Archive for the ‘Insurance’ Category

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An Easy Way For The Kids To Buy Their Parents’ Stock — Tax-Free

Tuesday, April 7th, 2009

Do you want to transfer your business to your kids? Read this:

Mom or Dad wants to transfer the family business to one or more of the children. But the money to fund the buyout at the death of the parent/stockholder —insurance on the parent’s life — is in the wrong place.

Here’s a foolproof way of getting the job done, according to an IRS letter ruling:

The father, Joe, worked with his son, Sam, in a business founded by Joe. The stock of the corporation was owned 25 percent by Joe, 4 percent by Sam and the balance by five other children not active in the business.

Joe had two main objectives: First, to have his stock go to Sam after his death and, second, to make sure that his wife, Mary, would be financially secure for the rest of her life.

Joe and his son developed a plan to accomplish these objectives. They entered into a buy-sell agreement requiring Sam to buy his father’s shares from his estate after his death at fair market value. To fund the purchase, Sam would use the proceeds of a life insurance policy on his dad’s life.

The corporation owned the insurance policy and paid the premiums. Joe intended to buy the policy from the corporation for its cash-surrender value and gift the policy to his son. From then on, Sam would pay all premiums. Great news!

The IRS ruled that, under these conditions, Sam could collect the insurance proceeds income tax-free (IRS Letter Ruling 8906034).

There are two more tax goodies that flow as a result of this ruling.

One, when Sam buys Joe’s stock from his estate, the sale of the stock by the estate is income tax-free.

Why? Under the tax law, the estate gets a new tax basis equal to the stock’s fair market value at the date of Joe’s death.

Two, since Mary is the beneficiary of Joe’s estate, there is no estate tax. Why? An estate is entitled to a 100 percent marital deduction for all property passing to a spouse, Mary in this case.

What could be better? No income tax. No estate tax.

Sam owns 100 percent of Joe’s stock.

Mary is financially secure.

Perfect!

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Posted in Estate Tax, Family Tax Issues, Insurance | No Comments »

A Review of Gift-Tax Rules to Enchance Your Family’s Wealth

Tuesday, April 7th, 2009

Applause! Applause!

Congress in 1998 buried an old and onerous gift-tax killer rule. Yet few people are aware of the tax-saving advantages of the new law.

First, some background. Gifts to your spouse are sheltered by an unlimited marital deduction, no matter how much the gift — during life or at death — there is no gift tax or estate tax. For lifetime gifts to all other individuals, the first $12,000 ($24,000 if married) is also exempt from tax.

A gift-tax return is generally not required for gifts qualifying for the marital deduction. On the other hand, a gift-tax return must be filed for all gifts in excess of $12,000 per donee (the person receiving the gift) per year.

Just like your income-tax return, your gift-tax return is due on April 15. For example, taxable gifts made in 2005 should have been reported on a gift-tax return filed by April 15, 2006. The IRS has three years from the date a gift-tax return is filed to make a gift-tax assessment. So, if the IRS decides four years down the road that a gift was worth more than the value shown on your timely filed gift-tax return, it’s out of luck. The IRS cannot assess any additional tax on the gift.

In the past, there was a catch.

Again, some background. The estate and gift taxes are unified so that a single graduated rate schedule applies to cumulative lifetime and death transfers. As a result, the final tax on your estate depends on the amount of taxable gifts made during your life.

The more lifetime taxable gifts, the higher your estate tax.

Sad but true, the courts allowed the IRS to revalue gifts — even after death — in order to determine the decedent’s estate tax. While it was too late to assess additional gift taxes on the gift (because the three-year time period had run out), the revalued gift could bump the estate into a higher tax bracket and cost — often huge — additional estate-tax dollars.

If the IRS claimed that a lifetime gift — very often the stock of a family business — was seriously undervalued, the tax on the estate would skyrocket. The estate had a tough time proving that a business valuation made years earlier (5, 10, 15 years or more) was and is still correct.

OK, let’s hear the drumroll for the new law:

For gifts made after Aug. 5, 1997, the IRS can no longer revalue lifetime gifts for estate-tax purposes. You must only jump through one hoop: report the gift on a gift-tax return. The value of the gift must be shown on the return or disclosed on the return or an attachment in a manner adequate to disclose to the IRS the nature of the gift.

After three years, the IRS (and you) are bound by the values shown on the return.

The door is, however, still open for the IRS to revalue some gifts:

• Any gift made prior to Aug. 6, 1997;

• A gift-tax return is filed, but the gifts are not properly disclosed or reported;

• Gifts not shown on a return;

• No gift tax return was filed because you thought the gift was worth $12,000 or less.

