By Ward J. Wilsey, JD, LLM The Wilsey Law Firm www.wilseylaw.com [email_address] Using an ILIT in Estate Planning

Circular 230 Warning Pursuant to the rules of professional conduct set forth in Circular 230, as promulgated by the United States Department of the Treasury, nothing contained in this communication was intended or written to be used by any taxpayer for the purpose of avoiding penalties that may be imposed on the taxpayer by the Internal Revenue Service, and it cannot be used by any taxpayer for such purpose. No one, without our express prior written permission, may use or refer to any tax advice in this communication in promoting, marketing, or recommending a partnership or other entity, investment plan or arrangement to any other party. 2007 (c)

Pursuant to the rules of professional conduct set forth in Circular 230, as promulgated by the United States Department of the Treasury, nothing contained in this communication was intended or written to be used by any taxpayer for the purpose of avoiding penalties that may be imposed on the taxpayer by the Internal Revenue Service, and it cannot be used by any taxpayer for such purpose. No one, without our express prior written permission, may use or refer to any tax advice in this communication in promoting, marketing, or recommending a partnership or other entity, investment plan or arrangement to any other party.

Life Insurance in Estate Planning Providing Liquidity Replace Income Increase the Family Estate Making Charitable Contributions Allowing the Zero-Tax Estate Plan Business Purposes Buy Sell Split Dollar Key Man

Providing Liquidity

Replace Income

Increase the Family Estate

Making Charitable Contributions

Allowing the Zero-Tax Estate Plan

Business Purposes

Buy Sell

Split Dollar

Key Man

Estate Tax Considerations IRC 2042 A Decedent’s estate includes proceeds of life insurance policies that are: Receivable by the executor as insurance on the life of the decedent; or Receivable by other beneficiaries as insurance on the life of the decedent where the decedent possessed incidents of ownership at death (See Treasury Reg. 20.2042-1(c)(2)) Change beneficiary Surrender or cancel Assign the Policy Revoke an assignment Pledge the policy Obtain a loan guaranteed by the surrender value Miscellaneous

IRC 2042

A Decedent’s estate includes proceeds of life insurance policies that are:

Receivable by the executor as insurance on the life of the decedent; or

Receivable by other beneficiaries as insurance on the life of the decedent where the decedent possessed incidents of ownership at death (See Treasury Reg. 20.2042-1(c)(2))

Change beneficiary

Surrender or cancel

Assign the Policy

Revoke an assignment

Pledge the policy

Obtain a loan guaranteed by the surrender value

Miscellaneous

Purpose of ILIT Keep Life Insurance proceeds out of the insured’s taxable estate to avoid estate taxes Be a vehicle for making easy transfers for premium payments without gift tax

Keep Life Insurance proceeds out of the insured’s taxable estate to avoid estate taxes

Be a vehicle for making easy transfers for premium payments without gift tax

Candidates for an ILIT Any client whose taxable estate, including the proceeds of any current or proposed life insurance policy, is greater than the estate tax exemption Or if appreciation in their estate could push them above the exemption Take the Marital Deduction into consideration If Client does not choose to do an ILIT, you still want to make sure the client’s proceeds are payable to the Revocable Living Trust.

Any client whose taxable estate, including the proceeds of any current or proposed life insurance policy, is greater than the estate tax exemption

Or if appreciation in their estate could push them above the exemption

Take the Marital Deduction into consideration

If Client does not choose to do an ILIT, you still want to make sure the client’s proceeds are payable to the Revocable Living Trust.

How an ILIT pays estate taxes ILITs do not pay estate taxes directly ILITs must purchase assets from the decedent’s estate or Revocable Living Trust in order to provide liquidity Or loan can be made with adequate security (IRC 2042) As such, great care should be put into the ILIT to make sure distribution provisions are correct A great deal of the Grantor’s estate will pass via the ILIT

ILITs do not pay estate taxes directly

ILITs must purchase assets from the decedent’s estate or Revocable Living Trust in order to provide liquidity

Or loan can be made with adequate security (IRC 2042)

As such, great care should be put into the ILIT to make sure distribution provisions are correct

A great deal of the Grantor’s estate will pass via the ILIT

Transfers within 3 years of Death Usually not includible in the decedent’s estate Life Insurance is includible under IRC 2042 Make sure you address this when transferring policies into an ILIT You can just sell the policy for Fair Market Value Interpolated Terminal Reserve Value

Usually not includible in the decedent’s estate

Life Insurance is includible under IRC 2042

Make sure you address this when transferring policies into an ILIT

You can just sell the policy for Fair Market Value

Interpolated Terminal Reserve Value

Irrevocable Life Insurance Trusts Irrevocable Insured cannot be trustee Owner of Life Insurance Should fill out all applications Or else you should assume 3 year rule applies

