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Estate Planning: Focus on the Legacy, Not the Tax Bill

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Concern over the stuttering economy, uncertainty surrounding the upcoming election and the ambiguity of future estate tax legislation have left many high net-worth Americans stunned and leery about planning for estate taxes. Furthermore, back-of-the-napkin calculations and standard estate tax discussions no longer address their concerns.

The 2010 Tax Relief Act staved off looming tax increases and offers unique estate planning opportunities through 2012. This law reinstated the unified gift and estate tax credit with an applicable exclusion amount of $5 million per person and $10 million per couple (all-time highs) and a top tax rate of 35% for the estate, gift and generation-skipping transfer (GST) taxes for 2011-2012. Further, the estate, gift and GST tax exemptions were each indexed for inflation beginning in 2012 and are now $5.12 million. In 2013 and beyond, assuming Congress fails to pass a new law, the exemption will drop to $1 million and the top rate will rise to 55%. Without knowing what changes will come on Jan. 1, 2013, many people are taking a wait-and-see approach.

Legacy planning vs. estate tax planning

It’s time to shift the focus of the conversation away from estate tax planning and instead to understanding a client’s goals and values, which are at the core of legacy planning. Discuss how clients want to positively affect the lives of their children and grandchildren. Taxes are not forgotten but instead become one of several parts of a larger legacy planning discussion.

When a tax discussion is reframed into a conversation about goals and values, a different perspective emerges. Get started with open-ended questions, such as:

  • What’s important to you about your wealth? Providing financial security or allowing pursuit of a specific passion?
  • What do you want for your children and grandchildren? Beyond things, what values do you want your heirs to exemplify?
  • Do you want to be remembered by your alma mater, church or local charity?

The underlying reason clients buy life insurance isn’t about taxes — it’s about protecting loved ones. Another benefit of broadening the discussion beyond estate taxes is that the number of legacy planning prospects is far greater than those with potential estate tax exposure.

3 conversations to have with clients today

Here are three key reasons to start talking with clients today about their legacy planning goals.

1. Long-term traditional safety nets are disappearing. Social Security and Medicare long-run actuarial deficits worsened in 2012. In the coming decades, both programs will experience substantial cost growth in excess of gross domestic product, due to aging of the population and, in the case of Medicare, growth in expenditures per beneficiary exceeding growth in per capita GDP. This cost growth will result in increased taxation and, most likely, a reduction in benefits.

Life insurance can create the self-security that clients want to protect future generations who likely will not have access to the same level of social support programs present today.

2. The window is closing. Waiting to act can have less than ideal consequences, but there is an immediate solution. Consider the Spousal Support Trust, an irrevocable life insurance trust (ILIT) created by one spouse (grantor spouse) for the benefit of the other spouse (uninsured spouse). To fund the trust, the grantor spouse makes cash gifts from his or her separate property to the trust. In some situations, such as where all marital property is community or jointly held, an agreement between spouses may be necessary to create separate property. The trustee then uses the cash gifts to purchase a life insurance policy on the life of the grantor spouse. The life insurance policy is the only trust asset.

See also: What to Do Now to Minimize Wealth Transfer Tax

The beneficiaries of the trust are the uninsured spouse and the children, if any. During the lifetime of the grantor spouse, the trustee may generally make distributions to the uninsured spouse and/or the children based upon ascertainable needs, such as their health, education, maintenance and support. Since the life insurance policy is typically the only trust asset, the trustee can access the policy’s cash value through loans or withdrawals to make distributions. Or alternatively, clients whose needs change over time can surrender the policy altogether and, with the features offered on today’s products, may be able to access up to 100% of gross premiums paid via the trust. Upon the death of the grantor spouse, the death benefit is paid to the trust, and the assets are distributed and/or held in trust according to the terms of the trust.

Never before has funding a trust been so easy or economical. Currently, taxpayers may make a gift to a trust of up to $5.12 million on a federal gift tax-free basis. This lifetime gift tax exemption is likely at its peak and could permanently decline after December 31. The window is now open for clients to take advantage of significant wealth transfer opportunities that may come along only once in a lifetime. Before it snaps shut, married couples can leverage their lifetime gift tax exemption with life insurance held in a Spousal Support Trust — achieving the best of both worlds: an estate tax-free death benefit and lifetime access to trust funds.

3. Give clients what they want. Guarantees, flexibility and control are the three drivers behind consumer behavior today.

In this time of turbulence and uncertainty, clients want life insurance products with guarantees, such as no-lapse guaranteed universal life insurance, where the death benefit will be paid out regardless of market performance.

Clients want flexibility. Life’s goals and circumstances are subject to constant change. Showcase product features that provide the exit strategies and off-ramps clients desire, including riders and endorsements that allow clients to:

  • use a percentage of death benefit for long-term care,
  • receive a percentage or all of their premiums back after a determined timeframe, and
  • reduce the policy face amount within the first 10 years without incurring a surrender charge.

Offer clients features that give an owner control over the policy while the insured is alive and over how the death benefit will be distributed after he or she is gone, such as universal life products that offer initial and back-end lump-sum payments and guaranteed monthly income distributions over a defined period.

Reframe the conversation

Clients have changed over the past few years. Change up the discussion to focus on creating and protecting legacies, rather than on estate taxes. Discuss how the recession will have a generational effect on benefits and programs we take for granted today, but which may be severely reduced in the future. Make clients aware of relevant strategies that may not be available next year.

Lastly, understand how the “new normal” has put guarantees, flexibility and control at the center of what clients want. Seize the opportunity to help clients realize how life insurance can be the solution to today’s challenges and tomorrow’s dreams.


For more on estate planning, see:

Natalie Choate Talks Estate Planning & Annuities

What to Do Now to Minimize Wealth Transfer Tax

Parents, Pets and Online Presence: New Concerns for Modern Estate Planners