The Newest Best Tools Resource Manual

Best Tools Resource Manual

64 of the Best Planning Tools for Asset Protection, Business Income, Business Succession, Capital Gains, Charitable, Estate, Executive Benefit, Insurance, Lifetime Wealth Transfer, Portfolio, and Retirement Income Planning Provided by Wealth Strategy Counselors

By Tim Voorhees, JD, MBA, AEP 速

Best Tools Resource Manual 64 of the Best Planning Tools for Asset Protection, Business Income, Business Succession, Capital Gains, Charitable, Estate, Executive Benefit, Insurance, Lifetime Wealth Transfer, Portfolio, and Retirement Income Planning Provided by Wealth Strategy Counselors

By Tim Voorhees, JD, MBA, AEP 速

Best Tools Resource Manual 64 of the Best Planning Tools for Asset Protection, Business Income, Business Succession, Capital Gains, Charitable, Estate, Executive Benefit, Insurance, Lifetime Wealth Transfer, Portfolio, and Retirement Income Planning Provided by Wealth Strategy Counselors

By Tim Voorhees, JD, MBA, AEP ® Edited by Lindsey McGonegal Technical editing by: David W. Holaday, ChFC, CAP Julie Kasner, CFP ® Greg Trump, CFP ® Design by Molly Paulick Copyright ©2014 by Timothy L. Voorhees, JD, MBA, AEP ® All rights reserved, including the rights to reproduce this book or portions thereof in any form whatsoever. For information, contact Tim Voorhees at tim@vfos.com or at 1-800-447-7090.

Printed in the United States of America, 5/10/2014

People images licensed from Comstock/Jupiterimages/Thinkstock

This book is dedicated to the hundreds of wealth advisers who have helped us develop and refine our wealth planning methodologies and services over the last 35 years.

iii

Tim Voorhees is an attorney and investment adviser based in Orange County, California.

He is the president of the Registered Investment Advisory firm described at www.vfos.com and a principal partner of its affiliated law firm, Matsen Voorhees Mintz LLP. A complete bio is available at MVMLawyers.com and www.TimVoorhees.com.

Tim’s software company, Family Office Technologies, Inc., maintains a broad array of software modules used by financial and legal professionals nationwide for developing tax planning schematics and implementing advanced portfolio and estate design strategies.

Serving clients as a wealth adviser, Tim has led teams that have developed hundreds of Family Wealth BlueprintsÂŽ for high-net-worth clients.

Tim teaches a variety of Best Tools Workshops for advisers interested in learning how to integrate the most effective zero tax planning tools into financial and estate plans. He also conducts Best Practices Workshops for advisers who seek to integrate advanced wealth planning strategies into their practices. He regularly speaks at national conferences and contributes to a variety of industry publications. Tim lives with his wife, Darci, and their sons in Mission Viejo, CA.

i

Table of Contents Chapter 1

Asset Protection...........................................................1

Chapter 2

Business Income Tax Planning..................................5

Chapter 3

Business Succession Planning..................................25

Chapter 4

Capital Gains Planning..............................................33

Chapter 5

Charitable Planning....................................................37

Chapter 6

Estate Planning............................................................43

Chapter 7

Executive Benefit Planning........................................61

Chapter 8

Insurance Planning.....................................................67

Chapter 9

Lifetime Wealth Transfer Planning...........................85

Chapter 10

Portfolio Planning.......................................................91

Chapter 11

Retirement Income Planning.....................................97

Chapter 12

Wealth Counseling.....................................................117

Conclusion

........................................................................................129

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Asset Protection Domestic Asset Protection Trust Foreign Asset Protection Trust

1

3

A Domestic Asset Protection Trust (�DAPT�) is an irrevocable trust that may be funded with an incomplete or completed gift, depending on estate tax planning objectives and other goals. Attorneys may design the DAPT to include state income tax and/or federal income tax benefits. The trust may protect against future creditor actions while possibly allowing some protections against preexisting creditor actions. The trust language may include provisions for transfers to a spouse or children. The DAPT jurisdiction choice influences many issues involving the statue of limitations, fraudulent transfer rules, etc.

A Foreign Asset Protection Trust ("FAPT") is a trust that is set up in an offshore jurisdiction that has enabling trust legislation providing for substantial protection against creditors of the trustor. One of the greatest advantages of the FAPT is that legal attacks against its assets are transferred abroad to a different legal system. The FAPT is generally much more expensive to set up and create than a domestic trust and requires a certain willingness on the part of the Trustor to deal with offshore jurisdictions and trust entities.

