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Experts See Split-Dollar Opportunities

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With the Treasury Departments release of final regulations covering split-dollar, many producers are trying to figure out what to do with clients who have existing split-dollar arrangements. (See story on page 14.) But looking beyond the safe harbor deadline of Dec. 31, 2003, many planners are asking, Is split-dollar still a viable option for future clients?

“Its not going to be as good as it was, but still in terms of insurance, in terms of leveraging annual exclusion gifts, leveraging GST and leveraging credit shelter amounts, its a good tool,” says Richard Harris, managing member of BPN Montaigne LLC, Clifton, N.J.

In recent years, split-dollar life insurance has been marketed as a method of sharing, or splitting, the benefits of a life insurance policy. While there were many different variations on split-dollar, the traditional method involved splitting premiums, death benefits, and cash values between a company and an executive, or between an individual and a trust.

But in Notice 2002-8, the IRS provided new rules for split-dollar plans and stated it would soon be delivering final regulations on the use and accounting for split-dollar. The new rules involve the use of one of two methods: the economic benefit regime or the loan regime.

Prior to Notice 2002-8 and the final split-dollar regulations, split-dollar plan participants enjoyed “intense leverage” which may not have been very realistic, says Lisa ODay, vice president of advanced sales at Jefferson-Pilot Financial, Greensboro, N.C.

“People need to get their arms around what is realistic leverage these days,” she says. “Realistic leverage is using other peoples money and paying a fair rate of interest for it when interest rates are low.”

Deciphering the complex rules in the new regulation and looking for new marketing opportunities in the future can be daunting tasks for producers. Harris recommends producers seek out competent help from experts who have been following all the recent developments with split-dollar.

Many insurance carriers are evaluating the new split-dollar regulations and producers can expect to see some information coming from those that specialize in this market. Carriers are trying to simplify split-dollar and develop some packaged sales applications for agents. As a result, “it will become easier to understand split-dollar,” says ODay.

For example, under a split-dollar arrangement where an employer loans premiums to an employee, the employee must recognize the loan and pay a fair rate of interest for the loan.

“Clients have a hard time understanding what economic benefit means, but they all have loans and they all understand loan interest. Its going to be an easier concept in that regard to work with,” explains Peter Leo, assistant director of advanced markets for Principal Financial Group, Des Moines. “Its just a matter of getting producers to reorient themselves about how these arrangements are taxed.”

Harris agrees that the loan concept should be easier for people to grasp but that agents still need to be very careful when offering these plans to clients. “There are things to look out for, there are a lot of traps and pitfalls [in the regulation],” he says.

For example, Harris says the regulations having to do with section 7872, the loan agreement, are very complex and if agents arent careful they may fall under this regulation without intending to.

“The repercussions are youre now dealing with those regulations that are complicated; youre now dealing with below market rate loans. Youre now dealing with the very thing you were looking to avoid,” he says.

But even with the complex regs, experts see viable planning solutions in a number of different areas. One of those areas is executive benefit planning. “Under endorsement split-dollar where the employer pays all premiums and you make it a nonequity agreement, the tax situation hasnt changed much,” says Ken Cymbal, senior counsel for MetLife, who is housed in the Boston office.

“I think pure nonequity endorsement split-dollar is going to have a resurgence,” adds ODay.

To further motivate business owner clients to use this technique is to combine the split-dollar arrangement with a nonqualified deferred compensation plan, Cymbal continues. The cash values owned by the corporation can be used informally to fund the deferred compensation plan, he says.

“Together they make a dynamic benefit; its very easy to understand, very easy to implement and very easy to administer,” Cymbal explains.

Another area Cymbal sees opportunities for split-dollar is in estate planning situations for large estates. For example, if a client had a large insurance need and the policy was issued in a trust, a split-dollar plan may help minimize the gift tax cost of funding that trust, he says. “If you have a large premium of $100,000 and you only have two children, the most a couple could gift to a trust is $44,000 per year,” Cymbal explains. “We can minimize the gift by using split-dollar, and the amount of the gift becomes the economic benefit.”

Cymbal adds that when using a survivorship life insurance policy there is substantially more leverage due to the low joint cost of insurance rates derived from Table 2001.

From a product perspective, agents should expect new specialized product offerings for split-dollar plans, says Leo.

“When youre doing loan arrangements, youre probably going to want an early cash value in order to make it work,” he says. A high early cash value would give plan participants the option of making partial surrenders from the policy to repay the loan, he says.

“On the other hand,” Leo continues, “if youre doing an economic benefit arrangement you may want to keep the cash value down so that you never get into an equity position.”

Reproduced from National Underwriter Life & Health/Financial Services Edition, October 17, 2003. Copyright 2003 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.