Estate Planner s View of Life Insurance and Annuities for Medium-size Estates Michael F. Amoia, JD, LLM (Tax), CFP, CLU, ChFC Vice President, Advanced Sales Crump Life Insurance Services For Training Purposes Only. Not for Client Use. 1
Disclaimer This information is intended solely for the information and education of those agents doing business with Crump Life Insurance Services and is not intended for use as the basis for legal or tax advice. This information cannot be used by any taxpayer for the purpose of avoiding penalties that may be imposed on such taxpayer. Any individual should consult with his or her own legal or tax advisors for specific legal or tax advice. This presentation is not intended to be an opinion and does not contain a full description of all facts or a complete exposition and analysis of all the relevant tax authorities. Information in this presentation was not intended or prepared to be used, and it cannot be used or relied upon by any party for the purposes of (i) avoiding any penalties that may be imposed on any taxpayer by any governmental authority or agency; (ii) promoting, marketing or recommending to any party any transaction or matter addressed herein; or (iii) making any investment decision. ADVM11-1633-B, expiration date July 2012 2
Agenda Planning Needs Understanding Life Insurance Financials Detailed Review of Life Insurance Policies The Policies How to Use Tax Issues Opportunities for Annuities Features Tax Issues for Non-Qualified Hybrid Products Something New(er) 3
Word on the Street We re not multi-millionaires. Why do I need to worry about estate planning? Client
Influencing the Behavior of Beneficiaries Wealthy parents have two major concerns: 1. Children are not going to live as well as they do 2. Wealth that parents leave their children is going to spoil them Don t Know 50% 5% 25% The Same 20% Better How do you bridge gap between these two conflicting interests? Worse Source: Where America Stands, CBS News Poll, May 2010
Estate Planning Defined The efficient transfer of your assets to another... Estate Planning is about managing the inefficiencies created by: Improper transfers Market Risks Lack of liquidity Taxes
Position the Legacy Plan Shift emphasis Taxes Goals / Values
Non-Tax Reasons for Planning Creditor protection Divorce/second marriage protection Minor Children Spendthrifts Special Needs Planning Professional Management/Investment Options Elder Care Planning Attorney Howard Zaritsky, as quoted in Wall Street Journal, March 5, 2011, believes the main benefit of long-lived trusts is that they protect family assets from being dispersed by creditor claims and divorce. 8
The Market Year Return 50 40 30 20 10 0-10 -20-30 -40 Return 1995 38.02 1996 23.06 1997 33.67 1998 28.73 1999 21.11 2000-9.11 2001-11.98 2002-22.27 2003 28.72 2004 10.82 2005 4.79 2006 15.74 2007 5.46 2008-37.22 2009 27.11-50 Not for Client Use 2010 14.87 2011 2.05
The Market Year Return 50 40 30 20 10 0-10 -20-30 -40 Return 1995 38.02 1996 23.06 1997 33.67 1998 28.73 1999 21.11 2000-9.11 2001-11.98 2002-22.27 2003 28.72 2004 10.82 2005 4.79 2006 15.74 2007 5.46 2008-37.22 2009 27.11-50 Not for Client Use 2010 14.87 2011 2.05
700 600 500 400 300 200 100 0 Historical Period Comparison 11.32% 10.77% S&P 500 Total S&P 500 Price 8.24% Not for Client Use 11 Value of $1 Invested in 1950
The Equity Risk Premium Data from 1950-2010 S&P 500 Total Return Moody's AAA Bond Composite Geometric Mean Return 11.05% 6.86% Standard Deviation 17.79% 3.06% Hist. Observed Premium 4.19% 0% Not for Client Use 12
Key Client Drivers Guarantees Flexibility Control
Life Insurance or Annuity Life Insurance = Creation of an Estate Temporary Forever Annuity = Liquidation of an Estate te Now Later