The FAPTs’ greatest value is realized when asset protection planning is done well in advance of any potential creditor problem.

Business Income Tax Planning Business Income Tax Solutions

5

Business Income Tax Solutions can help clients reduce taxes on income not needed for lifestyle while deferring taxes and/or converting taxable income into more tax-efficient cash flow. Business owners may realize tax benefits related to funding buy-sell agreements, retirement plans, and wealth transfer strategies.

Capital Split Dollar

7

A business owner can advance cash to pay premiums in an estate planning trust using a non-equity private split dollar arrangement.

Under the economic benefit regime, the amount the trust owes in consideration of the potential death benefit may be small. The bottom line for the business owner and employees can be much more favorable than what is available from alternative executive benefits programs, such as phantom stock programs.

Captive Preferred LLC

9

The Captive Preferred LLC provides a tax-efficient vehicle for growing assets in a captive insurance company while providing all necessary capital to pay claims. Money not used for claims can grow tax-efficiently and/or make tax-efficient distributions as part of the captive exit strategy. The preferred LLC is designed to comply with a variety of regulatory guidelines.

Cost Segregation Study

11

The Cost Segregation Study can help a real estate owner generate much more favorable after-tax income. Assets in the property are expensed or amortized over a relatively short period to generate more deductions than would be available from straight-line depreciation.

Nevada Incomplete Gift Non-Grantor Trust

13

By moving income producing assets into a Nevada Incomplete Gift Non-Grantor Trust ("NING") Trust, one can avoid state income tax on the income from those assets. The penalty is that the federal income tax shifts to a potentially higher trust tax rate, but this may be of relatively little concern for taxpayers already in the top bracket. This strategy can dovetail beautifully with asset protection planning because NING trust is a DAPT trust.

Net Operating Loss Strategy

15

The Net Operating Loss ("NOL") strategy helps a real estate developer with losses monetize the losses by entering into a transaction with another company that has Net Operating Income that might be offset by the losses.

Intellectual Property Monetization

17

This Intellectual Property Monetization ("IP") can help a business owner monetize intellectual property. The program involves valuing IP before capitalizing it into an LLC. The non-voting interests of the LLC are then donated to a donor directed fund. The client can generate income or other benefits from the IP while establishing the value of the IP for possible future liquidity events. While the benefits can be great, the strategy requires careful compliance with a variety of guidelines.

Sale to a Beneficiary Defective Irrevocable Trust

19

The Beneficiary's Defective Irrevocable Trust ("BDIT") allows a grantor to move assets out of the taxable estate while having income taxed at the beneficiaries' lower rates

Section 79 Plan

21

Section 79 plans give employers a 100% income tax deduction on reasonable compensation to employees. Such plans provide a cost-efficient way to attract, retain and incentivize key employees. Plans may have minimal documentation and reporting requirements. Section 79 plans give employees the option to use cash value life insurance that can generate supplemental retirement income. The insurance coverage can last beyond the date of their retirement or separation from service.

Tax-Deductible Buy-Sell Funding

23

This strategy allows a business owner to fund a tax-efficient transfer of a business to successor owners and managers. Unlike most buy-sell agreements, which are funded with after-tax dollars, this solution can use partially or 100% deductible dollars. (The fully deductible solution involves redirection of some tax money to charity.) iii

Business succession Business Succession Agreement Captive Insurance Company Employee Stock Ownership Plan Business Vision and Values Retreat

25

This flyer shows a variety of methods for funding a buy-sell agreement with pre-tax dollars.

27

Sample Captive Insurance Company. Using the 501(c)(15), 831(b), of 806 entity, a business can receive tax deductions for funding a vehicle that provides insurance for the business. Assets in the entity can grow tax-free. The entity can perform like a super-sized IRA or Roth IRA while insuring against risks at rates typically not available through commercial insurance companies.

29

The Employee Stock Ownership Plan (”ESOP”) can provide a powerful combination of benefits to a business owner that wants to fund a succession plan very tax-efficiently and/or align interests of team members.

