About Mark Pace

T. Mark Pace

When there is an immediate need for cash at the time of someone’s death, it has been my experience that life insurance, when properly acquired and managed, is one of the best tools ever invented for the creation and transfer of wealth. However, life insurance is rarely acquired properly and, because it is mistakenly assumed to be a "buy and hold" asset, it is never managed. The resulting financial disasters are far too frequent and completely avoidable.

If you would like to learn more about any Pig-in-a-Poke blog posts or discuss any other life insurance issues, contact T. Mark Pace at Mark@objectivereview.com

 

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Pace’s Pig-in-a-Poke

About Pace’s Pig-in-a-Poke

Pace’s Pig-in-a-Poke, provides an arena for sharing the four great passions in my life. My three foundational passions are:

  1. Invest in yourself first;
  2. The genius in all of us, and;
  3. We can all live a long healthy life.

These three support my life work and my fourth passion; LIPM™ (Life Insurance Property Management).

As the blog title suggests, my focus is on debunking all of the myths, misuse, and muddled thinking that has accumulated in the life insurance industry. And, from time to time, I will go outside of the specific world of life insurance and share my views on my other three passions.

I hope you find my blog worthy of your attention, informative, and occasionally inspirational. I welcome your comments, questions and suggestions.

Mark Pace

News Alert: Estate tax law sparks abandonment of billions in valuable assets

Individuals with a networth of $5.25 million or less and families with a net worth of $10.5 million or less may be throwing the baby out with the bath water as they dump the life insurance policies held in an ILIT (Irrevocable Life Insurance Trust) for estate tax purposes.

Don't throw out the baby with the bath water.

 

With the passing of the Tax Payer Relief Act in January, 2013 came a “permanent” estate tax exemption of $5.25 million for individuals and $10.5 million for married couples (adjusted for inflation). Because it appears the debate on the exemption has been settled, people whose estates fall within the exemption have reacted by letting the insurance in their ILITs lapse.

If your estate fits this description, or if you are advising clients whose estates are in this range, STOP and think twice before letting the life insurance assets within an ILIT lapse.

 

Grantors may be over stepping

In an all-too-typical scenario, grantors view any asset within the ILIT as theirs – at least while they are living – and feel they have the right to tell the trustee what to do with those assets. Though a grantor has the right to stop making gifts to the trust, they do not have the right to tell the trustee what to do with the assets already in the trust.

 

With the passing of the Tax Payer Relief Act, many grantors – the people paying the premiums – are telling trustees, “The tax reform law has us covered and we don’t need this life insurance anymore so drop the policy.”

A trustee’s fiduciary duty is first and foremost to the beneficiaries. When life insurance in an ILIT is terminated, it is quite possible that the best asset in the trust is being destroyed. This could cause substantial financial harm to the beneficiaries and raises future liability for the trustee(s).

While paying the premium to maintain these policies may seem illogical for grantors whose estates are now exempt, trustees and fiduciary advisors should not jump to the same conclusion. Even though the federal estate tax rationale is no longer valid, there is a significant chance an extremely valuable asset will be destroyed when a policy is surrendered.  Additionally, many states still have inheritance taxes that don’t match the federal offset.  So taxes may still be due at death.

So, instead of surrendering the policy, there are other options for maintaining or even improving the value of this asset for the beneficiaries.

 

Whole life

If the trust owns a whole life policy, and the grantor refuses to make further gifts to the trust, consider taking it to reduced paid up, which would require no further premiums but reduce the death benefit.  And, if it has been in force long enough, the premiums could be offset by current and past dividends accumulated in the policy which may maintain the death benefit.

As an asset, whole life, cash on cash and death benefit growth typically projects a growth rate in the 4 – 6% range, and is tax-free at the time of the insured’s death. On a pretax-adjusted basis in a 40% tax bracket, other assets would have to generate compounded returns of 6.5% - 10% to match this performance.

Universal life

For universal life policies, there is an opportunity to adjust the premium or the death benefit, or both. They can be reduced. For example, it may be possible to reduce the face value to the extent no future premiums are required. We have also found it often makes sense to pay some premiums because the future value of the policy, on an internal rate of return basis, can be far higher than other safe investments at the death of the insured... no matter when their death may occur.

A case to consider

A trustee with a trust-owned universal life policy on a male, aged 66 and in good health totaling $2.5 million with a current premium of $40,000 annually asked for our assistance.  We asked if they were willing to pay any money and they replied they would as long as the investment of any additional money created a probable return of no less than 4%.

The policy had some highly beneficial performance management rights including death benefit guarantees. Utilizing these rights, we were able to adjust the existing policy’s face value to generate a guaranteed death benefit of  $1.6 million policy with the payment of a $12,000 premium annually.

If his death occurred at life expectancy (50% cumulative probability of death), age 87, the guaranteed compounded rate of return on the $12,000 premium to death benefit is 13%.  On a tax-adjusted basis – since the death benefit is tax-free – you would have had to earn 22% pre-tax in a 40% marginal tax bracket to equal that return.

If death occurred at age 96, which is a 95% cumulative probability of death, the policy still has a guaranteed return of 9%, which is equivalent to a 15% pre-tax compounded rate of return.

(It is valuable to point out that in this case the insured was healthy. If the insured had significant health impairments, the internal rate of return would increase  because we would have been able to maintain a larger policy for the same premium since we wouldn’t need it as long. Also, if clients are old enough and have significant health impairments, life settlement is an option that needs to be considered. But, in most cases, finding a way to maintain the policy without selling it results in a better outcome to the trust.)

Conclusion

No matter what type of policy people own, if there is not an immediate need for cash to the beneficiaries and a provision in the trust to provide that cash at this time, a careful analysis of the trust-owned life insurance will usually result in a decision to keep the policies because of the high probability they will out-perform all other safe assets.

Bottom line: If a grantor wants to stop paying for the insurance in an ILIT, stop and carefully research and consider your options. In most cases, premiums can be eliminated or significantly reduced while still protecting the future value of the life insurance assets.

You need to consult with an insurance specialist – typically someone who provides fee-based consulting services – before deciding what is the best action for appeasing the grantor while honoring your fiduciary responsibility to the beneficiaries.

Taking action

To determine if the life insurance in an ILIT is worth keeping requires expert analysis of product type, internal policy performance management rights, crediting rate assumptions, internal costs, carrier performance, the insured’s health and longevity, and the owner’s ability and desire to pay premiums.

A great way to get started is to ask ObjectiView for a complimentary LIPM™ Snapshot:

Snapshots:

  • Help you assess the value of the life insurance asset
  • Enable you to understand and take appropriate advantage of performance management rights such as changing the premium, or the face amount, or both
  • They may even help you figure out how to eliminate the premium completely

If you or your clients are thinking about letting the insurance policy (or policies) within an ILIT lapse, and you are not sure if the life insurance is worth keeping, This e-mail address is being protected from spambots. You need JavaScript enabled to view it .

T. Mark Pace

 

About the author

Mark Pace
Mark Pace
When there is a need for immediate liquidity at the time of someone’s death, it has been my experience that life insurance, when it is properly acquired and managed, is one of the best tools ever created for the creation and transfer of wealth. However, in my 35 plus years of experience, life insurance is rarely properly acquired and never managed… thereby creating a monumental financial disaster for many individuals that should never happen.

If you would like to learn more about this Pig-in-a-Poke subject or discuss any other life insurance issues, contact T. Mark Pace at Mark@objectivereview.com

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