Making life work for estate planning

Transcription

1 Life insurance opportunities Making life work for estate planning Financial professional s guide m A Securian Company

2 The Tax Relief Act of 2010 significantly changed the federal transfer tax system, including a $5.12 million federal estate and gift tax exemption for This exemption is scheduled to decrease to $1 million in As a result, there will be fewer individuals affected by federal estate taxes. This presents an opportunity for more individuals to use life insurance to accumulate wealth without worrying about death benefit proceeds in their estates. Since the act only applies for 2011 and 2012, estate and gift tax exemptions could revert to lower levels at the end of this period. This means clients must prepare to do additional estate planning in the future. Life insurance - Not just for federal estate tax While federal estate taxes can be a significant expense at death, life insurance can also be used for other expenses including state death taxes, income taxes from IRD (Income Respective of the Decedent) assets and administrative expenses. But more importantly, life insurance continues to provide an income tax-free death benefit for: Continuation of family values, traditions and incentives State death taxes Disability Family businesses Second marriages Special needs planning Philanthropy Other debt and final expenses

3 Tax Relief Act of 2010 Under the Tax Relief Act of 2010, for 2012 each individual has a $5.12 million exemption from both gift and estate taxes with a maximum tax rate of 35 percent. The exemption can be used in any combination during life or at death, as long as the total amount does not exceed $5.12 million. Tax law summary and forward Estate Tax - Exemption $5 million $5.12 million $1 million Indexed for inflation? No 2012 only No Maximum rate 35% no election made 35% 55% Portable between Yes Yes No spouses 1 Step-up in basis at death? Yes Yes Yes Gift Tax - Exemption $5 million $5.12 million $1 million Indexed for inflation? No 2012 only No Maximum rate 35% 35% 55% Portable between Yes Yes No spouses 1 GST Tax 2 - Exemption $5 million $5.12 million $1 million Indexed for inflation? No 2012 only Yes Maximum rate 35% 35% 55% Portable between spouses N/A No No GRATs 3 No change No change No change Discounts No change No change No change 1 The unused exemption is available to a surviving spouse only if an election is made on a timely-filed estate tax return (including extensions) with the computed amount available for portability. 2 Generation Skipping Transfer Tax. 3 Grantor Retained Annuity Trusts-Congress has considered a 10-year minimum term for GRATs. 1

4 Two new approaches to estate tax planning The Tax Relief Act of 2010 results in the opportunity to consider two different strategies for federal estate tax planning: Get it out of the estate, or Keep it in. 1. Get it out estate planning approach This approach uses the increased gift tax exemption to transfer assets outside the client s estate. It may be appropriate for older clients who no longer need certain assets. 2. Keep it in estate planning approach Since younger clients may hesitate to move large amounts of assets out of their estates, they may choose the keep it in approach. This lets them use the higher federal estate tax exemption, along with the ability to transfer unused estate tax exemptions to the surviving spouse. Get it out 2012 Keep it in 2012 Target client Older over the age of 70 Ultra-high net worth estates over $5 million for single individuals, over $10 million for married couples Younger under the age of 70 High net worth estates under $5.12 million for single individuals, under $10.24 million for married couples Exemption utilized $5.12 million gift tax exemption (planning during lifetime) $5.12 million estate tax exemption (planning at time of death) Potential risk Possible gift tax claw back, meaning assets can be pulled back into the decedent s estate Inflexibility in the estate plan - since assets remain in the estate, it is important to have a flexible estate plan. Estate tax exemption is scheduled to return to $1 million in

5 Get it out approach Irrevocable Life Insurance Trust (ILIT) strategy For high net worth clients, this strategy provides the opportunity to gift large amounts of premiums into ILITs. This strategy is even timelier with the new lifetime exemption. The ILIT strategy is for: High net worth individuals. Individuals who have a large illiquid asset such as businesses, farms, or qualified plans. Individuals who live in states with a state death tax. Individuals in blended marriages. How the ILIT planning strategy works: An ILIT is an irrevocable trust designed to own life insurance where the death benefit is taken out of the grantor s estate. In the past, paying the ILIT premium posed a challenge. Because the life insurance policy was inside the trust, traditional funding of the premium used the annual gift tax exclusion ($13,000/person in 2012) and/or a lower lifetime gift exemption. The Tax Relief Act of 2010 changed the lifetime gift tax exemption to $5.12 million per person in As a result, it may make sense to gift large amounts into an ILIT-owned policy for This gift can be used to pay premiums or an income-producing asset to fund future premium payments. Irrevocable Life Insurance Trust Grantor ILIT Estate and income tax-free death benefit paid to children At death of insured(s) Child 1 Child 2 Child 3 Ways to fund ILITs: Traditional use of Crummey gifts Private Split-Dollar Private Financing Premium Financing Recommended life insurance products: Legacy Protector SUL second-to-die Eclipse Survivor Indexed Life second-to-die Eclipse Indexed Life Eclipse Protector Indexed Life Secure Whole Life 3

