Many Canadians are sold on the advantages of having investments; almost half of Canadians put some money into investments each year. Similarly, Canadians understand the importance of insurance, with almost 60% of them having a life insurance policy.
However, far fewer people understand how a strategy combining insurance with investments that provide an income can bring much greater financial security and a more robust financial plan. It can also make for better tax efficiencies and reduced risk, leading to investors having greater wealth over a longer period.
In this article, we’ll explain how the different types of investment income work, the kinds of insurance that provide financial protection, and how combining the two can reduce taxes, lower risk and build a better legacy.
The main types of investment income
Investment income is the money you can make from owning stocks, bonds, mutual funds, exchange-traded funds (ETFs) and other investments. It can come in several forms:
Dividends: many companies pay their shareholders a dividend, which is usually in the form of a percentage of the investment owned. Dividends can be paid monthly, quarterly or annually, depending on the company involved.
Interest: bonds and guaranteed investment certificates (GICs) pay interest on the amount of money you invest in them (paid as a percentage of the amount invested). The amount of interest earned can vary greatly, depending on a variety of issues, such as the level of risk attached to the issuer of the bonds and the length of time involved (bonds and GICs have specific time periods — called terms — attached to them).
Capital gains: when you sell an investment for more than you paid for it, this is called a capital gain. Equities (shares in companies) usually provide capital gains over time, as do investment properties and other assets.
While these assets can provide a steady flow of investment income, there are some considerations you need to be aware of:
Taxation: the different forms of investment income are taxed at very different rates. For example, interest income is usually taxed considerably more than income from capital gains. This could have a considerable impact on your post-tax income.
Market volatility: the income you receive is often based on the value of your investments. If that value drops (and the markets are constantly rising and falling), this could disrupt the reliability of your income.
Longevity risk: you need to be sure that you won’t outlive your investments, which would jeopardize your retirement plans. You can minimize the risk of this happening by keeping a good portion of equities in your portfolio, as they have the potential for considerably higher growth than safer options (such as bonds).
The role of insurance in financial planning
While many people understand how insurance is valuable in offering protection against the unexpected, few realize that it’s also a key component of good financial planning, offering both protection and wealth-building opportunities. The key types of insurance include:
Life insurance
This is designed to provide financial security to loved ones in the event of the policy holder’s death. Depending on several factors, including your age, health and the premiums you pay, your beneficiaries could receive a lump sum worth hundreds of thousands or even millions of dollars if you were to die.
It can also be a useful tool when planning your legacy. It can be used to reduce your estate’s taxes and provide a greater inheritance for your loved ones. It can also help you ensure that your will is fair and that no one gets left out or ends up being shortchanged.
Some permanent life insurance policies also grow a cash value over time. This allows you to save money in a tax-deferred way, and you can borrow or withdraw some of these funds (though this could reduce the value of the policy’s death benefit).
Critical illness insurance
This pays out a lump sum if you’re diagnosed with an illness that’s covered by the policy. Depending on your insurer, this could include cancer, Parkinson’s, stroke, a heart attack and several other illnesses.
Critical illness insurance can be crucial in ensuring that your lifestyle and that of your family are not altered drastically by an illness that prevents you from working for a period of time. It can also help you to stay in your home (by covering mortgage payments) and, if you’re an entrepreneur, keep your businesses operating while you take the time needed to recover.
Annuities
An annuity is an insurance product that’s designed to give you a set amount of income on a regular basis, either for a fixed amount of time or for the rest of your life.
Life annuities provide you with income until you die, so they can be a good way to overcome the risk of longevity; no matter how long you live, you’ll receive the payments. The amount of the regular payouts depends on the size of the lump sum you contribute.
How investment income and insurance work together
Integrating investment income with insurance strategies can provide several opportunities for improving your financial plan, growing your savings faster and helping you to keep more of what you earn. Here are some of its benefits:
Improved tax efficiency
- Permanent life insurance policies grow cash value on a tax-deferred basis. This can act as a tax-efficient savings vehicle, especially if you’ve maxed out traditional retirement accounts, such as RRSPs and TFSAs.
- Policy loans or withdrawals from life insurance can also provide extra income without any immediate tax consequences.
Reduced risk
- Insurance products can act as a safety net during market downturns. For example, annuities continue to provide a guaranteed income stream, regardless of how the markets are performing.
- Life insurance can ensure financial stability for your dependents if your investments underperform. No matter what happens to the markets, the amount your heirs will receive from life insurance will remain consistent.
Better estate planning
- Life insurance can be used to cover estate taxes, ensuring that your heirs get to keep all the investments left to them.
- It can also help prevent your heirs from having to sell assets that may have recently lost some value (for example, stocks or real estate).
Useful strategies
These strategies combining the benefits of investment income and insurance can help you give your financial plan a considerable boost.
Balancing growth and security
- By including investment income assets that have growth potential, you’ll help ensure that you don’t outlive your savings.
- Meanwhile, contributing to insurance products will also provide you with ongoing stability, knowing that, should the worst happen, you’ll have a substantial financial safety net.
Leveraging insurance can boost your retirement income
- Using the cash value that has built up in your permanent life insurance policy can supplement your retirement income.
- You can also consider taking out an annuity to transform a portion of your investments into a predictable income stream, which will help reduce your reliance on market performance.
Blending insurance with investment portfolios
- Combining income-providing investments with permanent life insurance will provide you with a dual income and protection strategy.
- You can use critical illness insurance to protect your finances against any unexpected health expenses that could eat into your investment returns and derail your financial plan.
Getting started with investment income and insurance strategies
Combining investment income with insurance strategies provides a more balanced approach to financial planning, which can bring growth for your investments alongside added protection. It can also provide greater tax efficiency, lower risk and improved legacy planning.
Speak to an IG Advisor about how they can tailor these strategies to fit your unique circumstances and unlock the full potential of your financial plan.
Written and published by IG Wealth Management as a general source of information only. Not intended as a solicitation to buy or sell specific investments, or to provide tax, legal or investment advice. Seek advice on your specific circumstances from an IG Wealth Management Advisor.
Commissions, fees and expenses may be associated with mutual fund investments. Read the prospectus before investing. Mutual funds are not guaranteed, values change frequently and past performance may not be repeated. Mutual funds and investment products and services are offered through Investors Group Financial Services Inc. (in Québec, a Financial Services firm). And Additional investment products and brokerage services are offered through Investors Group Securities Inc. (in Québec, a firm in Financial Planning). Investors Group Securities Inc. is a member of the Canadian Investor Protection Fund.
Insurance products and services distributed through I.G. Insurance Services Inc. (in Québec, a Financial Services Firm). Insurance license sponsored by The Canada Life Assurance Company (outside of Québec).
