Much has been written on pension maximization strategies – if you are married, should you take the higher single life pension and buy life insurance for your spouse, or should you take the lower amount which guarantees your spouse a pension for life? If your pension is guaranteed to increase for inflation, that is going to be difficult to replace with insurance. However, usually the only pensions that increase are government pensions; and those increases can be voted or legislated away.

The only way this makes sense as a strategy is if you use 25 or 30 year term life insurance. Any other kind of insurance will be too expensive and negates the strategy; and anything shorter than 25 years increases the chance of failure of the strategy to an intolerable level. Also, you must be healthy (and insurable) at the age you collect your pension for this to work.

The main advantages life insurance gives you over a pension are these:

  1. Life insurance proceeds are not subject to income taxes, and their dividends/capital gains are taxed at lower capital gains rates (pensions are taxed at higher ordinary income tax rates)
  2. Life insurance proceeds gives you control over a lump sum (if you don’t need all the income for living expenses, you can spend the principal)
  3. Life insurance proceeds can be protected from nursing home/elder care needs (a pension would have to be assigned to the nursing home)
  4. Distributions from an investment portfolio over long time periods can be much larger than anything you can get from a pension or annuity, although this is not guaranteed (as risk and return are correlated)
  5. You will need a qualified investment advisor who is a tax specialist to help you for as long as you live
  6. If your spouse predeceases you, you can cancel the life insurance or change the beneficiary to another heir or charity (if your spouse predeceases you and you have taken a lower pension, you and your heirs usually get…nothing)
  7. An investment portfolio from investment proceeds will usually provide an ending balance that can be passed on to heirs (a pension simply ends after you and your spouse die)

Disadvantages:

  1. The cost of the life insurance can exceed the higher annual pension payout
  2. The life insurance ends at the end of the term, usually when you are in your 80s/90s
  3. Your spouse must be able to stomach short-term investment swings without making panicked investment decisions
  4. Your spouse may squander the insurance proceeds
  5. Poor investment decisions can squander the insurance proceeds
  6. If the premiums are not paid on time, the life insurance policy may lapse
  7. There is no guarantee of investment performance

This is a complicated decision. Do not make this decision without seeking qualified, professional advice on your specific situation.