Carriers Financial Strength Review Ratings as of October 31, 2011 Carrier Sponsors: Carrier A.M. Best Co. (Best's Rating, 15 ratings) Standard & Poor's (Financial Strength, 20 ratings) Moody's (Financial Strength, 21 ratings) Fitch Ratings (Financial Strength, 24 ratings) COMDEX RBC % as of YE financials (as of cy 2010) American General Life (NYSE:AIG) A (3) A+ (5) A2 (6) A (6) 82 467% Aviva Life & Annuity (LSE:AV) A (3) A+ (5) A1 (5) 87 358% AXA Equitable Life Ins Co (NYSE: AXA) A+ (2) AA- (4) Aa3 (4) AA - (4) 95 1508% Genworth Life Insurance Co (NYSE: GNW) A (3) A (6) A2 (6) A- (7) 79 532% ING Life Ins & Annuity (NYSE: ING) A (3) A (6) A2 (6) A- (7) 79 426% John Hancock Life (NYSE: MFC) A+ (2) AA- (4) A1 (5) AA- (4) 94 731% Lincoln Financial (NYSE: LNC) A+ (2) AA- (4) A2 (6) A+ (5) 88 492% Metropolitan Life Ins Co (NYSE: MET) A+ (2) AA- (4) Aa3 (4) AA- (4) 95 593% Nationwide Life A+ (2) A+ (5) A1 (5) A (6) 87 595% Principal Life (NYSE: PFG) A+ (2) A (6) Aa3 (4) AA- (4) 91 422% Protective (NYSE: PL) A+ (2) AA- (4) A2 (6) A (6) 87 455% Prudential Ins Co. of America (NYSE: PRU) A+ (2) AA- (4) A2 (6) A+ (5) 88 533% Transamerica Life Ins (NYSE: AEG) A+ (2) AA- (4) A1 (5) AA- (4) 93 401% United of Omaha A+ (2) A+ (5) A1 (5) 92 411% Not for Client Use 15
History of Life Insurance According to LIMRA, that in more than 200 years of American history, no death benefit has ever been denied due to an insurance company s insolvency. 16
The Basics Whole Universal Variable Indexed Life Life Life Life Type of Vehicle Fixed, Long Term Fixed, General Account Fixed, Equity, Mutual Fund Options plus General Account Clones Who Controls Insurance Company Insurance Company Policy Owner Insurance Company How Credited Credited as Dividends Credited as Excess Interest Credited as Investment Returns Credited based on Index performance relative to fixed assets
Understanding the Basics Premium Contribution POLICY CASH VALUE Sales Charges Overhead Expenses Mortality Charges Rate of Return 18
Product Risk & Return Projected Returns Indexed UL Current Assumption UL Variable UL Measure of Risk Slide Provided by Bobby Samuelson of Samuelson Design 19
Market Upside The Pitch IUL Long-Term Yield Advantage Over CAUL Downside Protection Slide Provided by Bobby Samuelson of Samuelson Design 20
Indexed UL Financial Construction 7% Cap Equity Hedges (2.9%) Equity-Linked Credits Net Premium (3% Yield) 0% Floor General Account (97.1%) Guaranteed Product Floor Not for Client Use 21
CARRIERA IN-FORCEDATA Effective Date Cap Illustrated Rate 01/17/2000 10.00% 7.10% 08/01/2000 11.00% 7.50% 10/16/2000 12.00% 7.90% 12/01/2001 11.00% 7.50% 04/01/2003 10.00% 7.10% 12/15/2003 11.00% 7.50% 02/15/2007 10.00% 7.10% 01/01/2010 9.50% 6.35% 10 Year Average (Spreadsheet) 4.83% Differential (Illustrated vs. Actual) 152bps to 307bps Information Provided by Bobby Samuelson of Samuelson Design Not for Client Use 22
The Death Benefit: To GUL or Not... C o m p e t i t i v e l a n d s c a p e t h e T i p p i n g P o i n t i s g e t t i n g c l o s e r! Current Assumption Product A Current Assumption Product B No-Lapse Guarantee Product Premium $10,784 $12,803 $12,142 Cash Value Year 20 $109,477 $230,601 $56,608 Guarantee Year 27 30 45 Male, Age 56, Preferred non-tobacco, 1MM death benefit to age 100. Not for Client Use 23
No-Lapse guarantee market movement in 2011 Carrier Price Action Carrier Price Action American General + MetLife + Aviva + Nationwide + Genworth - Minnesota Life Flat Hartford + Pacific Life + ING + Principal + John Hancock + Protective - Lincoln Benefit + Prudential + Lincoln Financial + Transamerica Flat 24
HOW IT FITS 25
Legacy Planning Needs Spousal Support Estate Equalization Blended Families One-Way Buy-Sell Special Needs Planning Same Sex Couples Asset Class Planning Life insurance can provide liquidity, guaranteed and control for each.
