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“Buy Low, Sell High for Insurance Advisors”
This article offers three planning considerations based on the “buy low, sell high” principle and how life insurance fits into the picture.
By David Szeremet, JD, CLU, ChFC
“Buy low, sell high” is the Golden Rule of securities investing. It’s easy to see why because finding a bargain and turning it for a profit is the American way. The spirit of the rule also can be applied to wealth transfer and life insurance planning applications. There may be no better time than today for individuals and families to “buy low, sell high.”
Today’s favorable planning environment is the product of three factors: (1) tax laws; (2) economic (market) conditions; and (3) interest rates.
Has there ever been a more favorable tax environment? Income, gift and estate tax rates are all historically taxpayer friendly. On the economic front, the COVID-19 pandemic shocked the economy, resulting in depressed market values for many asset types. (Just ask anyone who owns commercial realty, securities, a retirement account or a business.) And interest rates remain at historic lows.
Three Planning Opportunities To Consider
Let’s consider three planning opportunities based on the “buy low, sell high” principle and how life insurance fits into the picture:
* “Convert low, distribute high.” Without question, equity markets recently took a beating. With many retirement account values lower, the opportunity to complete a “discounted” Roth conversion is a silver lining. It’s all about income taxes — now, during retirement and at death.
Converting to a Roth IRA generally triggers income taxes; therefore, the tax burden will likely be lower when account values are lower (today) and income tax rates are favorable (today). Without required minimum distributions during the owner’s life, the Roth IRA will have more potential recovery time than if the asset is left in a traditional IRA. Roth IRAs provide income tax-free, qualified distributions — both during lifetime and as a legacy to heirs.
— Life insurance opportunity. Life insurance may be purchased on the life of the IRA owner in an amount estimated to replace the value lost to taxes when the Roth conversion takes place. This helps replenish the amount of wealth passing to heirs and protects the wealth transfer amount against premature death.
* “Gift low, distribute high.” The lifetime gift tax exclusion is at an all-time high (in 2020, $11.58 million individual/$23.16 million married). Combine that with current market conditions and you have a prime opportunity to leverage gifts by capturing a “discount.”
Suppose your client has income producing securities worth $1 million. They were valued at $1.5 million prior to the pandemic. If your client were to gift these securities today, they would realize a $500,000 “discount” because the reduced value would require $500,000 less of gift exclusion than a pre-pandemic gift of the same securities.
After consulting with his tax and legal advisors, he decides to gift the stock to an irrevocable grantor trust, using only $1 million of his lifetime exclusion amount, preserving the $500,000 reduction for other planning purposes. If the securities recover value, all post-gift appreciation escapes transfer taxes.
— Life insurance opportunity. Take the previous example to the next level. Your client could purchase and personally own permanent life insurance with access to policy cash at his discretion. Assuming the trust includes a substitution (swap) power, the trust-owned securities can later be swapped for the life insurance policy.
The swap instantly removes the life insurance (including the entire death benefit) from the grantor’s estate. Better yet, as a sale, it avoids the pesky three-year-rule of estate inclusion that applies to gifts of life insurance. Ultimately, the personally-owned securities will receive a stepped — up basis at the owner’s death.
Not only does this strategy instantly remove the entire death benefit from the grantor’s estate, it also creates a stepped-up basis for the personally owned securities — doubling the tax savings.
* Selling the family business — in trust. In certain cases, selling assets makes more tax-sense than gifting them — even if the transferee is the same. This is especially relevant in the context of family-owned businesses.
Suppose your client owns a business that has experienced a downturn due to the pandemic (hopefully, a temporary setback). She is interested in gradually transitioning ownership to her children. To preserve her gift and estate tax exclusion, she could sell the business to an irrevocable grantor trust in exchange for a promissory note. The sales price would be at today’s lower value. Business income would service the promissory note.
As the business recovers value, the appreciation is gift tax free and passes outside your client’s taxable estate. It is a tax savings win as long as the business growth rate meets or exceeds the promissory note interest rate, (relatively easy considering today’s low interest rates). With this strategy, your client finances her own buy-out using company dollars while minimizing wealth transfer taxes — preserving her gift and estate exclusion for other uses.
— Life insurance opportunity. Life insurance is generally recommended on the business owner’s life to pay off the note in the event of her premature death. It may also be advisable to insure the key employees of the business — often the children who are the successors. There are also a variety of non-qualified fringe benefits plans available that use life insurance, including split-dollar, executive bonus and supplemental executive retirement plans. Finally, additional coverage may be indicated for estate liquidity needs.
When it comes to wealth transfer planning, we may look back on 2020 as the beginning of the golden age of buy low, sell high. Help your clients seize these opportunities and they may forever view you as a thought leader.
David Szeremet, JD, CLU, ChFC, is vice president, advanced planning, at Ohio National Financial Services. Szeremet is responsible for the advanced planning team that provides general education and marketing support, including estate planning, executive benefits, business insurance and life insurance planning. He can be reached at david_szeremet@ohionational.com, linkedin.com/in/ davidszeremet or 513.794.6389.
Life insurance and disability income insurance products issued by The Ohio National Life Insurance Company and Ohio National Life Assurance Corporation. Issuers not licensed to conduct business in New York. Life insurance, disability income insurance, and medical insurance policies have exclusions, limitations, reductions of benefits, and terms under which the policies may be continued in force or discontinued. Contact the issuing company for additional information.