Here’s what to do for absolute protection:

Except for cash gifts under $12,000, report all gifts — particularly gifts involving the stock or an interest in any kind of family business or partnership — on a timely filed gift-tax return.

The more you are worth, the more your estate plan should include a well-thought-out lifetime plan, which includes a gifting program to the next generation.

Generally, cash gifts are a no-no. Leveraged gifts (usually involving a family limited partnership (FLIP), intentionally defective trust (IDT) or one or more of the dozens of life insurance strategies, are smart. They beat up the IRS legally and keep you in control of the gifted assets for as long as you live.

Gifting (using an FLIP, IDT or life insurance) is only one of 22 strategies used to legally avoid the estate tax. Learn how and when to use all the strategies —whether you are worth $2 million or $20 million.

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You can win big-time by investing in others’ life insurance

Sunday, April 5th, 2009

The stock market is uncertain. Often net losses exceed net gains. So-called traditional safe investments — CDs, treasury bonds, municipal bonds and the like — offer only paltry returns.

Is there an investment that can match the potential high returns of successful stock market investors, yet has the prime characteristic (no-risk) of traditional safe investments?

Yes!

Chances are you have never heard of investments called life settlements. They also are often called Transferable Insurance Policy or TIP(s). The best way to understand how a TIP works is by an example.

Let’s say Joe, 68 years old, owns a life insurance policy with a $500,000 death benefit and a $60,000 cash surrender value (CSV). Joe would like to stop paying premiums. Of course, he can cancel the policy and get the $60,000 CSV from the insurance company.

An investor (really a group of investors) buys Joe’s policy for $150,000 — paid in cash to Joe immediately. The investors now own the policy. The investors will receive the $500,000 death benefit when Joe dies.

Let’s say you are one of the investors. You invest $100,000. You will wind up with a diversified portfolio of TIPs. One of the TIPs will be a fractional interest in Joe’s $500,000 policy — say 3 percent — or $15,000.

This TIP (Joe’s) will pay you exactly $15,000 (includes your principal — amount invested — and profit) when Joe dies. The insurance companies love people like Joe when they terminate their policies. And why not? The insurance company pays a mere $60,000 for the CSV and is off the hook for a $500,000 death benefit.

Terminated policies are highly profitable for insurance companies. Of course, they want to keep the entire life settlement industry a secret. Why? Because investors — like you — now have found a simple and easy way to help the Joes of the world and at the same time stand tall in the profit shoes of the insurance companies. Neat!

As a TIP investor, you can enjoy:

• An average rate of return of 16.32% per year.

• Not worrying about the market being volatile or whether it goes up or down.

• The guaranteed return of your principal, as well as your profit.

• And best of all, keep 100 percent of the profit because there are no fees or costs when you buy a TIP.

What are the tax consequences of your TIP profits?

There are only two simple rules: (1) The tax on your profit is deferred until you actually receive your principal and profit; (2) Your profit is taxed as ordinary income (profit earned by a qualified plan-profit-sharing, 401 (k), IRA and the like-are deferred until distributed).

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Tax Secrets of the Wealthy: These M7 Strategies Are Simply Magnificent

Wednesday, April 1st, 2009

More than 90 percent of contacts with readers of this column are specific questions or concerns involving the “Magnificent Seven” (M7). What are the M7?

Actually, they are seven separate strategies designed to answer the questions and at the same time to save huge amounts of estate tax or create huge amounts of wealth (usually tax-free).

Using just one M7 is fun. Two or more is party time.

So let’s visit with each M7 partygoer — first the specific questions, then the answer and the strategy (to eliminate any concerns). Remember: Each M7 you are about to meet represents a most popular strategy according to readers of my column in the past two years.

• M7 No. 1 — “How can I get my family business (Success Co.) out of my estate, transfer it to my kids yet keep control for life?”

Create voting and non-voting stock, then transfer the non-voting stock to your business kids. Also use these strategies: a recapitalization to create the non-voting stock and an intentionally defective trust to transfer the stock. The voting stock, which you keep, maintains your control. All the strategies are tax-free — to you, your kids and Success Co.

• M7 No. 2 — How can I earn large returns every year without risk?”

Invest in senior settlements/transferable insurance policies (TIPs). The average TIP rate of return per year is in the 12- to 14-percent range, available from a 14-year-old company that is public (on the NASDAQ). Minimum investment is $50,000 for qualified investors.