31

During a business retreat, key decision-makers and/or stakeholders answer a series of questions to clarify the vision, mission, and values of the organization. To determine WOTS MOST IMPORTANT?®, a facilitator helps participants review the Weaknesses, Opportunities, Threats, and Strengths (“WOTS”) to clarify the Mission, Objectives, Strategies, and Tactics (“MOST”). Thie process involves a survey of external issues affecting the planning process with a focus on the most important Opportunities and Threats. Then the retreat participants consider their Reponses to external issues in light of the company’s internal Strengths and Weaknesses. After reflecting on the most important external and internal issues, leaders clarify a vision-inspired or mission-driven plan that respects core values. Once the plan is clear, managers operationalize the Mission and execute the plan by following clear Objectives, Strategies, and Tactics. The proven process is explained at www.WOTSMOST.com.

Capital Gains Planning Charitable Remainder Trust Capital Gains Split Dollar

33

Securities, property, and other assets can be sold tax-free in a Charitable Remainder Trust ("CRT"). The CRT generates an income tax deduction, allows for an estate tax deduction, permits the tax-free accumulation of assets, and affords favorable tax treatment on distributions.

The property seller has broad latitude in re-investing cash after selling a property in a CRT.

35

To sweeten the after tax benefits for both the buyer and seller of a business, it is possible to defer recognition of taxes using a split dollar agreement. A trust for the benefit of the seller receives money without any current tax consequences by issuing a split dollar agreement. The split dollar agreement is fully permissible -- as long as funds are invested in insurance. The buyer supports this solution because legal opinions show that funds invested in the insurance are partially tax deductible. The seller supports this solution because funds grow tax-free in a vehicle that makes tax-free retirement payments.

Charitable Planning Charitable Limited Liability Company Super CLAT

37

A Charitable Limited Liability Company (”CLLC”) is a standard LLC or limited liability company combine with a charitable mechanism so that the K1 from the LLC distributes 99% or 100% of the income to a charity. Assets sold inside the LLC can be sold tax free. The managing member follows fiduciary standards when lending money to third parties, such as the independent trustee of a Dynasty Trust.

39

An individual can form a grantor CLAT that keeps the value of the CLAT remainder interest out of the estate while also producing a current income tax deduction equal to the present value of the future gift to charity. By using a family limited partnership funded with tax-free bonds and variable life insurance, it is possible to produce enough tax-free income to meet the distribution requirements during the term of the CLAT.

Testamentary Charitable 41 Lead Trust

This trust provides a simple tool to "zero-out" an estate tax. When combined with a Family Limited Partnership or similar entity, the TCLAT can eliminate estate taxes and facilitate the transfer of the entire estate value to heirs within 15 years of death. The TCLAT is often combined with a Wealth Replacement Trust to provide a first inheritance while heirs wait for the second inheritance from the TCLAT.

iv

Estate Planning Double Step-Up Planning

43

Double Step-Up Planning minimizes both estate and capital gains taxes on the transfer of assets to a trust that generates tax-efficient retirement income and/or transfer to heirs.

45

The EP Protection Plan summarizes the costs and benefits of the annual maintenance program for clients with trusts.

47

Grantor Retained Annuity Trust (”GRAT”), is a financial instrument commonly used in the United States to make large financial gifts to family members without paying a U.S. gift tax.

49

Irrevocable trusts often have special-incentive trust provisions to encourage beneficiaries to use the money tax efficiently. Attorneys can design irrevocable trusts to give the right amount of asset ownership and cash flow to beneficiaries at the right time, while transferring management and control responsibilities to the most responsible heirs. Clients can have greater comfort about moving assets to irrevocable trusts when they see how the trusts could reflect their dreams for each of their children, grandchildren, and other heirs. Income and Principal are allocated for medical purposes, educational goals, long-term care needs, and other criteria set by the client. Payments can be designed as corpus distributions, income payments, or loans. The client sets the criteria for the behavior that is to be encouraged.

For example: "$40,000 annually to any parent who stays at home with a minor descendant in my bloodline," "$1 of distributions to match each dollar of earned income generated by any child of mine," or “a reasonable market rate salary that the trustees deem appropriate to support a beneficiary as a full time missionary overseas.”

Sale to a Nongrantor Trust

51

The owner of a low basis asset may sell the asset to a trust and take back a note without recognizing any gain. The trust records the basis as being equal to the purchase price and begins generating depreciation deductions based on the trust’s purchase price. Alternatively, the trust can resell the asset without recognizing any gain and invest the money in a tax-efficient portfolio that generates little or no tax until the trust distributes money to the beneficiaries.

