Design, analysis, implementation of policies for affluent clientele

Since BryanMark was founded in 2004, the only constant in estate tax planning has been change. In 2004, the estate tax laws called for the exemptions to increase until the end of 2010 at which time they were scheduled to “sunset” and return to 2001 levels. Current estate planning exemptions and tax rates are again scheduled to “sunset” at the end of 2025. Regardless of how Congress decides to settle the estate tax legislation, clients with larger estates can expect that, without proper planning, taxes will likely erode a significant percentage of the assets they have spent their lives building. Particular attention must be given to illiquid assets within the estate to help ensure that estate taxes and other estate settlement costs can be paid while preserving assets for the next generation.

While the legislative uncertainty presents a myriad of challenges for wealthy clients, the importance of a properly designed life insurance portfolio remains unchanged. Life insurance policies correctly positioned in the appropriate trusts continue to be a bedrock asset within sophisticated estate plans to deliver unique benefits with precision timing that no other asset class can duplicate.

In the context of business succession planning, life insurance is often used to fund the buyout obligation established between business partners or shareholders in buy-sell agreements. A buy-sell agreement is a legally binding contract that specifies how a deceased shareholder’s ownership interest in the business will transfer in the event of his/her death, disability and other trigger events. A buy-sell agreement creates an obligation to purchase stock at death, but many business have either an unfunded or underfunded buy-sell agreement. By using life insurance to fund a buy-sell agreement, the surviving shareholders use the proceeds from the policy to purchase the deceased shareholder’s ownership interest, thus facilitating the continuity of the business.

Establishing the value of closely held businesses is an important element that also must be considered in determining the most favorable policy design. There are different types of buy-sell agreements that require an appropriately coordinated ownership arrangement of the underlying policies. Policies must also be designed to accommodate the inevitable future changes that will occur over the life cycle of the business. This is especially important in closely held or family-owned businesses where the death of a key partner or shareholder can have significant implications for the future of the business.

Life insurance policies are an underutilized tool to help satisfy obligations created in divorce situations. It is common for a divorced spouse to be required to provide a lump sum both at death and at a stipulated point in the future. While most view the life insurance obligation as a sunk cost, we have often been able to meaningfully reduce the total net cost of providing the divorce obligations through specialized policy designs that combine cash value access with the ability to make certain future policy changes. Existing policies should be reviewed to potentially unlock similar opportunities to fund the divorce obligations most efficiently. Life insurance is a resource that can be deployed to preserve other assets when designed and implemented appropriately.

In its most general form, a split dollar arrangement is a plan to pay the premiums on a permanent life insurance policy in which the premium, cash value and death benefit are split between two parties. There are many different types and uses of split dollar arrangements that our clients have used to meet certain planning goals in a range of planning contexts.

Endorsement Split Dollar: Using a Company Policy to Accomplish Personal Goals

Endorsement Split Dollar is an eloquently simple strategy that business owners may use to provide for personal life insurance death benefit needs. In this arrangement, one party (often a business) is the owner of a life insurance policy with its own need for the coverage. For example, a business may acquire a life insurance policy on a shareholder or a key employee to provide needed liquidity at that person’s death. If the shareholder/employee also has a personal life insurance need, such as a need to replace income for a surviving spouse, an endorsement arrangement may be used to provide for that need as well. In the example in which the company owns a policy on a key employee, the company may endorse a portion of the policy to the employee’s spouse. The employee pays the company an annual amount to effectively rent the coverage during the period of a client’s life in which it is needed. We combine this split dollar funding technique with our policy design creativity to maximize flexibility while securing the needed coverage at an efficient cost.

Collateral Assignment Split Dollar: Utilize Corporate Cash Flow To Fund Estate Taxes

A common strategy implemented by wealthy clients to provide liquidity to pay estate taxes at death is to position a large life insurance policy in an Irrevocable Life Insurance Trust (ILIT) to prevent income and estate taxation on the death benefit proceeds. These policies often require annual premiums that far exceed the annual tax-free gifting limitations. Further, business owner clients often want to use the company as the source of premium funds to pay for the estate planning coverage. In these situations, a collateral assignment split dollar arrangement may be used to accomplish the following objectives:

• Use corporate funds to fund the policy owned in the ILIT
• Provide the ILIT with the life insurance death benefit needed to provide for estate taxes and other estate settlement costs at death
• Minimize income tax and gift tax impacts of the arrangement
• Avoid third party lending arrangements

There are many complexities to these arrangements that must be properly designed, coordinated and annually managed to achieve the desired results, so we always work closely with your personal attorney and accountant as needed. Future exit planning must be done prior to issue to provide a mechanism to unwind the arrangement if the insured(s) long outlives typical life expectancy.

Not all large estates need the liquid death benefit proceeds provided by life insurance. Many estates are mostly liquid and have sufficient cash and cash equivalents to comfortably pay all estate settlement costs and make all the desired transfers to the heirs. Why do many affluent clients in this situation still acquire life permanent life insurance and strategically position it within their estate plans? The reason is that life insurance policies can be designed to provide favorable investment benefits when viewed in the context of the entire estate holdings. From an investment perspective, life insurance has the potential to provide the following benefits.

• Add unique diversification that is uncorrelated with the financial markets.
• Provide long term rates of return that are competitive with comparable assets classes on a risk adjusted basis.
• Provide the needed liquidity at the exact time it is needed. Other asset classes may be in a temporary downturn when death occurs and life insurance can help smooth returns in these situations.
• Address the possible problem of the lack of a step up in basis in irrevocable trusts.

Our Life Insurance Audit service is designed to thoroughly evaluate the performance and viability of a client’s current permanent life insurance policies. The first step of the Life Insurance Review is to assess past and projected future performance of the current policy to determine if it has performed as originally intended and if it will continue to best meet the policy owner’s needs in the future. As an initial step we provide the following:

• Summary of current policy values
• Explanation of the current type of policy
• Review of the surrender charge schedule
• Mortality assumptions and life expectancy data used to price the current policy
• Review of the underwriting rate used to price the current policy and determine if a rate class/mortality cost improvement is possible in the current marketplace.
• Review of the underlying life insurance company in context with current market trends
• Explanation of certain other relevant contract provisions

We will concurrently request in-force illustrations that incorporate the actual performance of the policy since it was issued and show how the policy may be expected to perform in the future based on certain assumptions. The overall goal of the in-force illustration review is to determine if the policy is adequately funded at the current premium level. Given the prolonged low interest rate environment, less than anticipated market returns and other factors, it is very common for policies to lag the projections shown on the original illustrations.

We will perform a detailed review of the insured’s medical history and records and evaluate any health changes that have occurred since the policy was issued to provide an updated assessment of the insured’s life expectancy. Changes in the insured’s life expectancy – longer or shorter – since the policy was issued have a significant impact on the course of action that is ultimately chosen.

The end goal of a life insurance audit is to determine what actions should be taken. Possible suggested actions include:

• Maintain the current policy “as is”
• Restructure the current policy by changing certain policy elements such as the amount of premium paid, the most favorable premium schedule, the death benefit, etc.
• Replace the current policy with a more competitive policy.