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Life insurance to avoid estate tax
Old 09-11-2020, 10:17 AM   #1
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Life insurance to avoid estate tax

Iíve heard a few financial advisors suggest that seniors whose estates would be subject to the estate tax create a life insurance trust where the payout to heirs would be tax free. That sounds well and good, but Iíve never seen any real numbers showing what the cost of premiums for seniors would be. Has anyone here ever run the numbers? Iíd be curious how the cost/benefit calculation looks.
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Old 09-11-2020, 11:10 AM   #2
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We are not near the estate tax threshold (unfortunately) but my understanding of the argument for life insurance is that it can prevent the forced liquidation of illiquid assets like privately-held businesses and farms. If the heirs can borrow against the assets that is another means to prevent forced liquidations.

Absent the forced liquidation risk, I think the only economic argument in favor of buying insurance is from the viewpoint of the insurance agents' paychecks.
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Old 09-12-2020, 02:43 PM   #3
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My Mom and Dad did this. They bought a second-to-die whole life policy on themselves, then stuck the policy itself into an ILIT, which is owned by a trust, of which my siblings and I are beneficiaries.

The annual premium bought about $41 of face value per dollar; they started the policy in their late 50's or early 60's.

The insurance agent demonstrated that my parents would only have to pay the premiums for 10, maybe 12 years, then the policy would be "paid up" (i.e., dividends would be enough to pay the premium).

I think my parents paid the premium for more like 15 or 20 years (gee, the agent was too optimistic - color me not surprised), and the face value of the policy is maybe half of what they would have made just investing the money. There was also the lawyers fees for setting up the trust and the hassle of conveying the policy into the trust and then paying the policy via the trust for the past dozen years or so.

The agent also didn't point out to us that the policy had been paid up for the past three or four years or so, and our annual premium was not really buying us much of anything beyond perhaps a nice signed holiday card from the agent.

It does provide relatively quick (think ~3 months; it's not the next day as the insurance people claim), unencumbered tax-free cash, which we could use to pay estate taxes, so that feature is moderately nice. If you need it. With the estate tax exemption amount, my Mom estate didn't owe a penny of estate taxes. My Dad is still alive and kicking, but his estate is looking like it's in the same situation unless the government lowers the exemption amount. Which they well may at some point.

So maybe good idea in theory but not so much in practice.
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Old 09-12-2020, 04:54 PM   #4
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Originally Posted by RenoJay View Post
I’ve heard a few financial advisors suggest that seniors whose estates would be subject to the estate tax create a life insurance trust where the payout to heirs would be tax free. That sounds well and good, but I’ve never seen any real numbers showing what the cost of premiums for seniors would be. Has anyone here ever run the numbers? I’d be curious how the cost/benefit calculation looks.
What you describe is not an unusual application of whole life insurance... but more typically in mid-life where a valuable farm or small business will push the decedent into estate tax territory... and to prevent the heirs from having to sell the farm or the business in order to pay the estate taxes. From what I know more prevalent in the past where the estate tax exemption was lower... less applicable today but still applicable in some cases.
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Old 09-12-2020, 11:07 PM   #5
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Another aspect of insurance as intergenerational wealth tax avoidance that we don't need to consider on this board, requires very serious $, think many M$ maybe $B, a unique policy can be made with an underwriter, like Lloyds of London, and arrange for a policy that would cost much less than estate tax levels.
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Old 09-13-2020, 11:46 PM   #6
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I’ve heard a few financial advisors suggest that seniors whose estates would be subject to the estate tax create a life insurance trust where the payout to heirs would be tax free. That sounds well and good, but I’ve never seen any real numbers showing what the cost of premiums for seniors would be. Has anyone here ever run the numbers? I’d be curious how the cost/benefit calculation looks.
DW and I set one up earlier this year. We bought a $3 million term life policy from a reputable insurer. Upon the demise of DW and I, the proceeds will be paid into an irrevocable trust (which we set up at the same time) and then paid out to our heirs who are the beneficiaries.