6 Spousal Limited Access Trust (SLAT) strategy This strategy makes traditional ILITs more flexible by providing access to the life insurance policy s cash value for the family s lifetime needs while still maintaining the death benefit outside the taxable estate. The SLAT is for: Married individuals who want to access the cash value of a life insurance policy in an ILIT. How the SLAT strategy works: A Spousal Limited Access Trust is a special ILIT that allows the grantor s spouse to receive limited access to distributions from the trust during his or her lifetime. This is because the SLAT names the grantor s spouse and children as lifetime beneficiaries of the trust. Spousal Limited Access Irrevocable Life Insurance Trust ILIT Grantor Life insurance contract At death of insured(s) Non-Grantor Spouse* Child 1 Child 2 Child 3 *Non-grantor spouse has access to cash value for his or her health, education, maintenance and support. Recommended life insurance products: Eclipse Survivor Indexed Life second-to-die Eclipse Indexed Life Secure Whole Life 4

7 Dynasty Trust strategy The Tax Relief Act of 2010 exemption amounts ($5.12 million per person in 2012) are identical for gift, estate and generation skipping transfer taxes. This means clients have a greater opportunity to create Dynasty Trusts. The Dynasty Trust or Family Bank strategy is for: Individuals who want to create a legacy for future generations. How the Dynasty Trust strategy works: Dynasty Trusts are ILITs set up for the clients children, grandchildren and future generations. Instead of paying the full amount of the life insurance death benefit proceeds to beneficiaries, a Dynasty Trust pays income for a specified period of time. This time frame could be indefinite or limited depending on the applicable state s rule of perpetuities. ILIT with Dynasty Trust provisions Grantor Gift of premium Dynasty Trust Income Children At death of insured(s) Income Grandchildren Income and remainder distribution Future generations Recommended life insurance products: Legacy Protector SUL second-to-die Eclipse Survivor Indexed Life second-to-die Eclipse Indexed Life Eclipse Protector Indexed Life Secure Whole Life 5

8 Keep it in approaches Life Insurance in Retirement Program (LIRP) strategy With the Tax Relief Act of 2010 increased exemption, clients may reduce the amount of life insurance they purchase for estate planning purposes. This means they may have freedom to accumulate wealth without worrying about the inclusion of policy cash values or death benefit proceeds inside their estates. In addition to providing valuable death benefit protection, life insurance can help your clients achieve their retirement income goals. Because cash value life insurance builds cash value on a tax-deferred basis, your clients may access any potential policy cash to supplement their retirement income via tax-favored loans and withdrawals. The LIRP strategy is for: Individuals with a defined death benefit need. Clients who want to accumulate tax-advantaged assets for supplemental retirement income. High net worth individuals who seek additional ways to save money for retirement. How the LIRP strategy works: The client purchases an accumulation-focused, permanent life insurance policy with the intention to overfund the premium. Should supplemental retirement income be needed in the future, cash value can be accessed. However, tax laws can change and there is a chance the Tax Relief Act of 2010 could revert back to lower levels after Therefore, clients may need to do additional planning if they want to place the life insurance contract outside of their estates in the future. Recommended life insurance products: Eclipse Survivor Indexed Life second-to-die Eclipse Indexed Life Accumulator VUL Secure Whole Life 6

9 Wait-and-See Estate Planning strategy This strategy uses a combination of life insurance and trusts in a way that offers clients flexibility to support changing circumstances throughout their lives. It is a strategy for married couples who want to maintain control of and access to life insurance policies that eventually fund their legacies, estate taxes, or both. The Wait-and-See approach is for: Married couples who want life insurance to fund estate tax liquidity. Younger people who need estate planning flexibility. High net worth couples who make annual exclusion gifts (up to $13,000 for 2012). Two types of Wait-and-See strategies: The One Policy approach uses a second-to-die life insurance policy and is used in common law states. The Two Policy approach uses two individual life insurance policies and is used in community property states. How the Wait-and-See One Policy works: A couple applies for a second-to-die life insurance policy. While the policy covers two lives, once issued it is owned by only one of the insureds. The insured owning the policy should be mortality inferior, or most likely to die first due to age or health considerations. In this example, the husband is the mortality inferior insured. Husband s estate Insured: Husband and Wife Owner: Husband (b) Beneficiary: Husband s Credit Shelter Trust (a) When the husband dies, a Credit Shelter Trust (a) is established. The second-to-die policy is transferred to the Credit Shelter Trust (a). The owner is changed from the husband to the trust. Husband s estate at death Wife s estate (d) Husband s death Credit Shelter Trust (a) Wife s Marital Share (c) (b) 7