Preferred LLC

53

This flyer illustrates a tax-efficient vehicle for owning life insurance in a way that distributes cash value and death benefits to different trusts in a manner compliant with IRC Chapter 14. This is a powerful technique for transferring interests in a life insurance policy owned with cash from a captive insurance company.

55

The Qualified Personal Residence Trust ("QPRT") allows for tax-efficient transfer of a home from the taxable estate while giving the homeowner continued use of the home throughout one’s lifetime.

57

Life insurance trusts with spousal access provisions give a married couple the opportunity to pass a substantial amount of wealth outside of their taxable estates while maintaining access to the trust assets for retirement income or other cash flow needs. A properly designed SLAT can protect against premature death, divorce, and changes in the tax law.

59

Integrating estate tax planning instruments with income tax planning tools can zero out estate taxes while reducing income, capital gains, and on other taxes. Our law firm has a variety of zero-tax planning presentation pieces that apply to a wide array of fact patterns.

Our sample plans, strategy flyers, and other illustrations show how tax savings can increase lifetime income, transfers to heirs, and/or charitable giving potential. In most cases, clients see how the benefits of planning exceed the costs by a factor of at least 100 to 1.

EP Protection Plan Grantor Retained Annuity Trust Incentive Trusts

Qualified Personal Resicence Trust Spousal Lifetime Access Trust (“SLAT”) Zero Tax Estate Planning

Executive Benefit Planning 61

The Section 162 Plan is one of several tax-efficient vehicles for funding golden handcuffs and related executive compensation programs.

Restricted Property Trust

63

Key owners of a corporation create a restricted property trust and fund it with 100% deductible contributions. The amount of the contribution is flexible, depending on retirement income goals and death benefit needs. Individual accounts can be protected from lawsuits and divorces. In addition to providing tax deductions during funding, the plan can generate tax-free income during retirement.

Stock Options and Non-Qualified Deferred Compensation Strategies

65

Non-qualified deferred compensation and related stock option strategies ("NQDC") can provide excellent employee incentives but challenges related to income tax planning. Several techniques help improve after-tax benefits related to funding and exercising non-qualified deferred compensation strategies.

162 Plan

v

Insurance Planning Capacity Capture

67

The concept of Capacity Capture is to acquire all of the insurance the market may offer. The topic is relevant to “ultra-high” net worth clients.

Credit Shelter Trust with Life Insurance

69

Funds in an existing Credit Shelter Trust (aka, Bypass Trust or Family Trust) can provide an ideal source of life insurance premiums.

Allocating these funds systematically to a life insurance strategy can increase benefits to heirs, especially when the surviving spouse does not need income from the trust.

Financed Indexed UL Fixed Private Split Dollar Insurance Trust Review Insurance Warehousing

71

This strategy describes a way to acquire an indexed UL product with mostly borrowed funds.

73

Fixed Private split dollar helps individuals secure fixed universal life insurance for estate planning needs using corporate funds while keeping personal cash gift requirements initially to a minimum.

75

This strategy discusses the benefits and process of reviewing an existing insurance policy or portfolio within an irrevocable life insurance trust ("ILIT"). Email info@vfos.com for information on the complete trust owned life insurance review ("TOLI Review")

77

Insurance Warehousing is the concept of acquiring a significant amount of insurance today because it may be needed in the future.

For example, a client may acquire insurance now for paying estate taxes but hold the policy for use in a buy-sell plan later.

Life Settlements

79

Very often, older clients realize that they want current cash flow more than they want to keep funding premiums for a death benefit that they will never see. In such cases, it may be possible to sell unneeded policies on the life settlement market. This flyer provides a brief overview of the applications for and the benefits of life settlements.

Long-Term Care Insurance

81

Long-Term Care Insurance may offer a combination of medical, nursing, custodial, social, and community services designed to help people who have disabilities or chronic care needs, including dementia. Services may be provided in the person’s home, in the community, in assisted living facilities or in nursing homes. In 1993, Congress created an exception under the amendments to the Omnibus Budget and Reconciliation Act (OBRA-93) which specifically authorized the use of Supplemental Needs Trusts for the benefit of individuals who are under the age of 65 years and disabled according to Social Security standards.

