Highlights of the 2016 LIMRA Advanced Markets Conference
On August 3rd, Matthew Pressler, Director of Advanced Markets for M Financial Group provided an update regarding current planning trends and legislation within the life insurance industry, delving into the key role M Financial Group plays. During this discussion, Matthew shared highlights from the 2016 LIMRA Advanced Markets Conference held at the Peninsula Hotel earlier that week. Matthew's notes are as follows:
Income Tax Planning’s Increased Role in Estate Planning
- The American Taxpayer Relief Act of 2012 (ATRA) resulted in a higher federal lifetime transfer tax exemption ($5.45M in 2016, indexed for inflation), as well as higher federal income taxes. This has caused significant changes in the life insurance planning landscape, particularly for those clients with taxable estates below the higher exemption amount.
- For 99.6% of Americans, federal estate taxes may no longer be an issue, however many will continue to face transfer taxes at the state level.
- Life insurance should continue to be useful for non-tax estate planning needs:
- Provides tax deferral and tax-free access to cash values, plus an income tax free death benefit
- Can be used to replace earned income cash flow in retirement
- Creditor protection
- Can be used to avoid market risk
- Can be used to satisfy debt obligations
- Can be used to avoid probate contests
- Can create estate equalization in connection with a family business
- May be useful in situations involving 2nd marriages and blended families
- Can address the needs of families with special needs children
- Who will provide care? How will this care be paid for?
- Can government assistance be preserved, and supplemented by income from a special needs trust?
- Can serve as an alternative to LTC insurance
- Replacement of wealth spent on LTC expenses, if needed
Planning With Low Basis Assets
- Bob Keebler presented ideas associated with an emerging area of tax planning.
- Certain assets may selectively be included in the taxable estate, so as to achieve a step up in basis at death. This is particularly true in states like California that have no transfer tax, but high income/capital gains taxes.
- One strategy for utilizing this “intentional inclusion” plan is to pledge the assets as collateral for a commercial loan, and then make a private loan to an Irrevocable Life Insurance Trust (the “dual loan” technique). In this way, one can obtain the step up in basis and simultaneously fund a trust owned life insurance policy to offset any federal transfer taxes. The strategy is very tax efficient, and in a low interest rate environment functions extraordinarily well.
- Charitable planning is also en vogue. When the market is hot, interest in charitable planning rises due to spikes in income… "perceived windfalls" lead to tax planning.
- Charitably inclined individuals may consider donating appreciated securities (rather than cash) to charities or Charitable Remainder Trusts to avoid the 23.8% federal capital gains tax (plus state taxes) on appreciation.
- The donor can purchase life insurance for wealth replacement, which offers tax-free growth and tax-free access to cash
Planning with Non-Grantor Trusts
- Bob Keebler also discussed Non-Grantor trusts, which pay tax on undistributed income and hit the top tax bracket at only $12,500 of income. Bob suggested it may be prudent to consider using tax-efficient assets, such as life insurance, to minimize income tax drag on trust asset accumulation.
Private Placement Life Insurance
- The increased income tax as a result of ATRA, coupled with the 3.8% Affordable Care Act tax on Net Investment Income has also lead to growing interest in Private Placement Life Insurance as a tax-efficient accumulation vehicle for alternative investments, such as hedge funds.
- In 2013, M Financial saw $17 million in premiums into Private Placement Life insurance. In 2014, this rose to $58 million. In 2015, this rose to $142 million. Through June of 2016, there has been $110 million in Private Placement premium.
International Estate Planning
- Leigh Alexandra-Basha provided an overview of Estate Planning considerations during the LIMRA Advanced Sales conference.
- Key focus areas include: clients with a U.S. tie (business, real estate, child/spouse/parent living in the U.S.), pre-immigration planning, and planning for foreign trusts with undistributed net-income (offshore Private Placement Life Insurance can be an effective strategy). Major Takeaway: A trust may be considered ‘foreign’ if the trustee or trust protector is a non-US citizen.
- M Financial Group offers products that may be used with non-US citizens and foreign residents, including multi-national businesses offering life insurance as an executive benefit.
- Premium finance is frequently discussed, but not often implemented within M Financial Group. About 1% of M Financial’ s premium was financed in 2015.
- Clients may borrow from:
- Large banks, tend to have favorable rates but may require “assets under management”, programs are intended to attract wealthy private clients.
- Direct lenders, which generally have no assets under management requirements but often have higher rates.
- Clients’ existing banking relationships, which may offer favorable rates but can present challenges in working with insurance companies to agree on collateral assignment of the insurance policy.
- These transactions are extremely interest rate sensitive.
- For clients with access to low-cost loans, borrowing to finance the purchase of life insurance can make sense, especially if the client is able to earn a high return on ‘retained capital’.
- M Financial Group has designed a spreadsheet model to compare financing vs. not financing, including IRRs. The model offers ‘stress testing’, including possible increases in borrowing rates or lower returns on retained capital.
- Premium finance tends to work better at younger ages.
- The technique may offer a funding solution for challenging scenarios:
- Conversions of term policies to permanent, especially if the insured cannot qualify medically except under a contractually guaranteed conversion.
- Heavily loaned Whole Life policies, where interest rates may exceed 5%.
- Situations where underwriting determines an insured is a substandard risk. Financing can be used to fund the premium difference.
DOL Fiduciary Rule
- Earlier this year, the Department of Labor issued new regulations commonly referred to as the “Fiduciary Rule” which redefines and significantly expands the scope of what constitutes investment advice to ERISA plans and Individual Retirement Accounts. For example, under the expanded definition, a person selling an annuity or similar investment to a plan or IRA will likely be providing fiduciary investment advice.