• M7 No. 3 — “How can I avoid the double tax (income and estate) that hits all qualified plans (like an IRA, 401(k) profit-sharing)?”

Use a subtrust. It’s true: The tax collector can get up to 73 percent of your plan funds (that’s $730,000 per $1 million). Your family gets only $270,000. A subtrust allows you to use plan funds to buy life insurance (usually second-to-die). One reader turned $240,000 into $4.5 million of tax-free life insurance.

• M7 No. 4 — “How do I know if my completed (or proposed) estate plan is done and done right?”

Easy. You must be able to answer “Yes” to both of these questions: (1) Do you have and will you continue to have absolute control of your business and other assets? And (2) Will all of your wealth pass intact — every penny of it — to your family when you die. “All” means if you, for example are worth $6 million, the entire $6 million (fill in your own net worth number) to your family. If you can’t answer ‘Yes’ to these two questions, get a second opinion from an independent professional.

• M7 No. 5 — “I have significant excess cash or cash-like assets (municipal bonds, certificates of deposits, and the like). I’m conservative. Hate risk. Are there any tax-advantaged investments for me?”

Yes, conservative investment life insurance (CILI) that is really a conservation investment. The insurance company agrees to guarantee you that upon your death your heirs will receive the sum of the following: (1) All premiums you paid (say you paid $20,000 per year for 20 years. Your heirs will get back the entire $400,000), plus (2) a guaranteed rate of return on all premiums paid (usually around 3%), plus (3) the death benefit as a bonus (say $1 million, but could be more or less depending on your age and health). Get a personal quote. You’ll be delighted. And oh, yes, all earnings and the death benefit (all three items) are tax-free.

• M7 No. 6. “Is there a way to reduce the value of my business for tax purposes?”

Absolutely! Take advantage of the three discounts allowed by the tax law: (1) lack of marketability, (2) minority interest and (3) non-voting stock is worth less than voting stock. Result, a $2 million business after discounts, is worth, (for tax purposes) in the $1.1 million to $1.2 million range.

• M7 No. 7 — “Is there any way to finance the cost of life insurance to significantly reduce the out-of-pocket cost of the insurance?”

Yes, it’s called premium financing. The strategy is easiest to explain by example. A 60-year-old reader got $5 million of insurance with a total cost (to be paid over his life) of $368,000. A 56-year-old husband with a 56-year-old wife bought $5 million with a total projected outlay of only $79,000. You must be worth a minimum of $5 million (more is better) and be 65 years young or younger.

Of course, you want to get to know one or more of the M7 people better. More info. Maybe you have a question. Will the strategy work for you, your family and your business?

Here’s what to do: Contact me with the following: (1) identify the M7 strategy you want to learn about; (2) your name, address and all phone numbers where you can be reached; (3) your birthday and same for other family members if insurance is involved; (4) a short statement of your specific facts; (5) fax to 847-674-5299 or e-mail me at wealthy@blackmankallick.com with “M-7 query” in the subject line.

I’ll summarize the best responses (all identities to be withheld) in future columns.

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Posted in Estate Tax, Family Tax Issues, General Tax Strategies, Insurance, Investment Strategies, Planning, Tax Strategies | No Comments »

Business appraisal protects your family from unnecessary taxation.

Saturday, March 28th, 2009

Do you know how to make a grown man cry? Tell him his business has been destroyed by fire, flood or an act of God.

Yes, a tragedy. Bad stuff. But, most likely, the loss was insured — a bit of help. It’s even more important if Joe Owner is there on the scene to assess the damage, make plans and start rebuilding. Chances are he will make the business bigger and better than before.

End of Scene 1.

Here is Scene 2. Even the most successful, egotistical and immortal business owner knows that some day he must go to the “big business in the sky.” That will not make Joe Owner cry. He is too realistic for that. But tell him that after he is gone, his present plans, or better yet — lack of a plan — mean the Internal Revenue Service will dismantle his business.

Imagine our departed Joe in heaven; sitting on a cloud; talking to a representative of the revenue service. Joe speaks first.

“Why?” he asks.

“To pay taxes,” answers the tax representative.

“How?” he asks.

“By selling off the assets necessary to pay the tax.”

“When?” he asks.

“Within two years.”

“Why?” Joe demands.

“To pay your federal estate tax liability.”

“How much?” he queries.

“That depends on the value of your business.”

“Good,” says Joe. “I can show you just how little the business is worth without me.”

“Sorry,” responds the IRS representative. “It’s too late for that now.”

The curtain goes down.

Welcome back to earth. Is the above scenario realistic? Yes.