The Market Year Return 50 40 30 20 10 0-10 -20-30 -40 Return 1995 38.02 1996 23.06 1997 33.67 1998 28.73 1999 21.11 2000-9.11 2001-11.98 2002-22.27 2003 28.72 2004 10.82 2005 4.79 2006 15.74 2007 5.46 2008-37.22 2009 27.11-50 Not for Client Use 2010 14.87 2011 2.05
Life Insurance as Asset Class Not for Client Use
ANNUITIES 29
What is an Annuity? A Contract to pay... Annuity A contract between you and an insurance company, under which you make a lump-sum payment or series of payments. In return, the insurer agrees to make periodic payments to you beginning immediately or at some future date. 30
Phases of a Deferred Annuity Accumulation Phase Payout Phase Deferred Annuity 31
Accumulation Phase Traditional Fixed: Pays declared interest rate Fixed Index: interest is based on performance of an index or indices Funds are paid into the contract by the owner Deferred Annuity Variable: owner selects subaccounts, interest based on account performance. 32
Payout Phase Payments can be distributed for annuitant s lifetime Longer of Annuitant s Life or Certain Period Payments can be distributed over a period of time Deferred Annuity Payment can be based on lifetime benefits rider 33
Living Benefits At an additional cost: A guaranteed minimum death benefit, which locks in the amount you can leave your beneficiaries A guaranteed minimum income benefit, which guarantees a particular minimum annuity payment A guaranteed minimum accumulation benefit, which guarantees a minimum account value at some point in the future (as agreed upon by you and the insurance company). A guaranteed minimum withdrawal benefit, which guarantees a minimum stream of income, either equal to the contract principal or for life, providing you withdraw within specified limits over time. Access to additional liquidity due to a long-term care situation, such as entering a nursing facility.
The Basics for Non-Qualified When considering a nonqualified annuity, most clients and many of their advisors (regardless of whether they are attorneys, certified public accountants, or financial professionals) focus on the tax deferral generally available for nonqualified annuities under Code 72. Qualified Distributions Age 59 ½ or older, Disability, Substantial Equal Periodic payments SPIA, or Death of Non-Qualified Annuity (NQA) owner. 35
NQ Deferred Annuities: Natural v. Non-Natural Under Code 72(u), annuities owned by a person who is not a natural person do not qualify for tax deferral because they are not treated as annuity contracts for income tax purposes (other than for the insurance company provisions of subchapter L). Non-natural persons would include: Trusts Partnerships Limited Liability Companies Corporations 36
Exceptions Annuities acquired by a decedent's estate because of the decedent's death; Annuities held under a plan described in Code 401(a) (qualified pension, profit-sharing, or stock bonus plans), as a Code 403(b) tax-sheltered annuity, or as part of an IRA (including SEPs and SIMPLEs); Annuities purchased by an employer for distribution to an employee or beneficiary on the termination of a qualified plan or tax-sheltered annuity and held until the annuity is distributed; Immediate annuities; Annuities used to fund a structured settlement under Code 130; or Annuities held as an agent for a natural person. 37
NQ Deferred Annuity: Grantor Trust Conceptually, a grantor trust in which an individual is treated as the grantor under Code 671-678 would seem to avoid the non-natural person tax trap. Only three private letter rulings involving whether grantor trusts are agents for natural persons appear to have been issued. PLRs 9316018, 9322011, 9810015. In PLR 9322011, the IRS stated that [w]here a trust holding an annuity contract is a grantor trust, and a natural person is treated as the owner of the trust under [the grantor trust rules], the trust is treated as holding the annuity contract for that natural person under section 72(u)(1). This is different for IRAs... Special Needs Trust, OK By Grantor, NO (See 2011 PLR s) 38
Death of Non-Qualified Annuity Owner Individuals named as beneficiaries of non-qualified annuities have three options : Non-Spousal Beneficiary Distribution of entire contract within five years The value of the annuity must be annuitized within one year of the date of the owner s death, or Lump sum Spousal Beneficiary The surviving spouse may choose to become the owner of the contract and no distribution is required. However, if anyone else is named as a primary beneficiary along with the spouse, then the spousal option of continuing the contract is lost. 39