- The rule begins to take effect on April 10, 2017 and goes into full effect on January 1st, 2018.
- Many common financial transactions will be covered under the rule, although two classes of exemptions exist:
- The Best Interest Contract (BIC) Exemption has been created to permit advice regarding rollovers and certain types of products such as Fixed Indexed Annuities and Variable annuities. However, this BIC Exemption also fundamentally changes permissible forms of compensation while imposing new conditions, a “best interest” standard of conduct, new Class action litigations risks and significant new disclosure requirements.
- The second exemption is the Prohibited Transaction Class Exemption 84-24 (PTE 84-24), which will apply to certain insurance products, including life insurance. The requirements for the PTE are fewer.
- There have been numerous lawsuits filed challenging the fiduciary rule and there is a common belief in the industry that the rule will be substantively changed before it is implemented (if at all). Implementation of the rule is also likely to be delayed.
Discount Split Dollar
- Larry Brody and Tom Commito provided an update on multiple recent court cases, two of which focused on Discount Split Dollar (often called “intergenerational” or “multi-generational” Split Dollar.
- The first case, Morrissette, went as follows:
- Clara Morrissette entered into a Split Dollar arrangement with three of her children wherein her children acquired life insurance on their own lives. Clara advanced $30 Million in funds to the children to pay the premiums and reserved the right to be repaid the greater of funds advanced or the cash value of the policy. This structure is common and is known as a Private Split Dollar arrangement. Two primary forms exist: Loan Regime, where interest is paid on each advance and Economic Benefit Regime, where the value of the life insurance protection provided is measured each year and the amount constitutes a taxable gift from the party advancing the premiums to the party receiving the benefit of insurance protection. This case used the Economic Benefit structure.
- In the documents for the plan, a provision was added that provided that repayment would not occur until the death of each child.
- Clara died, and her estate included the notes from the children to Clara but valued them at $7 million. A third party appraiser was used and it used a present value method based on the life expectancy of each borrow to justify the discounted value.
- The IRS disagreed with this value and took the opinion that this transaction was not legitimately split dollar, but rather a ‘disguised’ gift of $30 million. It issued Clara’s estate a notice of deficiency, plus interest and penalties totaling $39 million.
- The matter went to tax court, where the client’s attorney moved for summary judgement on the gift tax issue. The court determined that the transaction was indeed legitimately split dollar under the Economic Benefit Regime and NOT a disguised gift as the IRS had contended.
- However, the court did not rule on the value of the note included in Clara’s estate for Estate Tax purposes, and the matter remains open.
- Speculation is that the IRS and Clara’s executor may settle out of court on a lesser discounted value.
Washington / Election / Legislative Update
- Unlikely to see a shift of control in the House or Senate
- 5 Senate seats truly in play
- Presidential election will have a substantial impact on insurance industry.
- Donald Trump has proposed Estate Tax Repeal
- Hillary Clinton proposed reversion to 2009 levels with a $3.5M exemption
- Income tax reform is also on the horizon, which will require compromise between White House and Congress.
- Key legislation may occur before the end of the year, substantially diminishing the availability of discounts for transfers of certain closely held businesses and assets (“Section 2704” changes).
- Proposal issued 8/2/2016, currently in a “comment period”
- Measure is a result of joint work between the IRS and Treasury
- Questions remain as to how these changes can occur without legislation.
- Earliest implementation date is January 1, 2017. This may lead to a rush to transfer assets at a discount before the end of 2016.
- Development is considered positive for life insurance, lessened ability to transfer assets at a discount would result in higher federal estate tax exposure, for which life insurance can be a cost-effective solution.
Life Insurance Cost of Insurance Increases
- In 2015, 5 insurance carriers announced increases on the COIs for their universal life policies
- The increases were designed to restore carrier profitability due to declining portfolio yields on products with crediting rates at the guaranteed minimum.
- Some carriers also noted increases in adverse mortality and a rise in the costs of reinsurance.
- M Financial partners with select Carriers to develop and offer over 30 proprietary life insurance products priced with the segregated, superior experience (mortality, persistency, expense) of the ultra-affluent.
- No M Proprietary Products have ever had in-force COI increases and M diligently monitors products offered by M Carriers.
- M Financial believes that raising in-force policy charges is a decision with serious ramifications for both policyholders and insurance carriers that should primarily be used to protect carrier financial strength and preserve equitable treatment of policyholders.
- M Financial proactively works with Carriers to manage the proprietary block to ensure sustainability, including supporting actions to limit general account portfolio yield dilution by managing crediting rates, enforcing premium restrictions, and marketing separate account alternatives.
- Additionally, M Financial reviews the in-force block on an ongoing basis and has an in-force management principle of addressing emerging adverse experience characteristics by removing underperforming products and redesigning them for new policyholders. By integrating the emerging experience in a new product, in-force policyholders are protected from the challenges of the adverse experience.
- As a result of this proactive management of the in-force proprietary block, there has been no need to raise policy charges on M proprietary products and no policy charge increases are being contemplated.
- In addition, M Financial has maintained a strong in-force management track record in working with Carriers to pass on favorable emerging experience, an uncommon industry practice. To date, M has implemented 54 in-force price improvements (i.e., policy charge reductions) on 20 proprietary products resulting in approximately $200 million in cost savings for clients.
At Goldstein Financial Group and the Insurance Design Center, we work closely with attorneys and advisors to help them respond to new planning opportunities for their clients. If you have any questions about any of the trends or developments that were discussed at this year's LIMRA conference, we are happy to talk through these issues with you.
Disclosure: This material is intended for informational purposes only and should not be construed as legal or tax advice and is not intended to replace the advice of a qualified attorney, tax advisor or plan provider.