While the federal estate tax is repealed so far for 2010, there are still estate tax issues that are important to keep up on. As it stands now, the estate tax is scheduled to return in 2011. Also, Congress may institute an estate tax for 2010, either retroactively to January 1, 2010 or on a prospective basis.
Late last year, the Internal Revenue Service issued three nearly identical private letter rulings (200947006, 200948001, and 200949004) which each held that life insurance proceeds on a contract owned by a limited partnership will not be included in the insured person’s estate. The rulings were also significant because the partnership in the rulings held no assets other than the life insurance. Some commentators had believed that a partnership with no assets other than life insurance would not provide taxpayers with favorable tax benefits.
Weighing the Facts
Under the facts of the ruling, a limited partnership had a corporation as its general partner and another corporation and the insured as its limited partners. The insured was the 100% owner of the first corporation. The limited partnership owns a policy on the life of the insured. The policy beneficiaries are the limited partnership and three other related partnerships.
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The insured contributed funds to the limited partnership to enable it to purchase the life insurance policy. Two trusts were also were also set up and administered by different members of the insured’s family.
The taxpayer proposed to undertake a series of transactions. The four partnerships will be removed as beneficiaries of the life policy and designate the taxpayer’s children as the beneficiaries. The corporations and the taxpayer will make capital contributions to the first limited partnership in an amount sufficient to allow the limited partnership to make distributions to the taxpayer. These distributions will equal the contributions the taxpayer made to the limited partnership to make past premium payments.
One of the trusts will purchase the taxpayer’s limited partnership interest in the limited partnership and will purchase the taxpayer’s shares of the first corporation. The second corporation will also distribute its limited partnership interest to this first trust.
The second trust will contribute a second life policy to the limited partnership for a limited partnership interest in the limited partnership. The first trust will contribute enough cash to the limited partnership to pay the premiums on the two policies for the remainder of the taxpayer’s life. The taxpayer will then release to the taxpayer’s sister any power to make significant decisions with regard to the first life policy.
After this release, the taxpayer will not have the power to change the beneficiary of the policy, surrender or cancel the policy, assign the policy, revoke an assignment of the policy, pledge the policy for a loan, or to take a loan against the cash surrender value of the policy. Only the assets of the limited partnership will be used to pay the premiums on the life policies. Finally, the limited partnership will designate itself as the sole beneficiary of the life policy.