If you’re looking for a hot new technique to pitch to your affluent clientele, here’s one to consider: the intergenerational private split-dollar arrangement. If it passes muster with the IRS and, ultimately, the courts, the technique could yield a substantial discount on the value of a life insurance policy placed in trust for the benefit of future generations.
The big question is “if.” During a general session of LIMRA International’s 2008 Advanced Sales Forum here, Donald Jansen, an attorney and now retired partner of Fulbright & Jaworski L.L.P., Houston, Tex., warned attendees the IRS could potentially disqualify the arrangement–and impose a stiff tax penalty–using any of several arguments.
“Some advanced sales professionals are now marketing this technique, but we don’t know if it’s a slam dunk,” said Jansen. “There are no court or IRS rulings to guide us. So you have to be prepared for the possibility that you might lose.”
In a typical intergenerational split-dollar arrangement, said Jansen, a grandparent establishes an irrevocable life insurance trust, the trustee for which buys a permanent life policy and names the grandparent’s child and grandchildren as the insured and beneficiaries, respectively. The grandparent pays the premiums and, some years later, transfers the cash value to the ILIT through a sale, gift or a testamentary bequest at a greatly discounted value. Result: Gift, estate and generation-skipping transfer taxes are minimized.
How might a discount be secured? Jansen said the keys lay in structuring the split-dollar contract as an economic benefit regime (as opposed to a loan regime) arrangement, and in restricting access to the cash value.
Jansen said a split-dollar contract in which the policy owner (in this case the ILIT) is not also the premium payor would normally be labeled a loan regime that regards the premium payments as a below-market interest loan, to be repaid using the applicable federal interest rate or AFR. But he noted that his example may qualify as a non-equity split-dollar exception because the premium payor, the grandparent, controls all of the economic benefits of the policy, including the cash value, except for the pure insurance coverage (i.e., the non-cash value component of the death benefit). Hence, the economic benefit regime applies.
As to restrictions, he said, the split-dollar policy prohibits the grandparent from accessing the cash value before the arrangement’s termination; and it precludes the grandparent from unilaterally terminating the contract. Only the trust, acting alone or by agreement with the grandparent, can end the arrangement.