Premium Financing

83

This flyer presents a very simple example of how an Irrevocable Life Insurance Trust ("ILIT") can borrow premiums to buy life insurance and then receive cash tax-efficiently to pay off the loan. This method of acquiring life insurance potentially avoids the use of annual exclusions and lifetime exemptions and does not require the client to liquidate investments to pay premiums.

Lifetime Wealth Transfer Planning Dynasty Trust Sale of Partnership Interest to a Family Grantor Trust Tax-Efficient Squeeze Freeze

87

This piece discusses the benefits and features of a Generation Skipping Irrevocable Life Insurance Trust ("ILIT") with two or more generations named as beneficiaries.

This popular wealth transfer strategy demonstrates how the client establishes a new family limited partnership and sells limited partnership interests to an intentionally defective grantor trust in exchange for a promissory note. This strategy can produce cash flow to pay insurance premiums without using any annual gift tax exclusions.

89

Assets are sold from the taxable estate to a trust in exchange for a note. Value grows tax-efficiently outside of the taxable estate.

Cash flow is paid to the grantor tax efficiently. This strategy flyer shows how a client can transfer non-voting stock in a business entity along with non-voting LLC interests to a gifting trust at a discounted (squeezed) value in order to freeze the value in the taxable estate.

85

Portfolio Planning Insurance as an Asset Class

91

Oil and Gas

93

Tax-Efficient Asset Management Solutions (“TEAMS”)

95

This piece positions insurance as an attractive addition to a financial portfolio offering returns that are uncorrelated with the market.

Oil and gas investments take many forms, including limited partnership interests, ownership of fractional undivided interests in leases, and general partnerships. Tax consequences and investor liability vary according to the type of program. True general partnerships in which investors actively participate in the operations of the venture are not securities. A general partner, however, is personally liable for partnership debts.

Now that top marginal capital gains rates exceed 34% for most California clients and top marginal income tax rates exceed 54% for many clients, there is growing interest in accumulating assets tax-free. Studies show that money would have grown to an amount four or fives times greater if taxes had been avoided over the last two to three generations. Using integrated trust and investment management solutions, it is possible to avoid these taxes over the next next two to three generations. vi

Retirement Income Annuity Income Maximization Defined Benefit Combo Plan

97

Also known as annuity arbitrage, this concept involves the purchase of a single premium immediate annuity and life insurance policy.

The annuity generates income and the life insurance serves to provide a return of capital at the death of the insured.

99

The Defined Benefit Combo plan helps a business owner generate greater benefits from a retirement plan. By combining defined benefit and defined contribution plans, it is possible to produce bigger income tax benefits as well as greater accumulations for retirement. Advanced versions of this technique can provide very large tax benefits.

Equity Appreciation Sharing

101

The Equity Appreciation Sharing Solution indicates how individuals can monetize illiquid real estate while generating large tax-efficient retirement income streams. Advanced versions of the Equity Solution facilitate tax-free transfer of real estate to heirs. The benefits of the strategy are illustrated with before and after bar charts, customized flow charts, annual after-tax cash flow tables, and pages of customized text.

Family Retirement Account

103

The Family Retirement Account ("FRA") can transfer assets from an IRA or other retirement account into an insurance policy that grows tax-free outside of the taxable estate. The policy can make tax-free "wash loans" during retirement years. Depending on the client's goals for income and/or wealth transfer, the FRA can significantly improve after-tax benefits during retirement or at death.

IRA Maximizer

105

This strategy involves taking taxable distributions from a qualified plan that the client does not need. The client makes tax-deductible annual gifts of the plan distributions to an ILIT to buy insurance. The IRA maximize does not require a profit sharing plan, as does the IRA Dynasty LLC and the Family Retirement Account.

Retirement Rescue Strategy

107

The Retirement Rescue strategy transfers funds from a retirement plan to a profit sharing plan that invests capital tax efficiently in a high cash value life insurance policy. After the policy is funded over several years, the policy is transferred to an irrevocable trust outside of the taxable estate. The trust can provide tax-free retirement income and/or greater benefits for heirs. The Retirement Rescue strategy includes a program for the tax-free transfer of Required Minimum Distributions ("RMDs") or other annual IRA distributions into an LLC that facilitates purchase of the policy from the profit sharing plan. The strategy also includes a "safety net" to protect tax-free benefits in case of a premature death. (Clients using this tool need not be over 70 1/2 years old; nor must they keep their contributions under $100,000 to satisfy the strict IRA Charitable Rollover guidelines for 2013.)