Crazy as it sounds.

If you own a closely held business and don’t pin down its value for tax purposes while you are alive, you are setting yourself up to be mugged by the IRS.

Every business — like it or not — must some day be valued for tax purposes. It is best for it to be done voluntarily, by you (the owner) during life. If not, the valuation will be done in an involuntary situation, after death, by the revenue service.

The only “out” is to sell the business in a real transaction during your life. For most business owners, selling doesn’t make sense for many reasons.

The two most common reasons are: First, the typical business owner wants to transfer the business to his or her kids; or second, wants to keep on working until he or she goes to business heaven.

The message should be clear: Want to save your business and your family untold aggravation, not to mention savings of 55 percent, the highest estate tax bracket in 2011? Then do three things: Find out the value of your business for tax purposes by getting an appraisal. Put a transfer plan, usually to your kids, in place during your life.

And then dovetail the first two steps with your estate plan.

Done right, you can transfer your business to your kids tax-free during your life, beat the estate tax collector legally, and control your business for as long as you live.

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The tax knight and his merry men rescue a distressed taxpayer…

Friday, March 27th, 2009

OK, so it’s a corny title. Yet it sure describes the economic and tax pain of Joe, a 79-year-old widower. Don’t feel sorry for Joe, he’s generally a healthy and happy guy. He hits golf balls, spends lots of time with the grandkids and still goes to work every morning at the successful business he started, which he transferred to his two sons, who now own and run it.

But you should hear Joe howl about the cost of paying the annual insurance premiums on his irrevocable life insurance trust. Joe’s trust owns a $4 million insurance policy on his life with annual payments of $87,000. Yes, he needs the insurance to cover a portion of his potential estate-tax liability. No, he couldn’t buy second-to-die — normally at substantially less premium cost — because his wife was uninsurable when the irrevocable trust bought his policy.

It should be noted that an irrevocable trust protects the death benefits of a life insurance policy from the clutches of the estate tax.

Now, stop for a moment and look at your insurance cost situation. Chances are you’ll find you have one or more of the same complaints as Joe. He’s got three:

• Every year when Joe wrote his check to the trust for $87,000, he got four exclusions of $11,000 each, or $44,000 annually, one for each of his two sons and two grandkids. That left a taxable gift of $43,000 ($87,000 minus $44,000), which eats away at his $1 million lifetime unified credit. No cash gift-tax now. Simply put, the first $1 million of taxable gifts do not require cash to pay the gift tax, but are paid by using your lifetime unified credit. When Joe gets hit by the final bus, those annual taxable gifts will turn into an estate-tax liability (most likely 55 percent of the total of all those annual taxable gifts for Joe). Starting in 2006 the $11,000 is raised to $12,000.

Joe fumes!

• Interest rates are much lower now than when Joe bought the policy. Result, the premiums are much more than the projections made by his insurance agent.

Joe’s expletives are not fit to repeat here.

• Joe’s smart. He figured out that in his tax bracket — state and federal combined — he must earn $145,000 and pay $58,000 in income tax in order to have the $87,000 needed to pay his insurance premium which is actually a gift to the trust. Joe fervently argues that life insurance premiums should be deductible. Good idea. But we need an act of Congress to change the Internal Revenue Code.

Now you know why Joe is a distressed taxpayer.

Readers of this column know I have a network of professionals to help me work my tax magic. So I, the tax knight, and my network of merry men, went to work.

We had Joe’s irrevocable trust restructured with his insurance using a strategy called “premium financing.” Essentially, premium financing is an economic concept where policy premiums are paid by a lending bank. Like before, Joe’s premium financing policy is owned by the trust. When Joe dies the bank loans and accrued interest on the loans will be paid out of the policy proceeds.

Joe’s premium financing is set up for $5 million — net proceeds after paying off the bank — to the trust, and the beneficiaries are his kids and grandkids. Joe’s only potential out-of-pocket costs are $60,000 to initiate the bank loan the year the premium financing is set up. If Joe lives to be 100, the total additional cost will be about $352,000, with varying small amounts to be paid each year to maintain the loan. Of course, if Joe dies sooner, these costs stop.

Now, what are the final results for Joe by using premium financing?

• To start, no more $87,000 annual premium payments — actually, no more premium payments. All three of his complaints disappeared.

• No out-of-pocket costs — not the $60,000 or any portion of the $352,000. Why? Because the cash surrender value of the original $4 million policy owned by his trust was more than enough to cover all of the premium financing costs. The old policy was canceled to free up the cash surrender value and put the premium financing strategy in place without any further out-of-pocket costs to Joe.

