Download Lifetime Giving: Life Insurance

BASIC ESTATE AND GIFT PLANNING
Lifetime Giving: Life Insurance
BASIC ESTATE AND GIFT PLANNING | LIFETIME GIVING
A
well-constructed and comprehensive wealth
management plan includes a life insurance
program that is up-to-date and consistent with your
goals and objectives. Additionally, an irrevocable
life insurance trust may help you reduce your estate
taxes and achieve other wealth planning goals.
Purchasing life insurance is an important strategic step toward caring for your family and other
loved ones, especially those that depend on you for their financial support. It helps to protect
and transfer the wealth that you have earned or accumulated over your lifetime, as well as
assets gained from investment activities. Life insurance is also an effective tool to provide
liquidity to cover estate taxes, replace lost income, eliminate debt or provide for specific needs.
Like many other parts of your financial plan, your life insurance requires a periodic review so
that it continues to meet changing personal circumstances and other relevant needs. Events
that trigger a life insurance review include marriage, the birth or adoption of a child, the
purchase of a new home or a new job. Any changes in education funding, retirement planning
or estate and tax planning can also impact your life insurance program. External factors, such
as life insurance product innovation and significant market changes, should be considered too,
as you may find better policies.
TYPES OF LIFE INSURANCE
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Term Insurance: Temporary insurance that provides a death benefit of a stated amount
for a stated duration or term. At the end of the term, the coverage expires.
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Whole Life: Permanent insurance that offers a level premium and a guaranteed cash
value and death benefit.
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Universal Life: Permanent insurance that allows the insured to buy term insurance and
invest the rest within the same policy.
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No-Lapse Guarantee Universal Life Insurance: A type of universal insurance
whereby the insurer guarantees that the policy will stay in force as long as a certain
premium is paid.
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Variable Universal Life (VUL): A flexible premium policy that allows the insured to buy
term insurance and invest the rest within the same policy; however, with a VUL policy, the
cash value is invested among accounts that are much like mutual funds.
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SHAPING YOUR LIFE INSURANCE PLAN
Before you buy life insurance, you should first identify exactly what you would like to accomplish
with life insurance. An evaluation of your goals and objectives will assist you and your advisor
in determining the appropriate amount of coverage and type of insurance.
Once an assessment has been performed and your goals articulated, there are many factors to
consider when evaluating the suitability of various insurance options. Much like investments,
certain types of insurance products have dominant features and benefits that will align
themselves with characteristics you desire for the coverage.
It is important to assess the cost of the premium. You and your advisor need to address the
following questions about premiums:
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Is there a maximum premium you are willing to pay for the coverage?
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If the underwriters want to charge you more for the insurance, will you agree to pay more
or compromise on other aspects of the policy design?
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Is there a particular period over which you wish to pay the premium?
Your estate may call for either a level or increasing death benefit. For example, if your estate
is expected to grow, resulting in an increased tax liability, you may want to purchase a policy
with an increasing death benefit. On the other hand, if your estate is not growing or the estate
tax liability is not increasing, a level death benefit may be adequate. The flexibility to skip or
change premiums is a factor that may be beneficial for some individuals. For example, if you
have varying demands on cash flow or your business is cyclical, the ability to skip or reduce the
premium for a year or two may be an important element of policy design. You may also want
to be able to increase the premium without increasing the death benefit. This is an efficient
way to use the policy as a savings or investment vehicle. In other cases, you may want to be
able to reduce the death benefit from time to time. The flexibility to reduce the death benefit
enables you to modify the policy as your need for insurance decreases over time. It also enables
you to maximize the cash value or reduce the premium commitment in the later years.
For some individuals, maintaining investment control over their cash value is an important
feature. If you want to direct the investment of the cash value, then variable life is the
appropriate type of policy. If you do not want to worry about asset allocation decisions with
respect to your life insurance policy, then variable life is not appropriate.
Tax considerations typically play a significant role when building the appropriate life insurance
strategy. The level of premium, or the duration of the premium payments, may need to be
coordinated with income, gift or generation-skipping transfer tax considerations. Predictability
of policy performance may be desirable in certain tax-oriented designs, such as generationskipping or split dollar.