Roth IRA Conversion

109

By converting a traditional IRA to a Roth IRA and changing beneficiaries, it is possible to show accumulation of additional millions of dollars of assets in the names of grandchildren. Whereas assets distributed from normal stretch IRAs are subject to ordinary income taxes, payments from Roth IRAs are currently tax-free.

111

The IRA Trust helps protect retirement plan assets from taxes and creditors. At the death of the owner of the IRA, the IRA Trust will divide into smaller sub trusts for each intended beneficiary. Each sub trust can be structured as a conduit trust for maximum tax deferral and protection of principal. If greater asset protection is needed, the conduit trust can be changed to an accumulation trust before death. The IRA Trust is compatible with more advanced techniques to convert ordinary income into tax-efficient retirement income or wealth transfers.

Statutory Retirement Rescue

113

The Statutory Retirement Rescue strategy relies on the integration of long-standing qualified plan and charitable techniques to convert involuntary philanthropy into voluntary philanthropy. An insurance policy is funded within a profit sharing plan using seasoned money from the client’s IRA and/or other retirement assets. Then the policy is distributed tax-efficiently to a Super CLAT, which ultimately transfers an investment grade insurance policy to a trust that can generate tax-free retirement income and/or tax-free transfers to heirs.

Tax-Sheltered Retirement Distribution

115

This flyer presents a very simple example of how an ILIT can borrow premiums to buy life insurance and then receive cash taxefficiently to pay off the loan. This method of acquiring life insurance potentially avoids the use of annual exclusions and lifetime exemptions and does not require the client to liquidate investments to pay premiums.

IRA Trust

vii

Wealth Counseling 117

An Ethical Will is a non-legal document used to guide relationships and the interpretation of legal trusts. Legal and financial professionals draft ethical wills to help clients articulate their vision and values to the next generation. Language in the ethical will informs charitable and personal financial decisions and prepares heirs to receive a spiritual and emotional inheritance before receiving a financial inheritance. The Ethical Will is also known as a Legacy Letter, Family Financial Philosophy, or Family Wealth Statement.

Family Wealth Blueprint

119

A Wealth Blueprint typically shows a client how he or she can: 1) Eliminate all estate taxes, 2) Minimize income taxes, 3) Maintain an accurate understanding of how planning strategies impact net worth and cash flow, 4) Perform “what ifs” to analyze approaches to income tax planning that further your wealth accumulation goals, 5) achieve a variety of inheritance, cash flow, and other non-financial goals. The sample Wealth Blueprint discussed during our training shows a family with a $27 million net worth. The sample illustrates the estate optimization process by integrating seven different planning tools to increase transfers to family members by more than $3 million and enhance charitable gifts by more than $20 million. Estate taxes decrease from $14 million to zero, and income taxes are substantially reduced.

Family Wealth Statement

121

The Family Wealth Statement unites the family around a clear statement of vision and values. The six sections are based on answers given by the patriarch and matriarch who complete the Family Wealth Questionnaire. The document inspires beneficiaries to receive a spiritual and emotional inheritance before receiving a financial inheritance. Provisions establish guidelines for family meetings, charitable giving, and adviser evaluation.

Financial Checkup

123

This document, otherwise known as a “Current Analysis,” reviews a client’s current plan from five or more perspectives. The Financial Checkup considers investments, insurance, income tax, wealth transfer, business succession, and other issues. A report card at the back of the document

125

This may be the most valuable planning and marketing tool offered by Family Office Services (“FOS”). For only $300, FOS planners will help a client quantify how FOS can help a client reduce taxes or increase benefits for heirs or charities. When reading this letter, prospects typically see how an adviser, with assistance from FOS, can help provide millions of dollars of benefits for a relatively low cost.