Trust Beneficiaries In contrast, if a trust is the beneficiary of a nonqualified annuity: Code 72(s) says that the trust must receive the annuity balance within five years of the annuity owner's death. It cannot stretch the distributions over the life expectancy of one or more trust beneficiaries or take advantage of the options available to a spouse, even if the spouse is the sole beneficiary of the trust.* * For nonqualified annuities, the five-year period ends on the fifth anniversary of the triggering death. **There is no provision under Code 72(s) and the associated regulations comparable to that of Treas. Reg. 1.401(a)(9)-4, A-5, which permits a trust named as the beneficiary of an IRA or an employersponsored plan including 401(k) plans, profit-sharing plans, SEPs, and SIMPLEs to be treated as a designated beneficiary if certain requirements are met. 40
Estate Tax For federal estate tax purposes, the total value of the contract is subject to estate tax. Annuities are income in respect of a decedent (IRD) and are not eligible for "step-to" in basis at death. Therefore, the annuity is subject to ordinary income tax when distributed. 41
Hybrid Products $100,000 purchase Control CD No premiums Assets for children Will this be enough to pay for her longterm care expenses? Lincoln MoneyGuard Reserve Plus policy Control No additional premiums (one-pay policies) Assets for children LTC benefits worth multiple times her premium payment Figures based on 60-year-old female, healthy, nonsmoker. Not for Client Use 42
A smarter alternative to selfinsuring SM Your client can purchase a Lincoln MoneyGuard Reserve Plus policy with a portion of cash reserves. The policy remains an asset in their portfolio, and it offers: OR A money-back guarantee. At any time, your client can request a return of premium, upon full surrender of the policy. The amount received will be adjusted for any benefits paid and any loans and cash withdrawals, and it may have tax implications. The money back guarantee is included in the policy cost through the Enhanced Surrender Value Endorsement, which is available at issue on all single premium policies and flexible premium policies for ages 35 65. See Endorsement for complete terms and conditions. An income tax-free death benefit. When the client dies, the policy pays an income tax-free death benefit to their beneficiaries.* OR Long-term care benefits. If the client needs long-term care, the policy can provide income tax-free reimbursements for qualified long-term care expenses. * Beneficiaries can receive an income tax-free death benefit under IRC Section 101(a)(1). Long-term care reimbursements are generally income tax-free under IRC Section 104(a)(3). 43
Hypothetical case study: Protecting retirement income Other Life insurance to create a legacy Portion of savings $150,000 Premium Investments/ retirement products Cash savings $150,000 Money back guarantee $184,499 Income tax-free death benefit for beneficiaries $553,497 Income tax-free long-term care reimbursements OR OR Hypothetical example only. Benefit amounts will vary by client s age, health status, and gender (except in Montana, where gender does not affect rates or benefits). His maximum available benefit is $92,250 per year for six years ($7,687 per month). 44 LCN1109-2059094
LIFE INSURANCE SETTLEMENTS 45
Life Insurance Settlements Life insurance is no longer needed, or becomes cost prohibitive, or is not performing as expected Insured has outlived risk insured against, business use of life insurance has passed Candidates: Over age 65 Adverse change in health $250,000 plus policy death benefit No longer wants or can afford 46
Life Insurance Settlements How Much? Market Value Difference between the present value of the death benefit and the present value of anticipated premiums Life expectancy of insured is one of biggest factors affecting the value Shorter life expectancy means smaller discount will apply to death benefit and fewer premiums will be needed 47
Life Insurance Settlements Taxation If true viatical settlement Terminal death within 24 months it is tax-free Sale of policy Amount up to basis is tax-free Difference between basis and CSV is ordinary income tax Any proceeds over and above the greater of basis or CSV is capital gains 48
Life Insurance Settlements Taxation Example Policy is sold for $500,000 Total Tax Basis is $125,000 CSV is $225,000 Sale Price is $500,000 $275,000 BALANCE is Capital Gains Tax $100,000 CSV minus BASIS is Ordinary Income Tax $125,000 BASIS is Tax-free Not for Client Use 49