HOW TO RE-EVALUATE AN EXISTING POLICY
If you have a life insurance program in place, review your policies periodically, especially if
you experience any of the triggering events such as marriage, divorce or additions to your
family. After re-evaluating your goals, you should start by pulling together certain key pieces
of information and examining them for basic requirements.
A current policy statement from the carrier will tell you the type of policy, the premium, the
guaranteed and total cash value and death benefit, the dividend amount and application,
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credited interest rate, any loan balance and interest rate and much more. If not already shown,
be sure to confirm policy ownership and beneficiary designation. The original sales ledger
illustration shows what you thought you were buying and what you likely expected from
the policy. The in-force ledger illustration shows where the policy stands today and how the
insurer projects it will perform in the future. Finally, the current ratings from the major services
tell you about the claims-paying ability of the carrier and other important information.
Once you have all the relevant information, review the following points:
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If the policy is whole life, check how the dividends are being applied. Is the application
appropriate?
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If the policy is universal life, check to see if the current premium is adequate to support
the death benefit for the necessary duration. If not, be prepared to explore the options,
which might include reducing the death benefit or just being content to support the death
benefit to several years beyond life expectancy.
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If the policy is variable life, look at how the cash value is being invested. Is the current
premium adequate to support the death benefit for the necessary duration, and what
options are available to bridge any gaps?
Whether the policy is new or existing, there are several additional points to consider once you
have evaluated or amended the suitability of various features. You and your advisor should feel
confident that the insurance carrier is strong. Clearly, you will not want to do business with
a carrier that you might outlive. Thus, the financial strength of any carrier submitted by an
insurance agent must be verified by the major rating services. Ratings themselves are primarily
indicative of the ability of the carrier to meet its obligations (i.e., to pay the claim). You and
your advisor must be assured that along with high ratings, the carrier is in a position to achieve
the projections made in the policy illustration, that it has treated policyholders well in the past,
that the products are competitive and well designed and, most importantly, that the policy is
appropriate for your needs.
In some cases, it may be appropriate to evaluate a life insurance policy exchange. Find out
if the carrier offers an internal exchange program that allows you to exchange your existing
policy for a new one with different features. You might find that the exchange can be done
without full medical underwriting or that the commission on the new product, the sales
loads or other policy costs may be reduced or eliminated.
If a policy replacement seems necessary, make sure you understand how the replacement policy
works, what values and benefits are guaranteed and what are not, the premium structure,
amount and duration, and the respective tax characteristics of the existing and new policies.
BENEFITS OF AN IRREVOCABLE LIFE INSURANCE TRUST
An irrevocable life insurance trust can help you reduce estate taxes and maximize the utility
of life insurance by arranging for ownership of the policy outside of your estate. Since estate
taxes are imposed upon all of the assets in the estate, many people choose to rearrange the
ownership of assets to most efficiently transfer property and meet tax liability. Because life
insurance is an asset that generally is of little value to an individual while alive, one method of
reducing estate taxes and maximizing the utility of life insurance is to arrange for ownership of
the policy outside of your estate through an irrevocable life insurance trust (ILIT).
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Purchasing life insurance is an important
strategic step toward caring for your
family and other loved ones, especially
those that depend on you for their
financial support.
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Generally, an ILIT can own a life insurance policy and remove the proceeds from the estate of
the insured and the insured’s spouse, while still preserving the benefit of the proceeds for the
family and providing needed estate liquidity. Under such an arrangement, the policy will be
purchased by the ILIT, and the grantor/insured will pay the premiums on the policy through
transfers that can qualify for the annual exclusion. Because neither the insured/grantor nor
spouse retains any ownership rights over the policy, the proceeds may escape taxation in both
estates. However, the terms of the ILIT can make the proceeds available to assist with estate
liquidity needs and provide for the needs of the family.
Note: Due to the fact that the trust is irrevocable, the grantor cannot get anything out of the
trust once the policy is added to the trust.
Assets of Husband and Wife
When First Spouse Dies
No Tax
Family Trust
This trust contains the
applicable exclusion
amount ($5.45M in
2016).
No Tax
No Tax
Marital Share
This share contains the assets
of the decedent in excess of the
applicable exclusion amount
and the survivor’s assets for the
benefit of the children.