127

A Wealth Strategy Counselor integrates the technical aspects (legal and financial) with the relational aspects of planning. The Wealth Strategy Counseling process often involves leading family members through retreats to clarify the vision, identify core values, and develop ranked and quantified lists of goals. Once goals are established, the Wealth Strategy Counselor will often use software and wisdom to identify which of hundreds of planning tools most closely correlate with the client’s objectives regarding the use and transfer of resources. If the goals focus on tax planning, the Wealth Strategy Counselor must know how to introduce and integrate appropriate non-tax goals into the plan design, drafting, and funding process. Instead of focusing on just the opportunities created by money, the Wealth Strategy Counselor unites spouses and/or other family members around a vision for realizing opportunities created by seven types of resources—including spiritual insights, emotional passions, intellectual capital, physical talents, social networks, professional training, and financial capital. While envisioning how each family member can most effectively exploit his or her assets to fulfill a personal calling and mission, the Wealth Strategy Counselor examines how to free-up resources needed for education, business acquisitions, or other investments in building the most meaningful future. The Wealth Strategy Counselor typically has training in theology, psychology or conciliation. For more information about the role of a Wealth Strategy Counselor, see www.CertifiedWealthCounselor.com.

Ethical Will

Value Proposition Letter

Wealth Strategy Counseling

viii

STRATEGY PROFILE

CLIENT SUITABILITY • Doctors, dentists, and other professionals and persons of high-net-worth with a concern for potential liability • A desire to maximize one’s assets so that they are protected from potential creditors’ claims • A desire to be aware and to implement a proper structure for their professional practices HYPOTHETICAL RESULT • Asset protection and risk management planning becomes coordinated with the client’s basic estate planning strategies • Assets become protected from both potential inside and outside creditors • Planning occurs for the orderly disposition of assets at death in the most favorable tax-saving manner

Domestic Asset

Protection Trust (“DAPT”) OBJECTIVE: To arrange one’s assets and affairs in the most effective way so as to protect and safeguard them from risks and any creditors’ claims to which they would otherwise be subject.

Dr. Thomas and Virginia Smith have concerns over the exposure that their personal assets have as potential claims against their business. The Smiths observed a proliferation of litigation in their industry that has given them a desire to increase emphasis on asset protection planning. The Smiths also observed how growing numbers of plaintiff lawyers gave them greater exposure to lawsuits.

Dr. and Mrs. Smith decided to create a professional corporation with a segregation of assets, a Sub S election, Shareholder agreement modifications, and other practice structure changes. In addition to protecting their medical practice, the Smiths want to shelter real estate investments and personal investments as well.

The Smiths’ attorney took into account their marriage and family situation. They wanted to put in place provisions to keep trust assets in the family for multiple generations, thereby creating de facto “prenuptials” for their kids and grandkids.

1

Benefits of DAPT The Importance of Protecting Oneself From Outside Creditors LLC or LP

Member/Partner

DAPT

Creditor

Definition of Outside Creditors: Outside Creditors are those creditors whose claims arise outside the purview of the business entity and are generally asserted against the business or real estate owner personally.

What are the techniques of protecting one’s assets from creditors?

• Domestic Asset Protection Trusts • Offshore Based Asset Protection Trusts Additional Asset Protection Techniques • Gifting to an Irrevocable Spendthrift Trust • Charitable Trust • QPRT, Bypass, and Marital Trusts • Qualified Retirement Plans and IRAs • Bankruptcy Exemptions • Marital Property Planning • Multiple Legal Entities • Family Limited Partnerships and Limited Liability Companies • The Charging Order • Modular Structure Using Domestic or Offshore Asset Protection Trusts and LLCs Things to Consider: • Be aware of existing business and professional practice • Prepare study analysis and plan • Implement and put plan into practice

5% Member

LLC#1

Real Property

LLC#2

5% Member

Liquid Investment

What are the limitations and issues that must be addressed?

• Fraudulent Conveyance Statutes • Bankruptcy Limitations • Federal and State Criminal Violations

695 Town Center Drive 7th Floor Costa Mesa, CA 92626 800.447.7090 Office 714.384.6580 Direct 866.447.7090 Fax www.MVMLawyers.com

This strategy flyer has been prepared as part of a bound volume that has been licensed according to terms of the license agreement at the back of the volume. This page may not be scanned or otherwise reproduced without the express written permission of the licensor, Voorhees Intellectual Property, LLC. SF16CreditShelterTrustsWithLifeIns_20140330

©Voorhees Intellectual Property LLC

2

STRATEGY PROFILE CLIENT SUITABILITY • Individuals with more than $1,000,000 of assets and possible creditor risks • Investors wanting to access tax planning options not available domestically • Clients wanting to diversify risks by putting some assets in other jurisdictions HYPOTHETICAL RESULT • Provides protection against creditors of the trustor • Transfers legal attacks against the trust asset to a foreign legal system • Keeps assets offshore and beyond the jurisdiction of the U.S. courts • Manages control more effectively by using a foreign trustee

Foreign Asset Protection Trust (“FAPT”) OBJECTIVE: To establish secure accounts that grow tax-efficiently while providing access to liquid funds.

