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.
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.