Even Joe is happy.

Premium financing is a relatively new concept — easy to understand, complex to implement. It really takes a network of experienced professionals working together. The results create an economic windfall — all tax-free.

But sorry, everyone cannot take advantage of premium financing. You must qualify by bringing two things to the table:

First, you must be insurable or if married, one spouse must be insurable, so your irrevocable trust can buy second-to-die coverage.

Next, you must be worth a minimum of $5 million. The more you are worth and the more investment-type assets such as stocks, bonds or even real estate you have, the more likely you will qualify for this strategy.

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Truly conservative?

Friday, March 27th, 2009

I never thought there were so many conservative investors.

What makes me think so?

Well, the last time I wrote about this specific subject, I received a blizzard of responses.

I hope to cover the subject again in this column and answer the questions that were posed by my readers. So, if you have a bent for conservative investing, you’ll love what follows.

Every conservative investor tells me: “I don’t want to risk losing my investment.” Fine. A worthy goal. But here’s the problem.

Most conservative choices are in low-yield, fixed-rate stuff like CDs or U.S. Treasury bonds. But municipal bonds are the hands-down favorite for conservatives.

Watch out, when inflation rears its ugly head, conservative investments are anything but conservative. Consider just one additional value-eating bandit who walks hand-in-hand with inflation: interest rates.

Consider the three ways that bandit steals your money and hard-earned wealth when you are heavily invested in municipal bonds:

• The value of the bonds go down as interest rates go up.

• You are locked into a low-interest rate until the bond matures or you sell it (probably at a painful loss).

• Nasty inflation reduces not only the value of the interest you receive, but the already reduced value of the bond has less buying power due to inflation.

What’s the long-term impact?

Here’s a quote from the Currency Options Hotline Operating Manual that drives home the devastating economic impact of inflation over time: “If you were somehow able to take one of today’s greenbacks [dollars] back in time to 1940, you would find it worth only about 6.5 cents.”

Sorry, but it looks like inflation, plus the falling value of the dollar against most foreign currencies, will be our rather unwelcome bedfellow for at least the foreseeable future.

What is a conservative investor to do?

Actually, we all know the answer: Find an investment vehicle that overcomes the three evils of the rising interest-rate bandit.

First, let’s outline the attributes of such an investment, second identify the investment, and finally, give an example of how the investment works.

Here are the attributes of the investment:

• A higher rate of return than on traditional conservative investments like CDs, treasury bills, notes and municipal bonds.

• The interest rate tends to go up as inflation goes up.

• Your investment will never go down in value, and in fact, will always guarantee you a profit.

• The interest earned and your investment profit are income tax-free.

• Your total investment at time of death including original investment, interest earned and profit escapes the clutches of the estate tax (when properly structured).

What’s the identity of this picture-perfect investment? It is simply a type of life insurance, which I call conservative investment life insurance.

Next, let’s look at an example. Joe and his wife, Mary, are both 70 years old. They buy a $1 million policy (it could be any amount, usually more) of second-to-die life insurance with an annual premium of $23, 516. The policy currently earns 5.7 percent.

The payoff on their investment comes after the second death. For the purpose of this example assume after 10 years, at age 80, both Joe and Mary get hit by the same bus.

Their heirs would receive:

1. Death benefit: $1 million.

2. Premiums paid: $235,160 ($23,516 times 10 years).

3. Interest earned on premiums paid (at 5.7 percent, but could be higher if interest rates rise, or lower, if interest rates fall): $75,411.

The total amount (tax-free) to their heirs is $1,310,571.

Next, suppose the second death of either investor happens at age 90. Their heirs would get a total of $1,816,458 (tax-free).

The easy way to summarize the investment is as follows: You get the premiums paid back, dollar-for-dollar, plus earnings on the premiums paid. You get a guaranteed bonus in the death benefit (here $1 million), and best of all, it’s all tax-free with no income tax and no estate tax.

If you are single, or married and your spouse is uninsurable, conservative investment life insurance can be purchased on a single life. However people younger than 50 years of age should not buy this insurance whether single or married. You have better insurance alternatives.

Here’s the big question most readers asked: “How does the insurance company make money?”

Don’t worry, those guys are not about to serve you a free lunch. Companies simply charges you enough premium in the first place to actuarially cover the final anticipated death benefit based on your age, sex, health and other factors.

For more information on how a conservative life insurance might work for you, your parents or your grandparents, contact me and I will get you the information you need and will answer your questions.

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