Irrevocable

Insured cannot be trustee

Owner of Life Insurance

Should fill out all applications

Or else you should assume 3 year rule applies

Trustees Single Life Can be spouse Family Gifting Trust Watch the reciprocal trust doctrine A must for most premium finance arrangements where there is a possibility of a sale Separate Property Agreement required Survivor Policy Must be another party

Single Life

Can be spouse

Family Gifting Trust

Watch the reciprocal trust doctrine

A must for most premium finance arrangements where there is a possibility of a sale

Separate Property Agreement required

Survivor Policy

Must be another party

Paying the Premiums You should try to avoid gift taxes when transferring money to pay the premiums Solutions Use lifetime exclusion $1,000,000 per person cumulative Use annual gifts $12,000 to as many different people as you wish Other methods Sale for Promissory Note ILIT is beneficiary of GRAT

You should try to avoid gift taxes when transferring money to pay the premiums

Solutions

Use lifetime exclusion

$1,000,000 per person cumulative

Use annual gifts

$12,000 to as many different people as you wish

Other methods

Sale for Promissory Note

ILIT is beneficiary of GRAT

Annual Gifting A gift will be “taxable”, and count towards the grantor’s Lifetime Gift Tax Exemption, unless it qualifies for the annual gift tax exclusion IRC 2503(b) Will only qualify if “present interest in property” IRC 2503(b); Treasury Reg. 25.2503-3 Beneficiary must have a “Crummey Power” Crummey v. Commissioner 397 F. 2d 82 (1968) Annual Crummey Notices Sent to beneficiaries Notifying of withdrawal rights Failure to deliver Crummey Letters may disqualify gifts for annual gift tax exclusion Affidavit

A gift will be “taxable”, and count towards the grantor’s Lifetime Gift Tax Exemption, unless it qualifies for the annual gift tax exclusion

IRC 2503(b)

Will only qualify if “present interest in property”

IRC 2503(b); Treasury Reg. 25.2503-3

Beneficiary must have a “Crummey Power”

Crummey v. Commissioner 397 F. 2d 82 (1968)

Annual Crummey Notices

Sent to beneficiaries

Notifying of withdrawal rights

Failure to deliver Crummey Letters may disqualify gifts for annual gift tax exclusion

Affidavit

Warning About Crummey Powers If Crummey beneficiary fails to exercise right to take gift, it may be a gift on their part To the extent the gift is over $5,000 or 5% of the trust principal Client’s ILIT should contain “Hanging Crummey Powers” Gives them the right to withdraw funds subject to this 5 and 5 rule indefinitely Something to be aware of, but is ultimately a drafting issue.

If Crummey beneficiary fails to exercise right to take gift, it may be a gift on their part

To the extent the gift is over $5,000 or 5% of the trust principal

Client’s ILIT should contain “Hanging Crummey Powers”

Gives them the right to withdraw funds subject to this 5 and 5 rule indefinitely

Something to be aware of, but is ultimately a drafting issue.

Income Tax Considerations Most insurance policies do not cause taxable income Grantor Trust v. Non-Grantor Trust Trust should at least allow Grantor status In case of need for sale of policy

Most insurance policies do not cause taxable income

Grantor Trust v. Non-Grantor Trust

Trust should at least allow Grantor status

In case of need for sale of policy

Generation Skipping Transfer Taxes Annual Exclusion is generally non exempt from Generation Skipping Transfer taxes unless Trust distributed for one beneficiary during beneficiaries lifetime Assets must be includible in that beneficiaries estate Usually not the case GST Exemption will be allocated to gifts unless opted out, if trust is a GST Trust But counts toward exemption

Annual Exclusion is generally non exempt from Generation Skipping Transfer taxes unless

Trust distributed for one beneficiary during beneficiaries lifetime

Assets must be includible in that beneficiaries estate

Usually not the case

GST Exemption will be allocated to gifts unless opted out, if trust is a GST Trust

But counts toward exemption

ILIT Summary Make sure client’s are aware of need for an ILIT Make sure ILIT, not the client, purchases the Policy Make sure the client is aware of gifting requirements Make sure the client’ ILIT encompasses their entire estate plan, as many assets will be transferring via the ILIT, not the RLT

Make sure client’s are aware of need for an ILIT

Make sure ILIT, not the client, purchases the Policy

Make sure the client is aware of gifting requirements

Make sure the client’ ILIT encompasses their entire estate plan, as many assets will be transferring via the ILIT, not the RLT

Ward J. Wilsey, JD, LLM The Wilsey Law Firm www.wilseylaw.com [email_address] Questions???