Dear Clients and Friends –
Tax season is around the corner and COVID-19 has impacted most people’s risk tolerance. If you are interested in lowering future tax liabilities and infuse some stability into your financial affairs, read on.
In this alert, we take a closer look at two time-tested wealth planning strategies that will help you keep more of what you earn and own.
Click on the links and review the supporting materials when time permits — great content.
Life Insurance Versus Taxable Strategies
Which One is Better?
Life insurance benefits from several unique tax benefits. This one-pager summarizes them and also explains the various policy types (learn more).
High income earners currently pay federal and state income tax of ca. 50%. High net worth families pay 40% federal estate tax plus applicable state estate/death taxes.
We don’t give tax advice so please consult your advisors for proper guidance as it relates to your individual sitation.
Tax-Free Retirement Income Strategies
Life Insurance Retirement Plan (LIRP)
Tax laws and ERISA have historically discriminated against high income earners. The higher their income, the lower the tax benefit, now and/or later.
As a result, LIRP’s have gained significant popularity. They are simple and offer substantial contributions, tax-deferred growth and tax-free cash value distributions in retirement.
Fixed and indexed products are attractive funding vehicles as they offer upside return potential with downside protection. Policies are usually richly funded with the smallest death benefit possible to minimize insurance costs and maximize long-term cash accumulation.
Lion Street has developed some analytical tools that can compare the projected financial results of a LIRP to Taxable Investments (learn more). In this model, the LIRP generates considerably more after-tax benefit at lower investment returns and a fraction of the tax costs and management fees within the Taxable Investments.
LIRP’s can also help with:
- Return Sequence: Financial models often use static assumptions but outcomes can change dramatically when stress tested. Here is an example that shows what happens to income distributions from a hypothetical 401(k) plan with poor and strong initial returns and the same average return over time. When other asset classes are down, a LIRP can be an ideal buffer asset to maximize benefits from all income sources (learn more).
- Longevity: With advances in health care and medicine, people are living longer. Actuarial life expectancies have extended into the mid 80’s and late 80’s for healthy males and females respectively. Having a tax-advantaged backstop makes LIRP’s attractive and policies can be equipped with Long Term Care riders to soften the blow against costly health care events.
This Forbes article explains where this strategy may be a good fit (learn more); they call it the Rich Man’s Roth.
Tax-Free Estate Preservation Strategies
Irrevocable Life Insurance Trust (ILIT)
We can all safely assume that the “platinum age” of estate planning is coming to an end and that estate (or wealth) taxes will likely go up and impact a broader audience again.
ILIT’s are a commonly used estate planning technique under which insurance policies can be completely insulated from gift, income and estate taxation. Here is a quick summary with some frequently asked questions that explains their key attributes and benefits (learn more).
Second-to-die policies with cost/benefit guarantees are the ideal funding vehicle. Two people are insured under one policy so costs are lower than individual policies. To maximize the long-term IRR, policies are usually minimum funded.
While taxes are important, so is risk management. Lion Street has developed another analytical tool that can plot multiple asset classes on the efficient frontier (learn more). In this model, a second-to-die policy is compared to stocks, bonds and real estate; its risk/return metrics far exceed the others.
ILIT-owned life insurance can also help with:
- Hedging: Wealthy familes often deploy multiple planning strategies. Some may require time to come to fruition. Others are risky and may or may not work out. Having a tax-advantaged and low risk strategy in place that will work out even in a worst case scenario gives families peace of mind and adds predictability to the bigger planning picture.
- Liquidity: Estate taxes are due within nine months. If there isn’t sufficient liquidity, assets may need to be sold at a discount to raise cash. This is a conundrum for many high net worth business owners and investors with illiquid assets (i.e. phantom stock, real estate, hedge funds, and private equity). ILIT-owned life insurance can pay Uncle Sam in a timely manner, avoid forced sales and get estate planning affairs properly settled.
ILIT’s are a simple and straight forward solution to these common estate planning problems and challenges.
The Bottom Line
Given the amount of stimulus money that has been printed to date and the state of the economy, most practitioners expect taxes to go up. The elections in November will determine the amounts and the timing.
The above materials indicate that over time the Cost of Insurance < Cost of Taxwhich makes life insurance an attractive asset class now and in the future.
Our firm has access to the entire product universe, sophisticated analytical tools and excellent relationships with many senior underwriting professionals. If you would like to learn more about how to integrate life insurance into your or your clients’ financial affairs, please get in touch.
Enjoy the summer and stay positive, healthy and safe.