Estate Planning Life Insurance

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Owning whole life insurance has always been an exceptional way to plan for an estate. It provides an income tax-free inheritance to those who are the beneficiaries of the policy(s) and it multiplies what could have been left in the estate had there not been any whole life insurance owned by the estate owner(s).

With the increase in the gift tax allowance, which is now $17,000 annually per recipient with no limits on the number or recipients, and a total estate tax allowance of $12.92 million, there has been less need for exotic estate tax planning than when the total estate tax allowance was a mere $600,000. 

Currently, estates are taxed only if they are valued above the IRS allowance (aka the estate tax exemption), and then only the value of the estate above the allowance/exemption is taxed. The federal estate tax rate can be very stiff running from 18-40% Fortunately, life insurance can be used to offset this tax burden in a well-designed estate plan. 

In addition to the federal estate tax, certain states have their own estate tax rules which may or may not be more aggressive than the one the IRS imposes at the federal level. This is another reason why life insurance is a valuable tool when designing an estate plan.

Lessons from Prince’s Estate

In April of 2016, Prince Rogers Nelson, AKA “Prince”, passed away suddenly. He owned tens of millions of dollars in music-related assets, but apparently had no estate plan and no will. Because of this, complications arose about who would inherit what, and how the estate would be taxed. Reportedly, as many as 700 people began the process of seeing if they might be an heir to the late singer. Other’s too, filed claims against the estate. Even the IRS began a dispute with the estate about its exact value, saying it was worth nearly double the value it claimed to be. This claim by the IRS would have lucratively pulled in an extra $32 million for the IRS.

So what could have been arranged differently to avoid this prolonged and costly estate dispute? 

1.  Prince could have created a living revocable trust, which would have arranged the transfer for all his assets, music rights, real estate, and business interests, prior to his death. There is never a time too soon to begin this process. This would have avoided most of the probate process and publicity, and would have saved Prince’s estate thousands if not millions of dollars. A living revocable trust solution is a relatively low barrier and readily available to most Americans.
2.  Prince could have consolidated his intellectual properties into one or more business entities. This would have made the probate on the estates of Prince’s intellectual properties easier and less costly. It could have also simplified the fight with the IRS over the value of the estate.
3.  The purchase of life insurance on the key employees (including Prince and other managers) of those businesses could also have helped to supply cash flow when Prince passed.
4.  Finally, Prince could have purchased whole life insurance, which would have helped to pay for the estate taxes owed. This would have helped his family, from being forced or pressured into an agreement or settlements which were less agreeable or favorable to them.

Other Trust Solutions for Estate Tax Planning

Life insurance can also be used in estate planning when creating other types of trusts to avoid estate taxes such as a Charitable Remainder Trust, Irrevocable Life Insurance Trust, or a Spousal Lifetime Access Trust. 

Each of these trust solutions may involve more exotic forms of using life insurance, so they should be carefully designed and implemented to maximize the benefits while making sure to avoid legal complications which can be triggered when such policies or trusts are poorly, or illegally, designed.

For the most part, unless someone’s net worth is above the estate tax exemption, many of the more exotic estate tax plans are more costly to implement than what they will save in estate taxes. 

Value of Whole Life Insurance in Estate Planning

Whole life insurance is the only kind of life insurance which provides a guarantee to provide a death benefit over the insured’s entire lifetime. It is the simplest and most cost-effective way to increase the value of an estate or to help pay for planned estate taxes. 

The role of whole life insurance in an estate plan may provide:

1.  A fund to maintain the heir(s) standard of living
2.  Funds to pay estate taxes owed
3.  Funds to transfer ownership of a business
4.  Funds to operate a business
5.  Funds to buy out partners or key employees of a business
6.  Funds to buy out heirs who will not be continuing in a business
7.  Funds for charity and private foundations
8.  Funds for family members to replace family assets given to charity.
9.  Funds to provide for any special needs of the heirs
10. Funds to pay income taxes on certain inherited assets, like IRAs and 401(k)s

Whole life insurance can also provide access to liquidity and guaranteed growth during your lifetime.

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Limiting Insurance Costs 

Second-to-die whole life insurance can be used in estate planning to limit the cost of the insurance. This type of policy would not provide any death benefit upon the death of the spouse first-to-die. Instead, it would pass over them and provide the funds needed to satisfy the 10 things listed above after the death of the second spouse.

Estate Plan Reviews and Adjustments

Periodically and anytime substantial assets are added, sold, or donated, the estate plan needs to be amended to reflect the updates. Anytime laws have been changed regarding estate and income taxes, an estate plan needs to be reviewed for potential updates. Also, anytime a move is made from one state to another state, the estate plan should be reviewed and adjusted as necessary to accommodate the laws of your new state of residence.

If you need to review your life insurance coverage for estate planning needs, contact McFie Insurance at 702-660-7000. It would be a pleasure to assist you.

Dr. Tomas P. McFie

Most Americans depend on Social Security for retirement income. Even when people think they’re saving money, taxes, fees, investment losses and market volatility take most of their money away. Tom McFie is the founder of McFie Insurance which helps people keep more of the money they make, so they can have financial peace of mind. His latest book, A Biblical Guide to Personal Finance, can be purchased here.