10 Credit Shelter Trusts (a) are typically funded by assets with a fair market value that equals up to the Federal Estate Tax Exclusion. The remaining estate funds the wife s Marital Share (c). The fair market value of an asset is determined at the time of the owner s death. The fair market value of a life insurance policy is not the death benefit, but an amount close to the policy s cash value. Credit Shelter Trusts are typically funded with assets that appreciate in value. This is because all proceeds in the Credit Shelter Trust, including any appreciation, pass tax free to the beneficiaries upon the wife s death. The remaining assets in the wife s estate (d) and the Marital Share (c) can be used as a source of income for ongoing expenses. Upon the wife s death, the second-to-die policy (b) pays the death benefit, further funding the Credit Shelter Trust (a). Estate taxes are assessed on the wife s estate (d) and Marital Share (c). The proceeds from the Credit Shelter Trust pay any remaining estate taxes due on the wife s estate (d) and the Marital Share (c). The remaining value passes tax free to her beneficiaries. What if mortality superior spouse dies first? In this example, if the wife dies first, the husband transfers the second-to-die life insurance policy (b) to an Irrevocable Life Insurance Trust (e). But if the husband dies within the first three years of transferring the policy, the policy is pulled back in to his estate. Recommended life insurance product: Eclipse Survivor Indexed Life second-to-die How the Wait-and-See Two Policy works: A couple applies for two individual life insurance policies. Each policy is owned by the other spouse. For example, the husband owns a policy on the wife and the wife on the husband. Husband s estate Insured: Wife Wife s estate Insured: Husband Owner: Husband (a) Beneficiary: Husband Owner: Wife (b) Beneficiary: Wife 8

11 When the husband dies, the policy insuring the wife (a) is placed in a Credit Shelter Trust (c) under the husband s estate. The death benefit from his life insurance policy (b) is paid to the wife. She can use these funds for income replacement or other legacy needs. Husband s estate at death Wife s estate Death benefit from husband s policy (b) Husband s death Credit Shelter Trust (c) Insured: Wife Wife s Marital Share (d) Owner: Credit Shelter Trust (a) Beneficiary: Credit Shelter Trust Credit Shelter Trusts (c) are typically funded by assets with a fair market value that equals up to the Federal Estate Tax Exclusion. The remaining estate funds the wife s Marital Share (d). The fair market value of an asset is determined at the time of the owner s death. The fair market value of a life insurance policy is not the death benefit, but an amount close to the policy s cash value. Credit Shelter Trusts are typically funded with assets that appreciate in value. This is because all proceeds in the Credit Shelter Trust, including any appreciation, pass tax free to the beneficiaries upon the wife s death. The remaining assets in the wife s estate and the Marital Share (d) can be used as a source of income for ongoing expenses. Upon the wife s death, her life insurance (a) pays a death benefit, further funding the Credit Shelter Trust (c). Estate taxes are assessed on the wife s estate and the Marital Share (d). The proceeds from the Credit Shelter Trust help pay any estate tax due on the wife s estate and the Marital Share (d). The remaining value passes tax free to her beneficiaries. Recommended life insurance products: Eclipse Indexed Life Eclipse Protector Indexed Life Secure Whole Life 9

12 This information may contain a general discussion of the relevant federal tax laws. It is not intended for, nor can it be used by any taxpayer for the purpose of avoiding federal tax penalties. This information is provided to support the promotion or marketing of ideas that may benefit a taxpayer. Taxpayers should seek the advice of their own tax and legal advisors regarding any tax and legal issues applicable to their specific circumstances. Life insurance products contain fees, such as mortality and expense charges, and may contain restrictions, such as surrender periods. Variable life insurance products contain additional fees, such as management fees and fund expenses. The variable investment options are subject to market risk, including loss of principal. Policyholders could lose money in these products. Policy loans and withdrawals may create an adverse tax result, in the event of a lapse or policy surrender, and will reduce both the cash value and death benefit. Please keep in mind that the premium reason for purchasing life insurance is the death benefit. For financial professional use only. Not for use with the public. Minnesota Life Insurance Company A Securian Company Variable Products are distributed by Securian Financial Services, Inc. Member FINRA/SIPC. 400 Robert Street North, St. Paul, MN Securian Financial Group, Inc. All rights reserved ICC ICC ICC ICC F Rev DOFU A