example, but it shows that a 7702A or IUL would have provided John from age 60 and it’s why I stopped contributing to my own 401(k). While past performance is never any guarantee of the future, we really cannot illustrate these products historically at less than 7-9% interest rate returns, since you make a gain or you get a zero. On top of this, these returns are all passive; you didn’t have to manage anything and no management fees like that of the mutual funds in that 401(k). As a footnote, since there is no age 59.5 restriction, many parents use the IUL cash values for college funding as well.

It looks like odds are good that Indexed Universal Life may offer you roughly two to three times the amount of benefit over conventional investments, depending on the actual index returns and your tax bracket. This is a result of protection of principal against market losses, indexing, and legally cutting out the taxman. You have harnessed what Einstein called one of the most powerful forces in the universe: compounding interest.”

What would a 7702A or IUL look like for you? Want to see your own illustrations based on your financial goals? For a complimentary retirement income strategy, set up a time to meet with me using the calendar link here in the comments section or on my page on the Get in Touch link at the top right of the page. Now that you have a better idea of your options, don’t you owe it to yourself and your family to invest in the best options available to you? Have a beautiful week.

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