Taxable
Irrevocable
Life Insurance Trust (ILIT)
This trust contains the life
insurance policy.
No Tax
Assets Pass to Children
* Assets from family trust are not taxable.
* Assets from ILIT are not taxable.
* Assets from marital share will be subject to tax. Amount in excess of the applicable exclusion
amount will incur tax liability.
Contributions to an ILIT are gifts of a future interest, which generally do not qualify for
the annual gift tax exclusion. This concern may be overcome by granting the beneficiaries
a power to withdraw a portion of the amount contributed to the ILIT for a specific period
of time after the contribution is made. This power to withdraw the gift creates a present
interest in the property, thus qualifying the transfer for the annual exclusion. The rules
governing such transfers and rights of withdrawal must be followed carefully to ensure
favorable gift tax treatment.
The failure of a beneficiary to withdraw the amounts permitted under the “Crummey”
provision generally result in a lapse of the power. Lapsed amounts in excess of $5,000 or 5%
of the assets subject to the power may be considered taxable gifts from the beneficiary back to
the trust. There are strategies that may be incorporated into the ILIT that can prevent adverse
tax consequences resulting from the lapse. The beneficiary may retain a limited power over the
amount in excess of $5,000 or 5%, which will prevent a lapse. Alternatively, the power over
the amount that exceeds $5,000 or 5% can simply not lapse until the ILIT becomes funded,
allowing powers to gradually lapse with no tax consequence. The IRS has in one situation
stated its opposition to these “hanging powers.”1
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If an existing policy is transferred by the insured to an ILIT and the insured dies within three
years of the transfer, the policy proceeds may be included in the insured’s estate.2 On the other
hand, if the trustee uses cash in the ILIT to purchase a new policy on the insured’s life and
the insured dies within the three-year period, the proceeds will generally be excluded from
his or her estate. Care should be taken to make certain that the insured has no “incidents of
ownership” in the policy or control over the trustee.
THE ATLANTIC TRUST APPROACH
Life insurance planning should be part of a comprehensive wealth management review. An ILIT
can own a policy of life insurance and remove the proceeds from the estate of the insured and
the insured’s spouse, while providing needed estate liquidity. At Atlantic Trust, our approach
to life insurance involves an assessment of our clients’ financial and estate planning needs.
Aligning those needs and preferences with key policy features and other pertinent factors is
critical in the selection of appropriate coverage amounts and types of insurance. Our goal is
to help you construct a life insurance strategy that will protect your loved ones and shield your
assets. n
The tax information contained herein is general and for informational purposes only. Atlantic Trust does
not provide legal or tax advice, and the information contained herein should only be used in consultation
with your legal, accounting and tax advisers.
1 TAM (Technical Advice Memorandum) 8901004.
2 IRC Section 2035.
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Atlantic Trust Private Wealth Management includes Atlantic Trust Company, N.A. (a limitedpurpose national trust company), Atlantic Trust Company of Delaware (a Delaware limitedpurpose trust company), and AT Investment Advisers, Inc. (a registered investment adviser), all of
which are wholly-owned subsidiaries of Atlantic Trust Group, LLC.
This document is intended for informational purposes only, and the material presented should not
be construed as an offer or recommendation to buy or sell any security. Concepts expressed are
current as of the date of this document only and may change without notice. Such concepts are
the opinions of our investment professionals, many of whom are Chartered Financial Analyst®
(CFA®) charterholders or CERTIFIED FINANCIAL PLANNER™ professionals. Certified Financial
Planner Board of Standards Inc. owns the certification marks CFP® and CERTIFIED FINANCIAL
PLANNER™ in the U.S.
There is no guarantee that these views will come to pass. Past performance does not guarantee
future comparable results. The tax information contained herein is general and for informational
purposes only. Atlantic Trust does not provide legal or tax advice, and the information contained
herein should only be used in consultation with your legal, accounting and tax advisers. To the
extent that information contained herein is derived from third-party sources, although we believe
the sources to be reliable, we cannot guarantee their accuracy. Approved 1238-16. For Public Use.
Investment Products Offered are Not FDIC-Insured, May Lose Value and are Not Bank Guaranteed.
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