Benefits:
1. Proceeds are not counted as part of our estate and thus not subject to estate tax (if any).
2. Heirs have liquidity to pay for any expenses and estate tax (if any) upon our passing.
3. Provide asset protection (assets in irrevocable trust are safe from creditors).

Drawbacks:
1. Investment "returns" from such policies are capped with a limited selection of higher-fee investment options.
2. We lose control of the premium amount we pay into the policy.

We view this arrangement strictly as an estate planning tool, and are willing to forgo possible better investment returns in exchange for the benefits stated above. A large % of our NW is tied up in real estate, plus when the current federal estate tax amount sunsets in 2025 and reverts to $5 million per individual, we will be well into the estate tax territory, so we want to plan for it.

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Old 09-14-2020, 12:37 PM   #7
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When it comes to tax and legal matter my advice is always to seek out and obtain the best professional advice you can. I certainly would not depend on any insurance sales person or layman to provide you with the the best advice and the best alternatives to any given situation.

In our experience doing this can save you a great deal of money, time, effort, and grief.
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Old 09-14-2020, 06:45 PM   #8
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When it comes to tax and legal matter my advice is always to seek out and obtain the best professional advice you can. I certainly would not depend on any insurance sales person or layman to provide you with the the best advice and the best alternatives to any given situation.

In our experience doing this can save you a great deal of money, time, effort, and grief.

brett,

How does one go about finding these "best" folks?

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Old 09-15-2020, 10:12 AM   #9
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When I needed tax accountant I asked for recommendations from a number of friends and associates.

Did exactly the same when I need an employment lawyer to negotiate a separation agreement. I had recommendation from people in my industry who had been in a similar situation and from a lawyer who could not be engaged because of a conflict.

And the same when we were looking for someone who specialized in estate law. We asked around for references.

Our focus was on recommendations and results. Hourly rates were secondary.
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Old 09-15-2020, 11:06 AM   #10
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DW and I set one up earlier this year. We bought a $3 million term life policy from a reputable insurer. ...
Are you leaving an illiquid estate large enough to exceed federal and/or state estate tax triggers?
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Old 09-15-2020, 11:35 AM   #11
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Are you leaving an illiquid estate large enough to exceed federal and/or state estate tax triggers?
That's what I was wondering. Isn't the federal estate tax limit between 11 and 12 million dollars?
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Old 09-15-2020, 12:13 PM   #12
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That's what I was wondering. Isn't the federal estate tax limit between 11 and 12 million dollars?
Yup. $11.58M per person for deaths in 2020. But the government can change the number up or down any time they all agree to it.
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Old 09-16-2020, 10:45 AM   #13
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Are you leaving an illiquid estate large enough to exceed federal and/or state estate tax triggers?
Yes. Right now our RE holdings make up about 70% of our total NW and we're a stone's throw away from the federal estate tax exemption amount for a couple. I can see us easily exceeding that amount between DW's continuing employment and another large family legacy eventually coming our way which includes (gasp) more RE. I am planning to liquidate some non-core RE holdings to reduce the RE weight but that's going to take time.

The biggest unknown for us is what will happen to the federal estate tax exemption amount when the current provision sunsets in 2025 and it reverts back to $5+ million per individual (I think). Obviously we have no control over that and I won't speculate on whether the govt will make further changes, but we want to give our heirs at least some options with added liquidity.

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Old 09-16-2020, 10:55 AM   #14
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Outstanding NW, Lucky Dude, I now see why you're investigating this option.
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Old 09-16-2020, 11:25 AM   #15
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The biggest unknown for us is what will happen to the federal estate tax exemption amount when the current provision sunsets in 2025 and it reverts back to $5+ million per individual (I think).
FWIW, my research earlier this year indicated that the sunset is 1/1/2026, and that it would drop to $5M plus CPI since 2017. My calculations / estimates put it close to $6M. And that would be the per individual number; I think you can still do bypass trusts or make an IRS election to share twice that amount in an MFJ situation.

Given your situation, probably not particularly relevant info.
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