Maximizing Planning Flexibility in Times of Market Turmoil and Tax Uncertainty

Maximizing Planning Flexibility in Times of Market Turmoil and Tax Uncertainty

Gifting Hesitation

Estate planning for clients often includes them making irrevocable gifts of assets to trusts or family members in order to minimize exposure to the Federal estate tax. That’s because the tax rate can be as high as 40% under current law if a client’s assets are valued above a certain amount when they die.

But estate tax exemptions and rates keep shifting, and the value of a client’s assets can change rapidly and unexpectedly, as the Great Recession and market volatility due to the coronavirus pandemic have proven quite recently.

These realities might make a client think twice about making irrevocable gifts, especially if the they might need the money in the future or if it turns out there is no estate tax, depending on the law and value of the estate at death.

We can solve this problem by maximizing flexibility and control while still mitigating taxes through a combination of common legal tools and life insurance, which is often used by families to provide liquidity for the payment of estate taxes.

Typical Arrangements

Irrevocable trusts for the benefit of heirs are common legal entities used for wealth transfer planning because trust assets can be exempt from estate tax and protected from creditors, often for multiple generations.

Transfers of assets to irrevocable trusts are often made using tax-free gifts, with a portion of the gift used by the trustee as premiums for life insurance.

  • The advantage of this arrangement is that the life insurance death benefit is paid tax-free in a lump sum to the trust and used by the heirs to pay estate taxes due on non-exempt assets.
  • The disadvantage is that the client loses control and access to the irrevocable gifts, including the tax-deferred cash value built up inside of the life insurance policy.

With this in mind, it is understandable why a client might be hesitant to make these gifts, especially with the estate tax in flux and capital markets in turmoil.

What if a client could enjoy the best of all worlds by minimizing the irrevocable transfers of assets during life, maintaining flexibility and control in case the situation changes, and utilizing life insurance to help accomplish estate and tax planning objectives?

A Solution With Four Simple Steps

  1. Client establishes an irrevocable trust for the heirs with estate tax and asset protection features.
  2. Client acquires a life insurance policy, retaining full ownership, control, and access to the cash value account should it be needed during life. The policy can insure one life or two lives, depending on the situation.
  3. Client executes an agreement with assistance from legal counsel, known as a “split-dollar arrangement,” endorsing only the death benefit portion of the life insurance policy to the irrevocable trust. This way, the client retains access to the cash value in case it is needed while still allowing the death benefit proceeds to be paid the irrevocable trust. The client can cancel this agreement at anytime if the situation or objectives change in the future.
  4. Client makes a nominal gift to the irrevocable trust to cover a small “economic benefit” tax due that ensures the death benefit will be paid income tax-free. This gift is the only asset client will need to irrevocably part with as a part of this plan. The client also has the option to report the economic benefit as a gift and to apply lifetime and generation-skipping transfer tax exemptions, if applicable.

Contact Us

Please contact Grant, Hinkle & Jacobs for more information about this and other customized wealth transfer and life insurance planning techniques.

Grant Hinkle & Jacobs does not provide legal or tax advice; please consult you legal and tax professional. Life insurance claims are backed by the issuing carrier and are not FDIC insured.