Thomas and Virginia Smith built their wealth by diversifying. While they owned marketable securities and other assets in a variety of global markets, they were concerned about the risks of having all of their assets subject to the sometimes unpredictable actions of American legislators and judges. The Smiths, therefore, asked their attorney to design, draft, and to fund a FAPT. The trust allowed the Smiths to grow their investment portfolios and business interests outside the reach of American creditors. The Smiths used investment vehicles that gave them prompt access to liquid funds in their accounts. By using offshore custodians, the Smiths were able to lower annual administrative fees and minimize reporting requirements, thereby increasing privacy. The Smiths were also able to put some of their investments in offshore life insurance accounts.

These accounts had lower fees and better returns than those offered by domestic insurance carriers.

• Retains the right to use domestic investments • Coordinates with existing estate and tax planning instruments • Maintains more privacy regarding investment

3

FAPT Strategy Diagram and Benefits The Modular Structure

FAPT 95% Member

95% Member 5% Member

LLC#2

LLC#1 Real Property

5% Member

Liquid Investments

ASSET GROWTH: TAXED INVESTMENT VS. PRIVATE PLACEMENT LIFE INSURANCE End of Year 1 5 10 20 30

40

Taxed Investment $ 2,650,000 $12,288,296 $16,444,512 $29,449,617 $52,739,779 $94,448,912

Life Insurance Cash Value

Life Insurance Death Benefit

$ 2,664,490 $ 13,350,680 $ 20,508,070 $ 50,071,606 $125,094,550 $312,914,460

$ 43,900,480 $ 43,900,480 $ 43,900,480 $ 61,086,690 $133,851,180 $328,560,160

Source: Private Placement Life Insurance Planning (Part 1): Leslie C Giordani and Michael H. Ripp. Jr.

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STRATEGY PROFILE

Business Income Tax Solutions

OBJECTIVE: To generate current income tax deductions while funding a vehicle that can grow tax efficiently, while making tax-efficient payments during retirement or at death.

CLIENT SUITABILITY • Business owners ages 30-80 • Annual taxable income over $200,000 • Average to good health • Net Worth of $500,000 or more

Thomas and Virginia Smith achieved great success in their business. Instead of spending all of their income on their lifestyle, they wanted to maintain a comfortable salary and accumulate the excess taxable income tax efficiently.

The team of advisers recommended that they move beyond Level 1 on the planning pyramid to consider qualified plans at Level 2, non-qualified plans at Level 3, charitable solutions at Level 4, advanced executive compensation plans at Level 5, and hybrid charitable and non-charitable strategies at Level 6. These solutions are summarized at http://tinyurl.com/BizTaxSolutions and below: Climbing the Pyramid Enhances Tax-Efficiency Taxes on Contributions

Taxes on Employee Withdrawals

• Interest in effective wealth transfer strategies

Minimal Tax on Contributions

6) Advanced Tax Efficient Lifetime Income Solutions Capital Split Dollar Charitable LLC Family Retirement Account

• Adequate liquid assets with a desire to generate more after-tax retirement income

Moderate Tax on Contributions

5) Specialized Plans with Tax- Efficient Funding and Tax Free Withdrawals Super CLAT Section 79 Plan Section 162 Plan

Moderate Withdrawal Taxes

Moderate Tax on Contributions

4) Specialized Plans with Pre-Tax Funding Partially Taxes Withdrawals Charitable Remainder Trust Gift Annuities Pooled Income Fund

Moderate Withdrawal Taxes

HYPOTHETICAL RESULT

Moderate Tax on Contributions

3) Non-Qualified Deferred Comp SERP’s 409(A) Plans Traditional Deferred Comp

Heavy Withdrawal Taxes

Heavy Deferred Income Tax

2) Qualified Plans Profit Sharing Defined Benefit and/or Defined Contribution Plans

Heavy Withdrawal Taxes

Heavy Current Income Tax

1) Traditional Compensation Heavily taxed with payroll taxes going in and ordinary income coming out

Heavy Withdrawal Taxes

• Provides secure lifetime income for Generation 1 • Leverages available exemptions to improve inheritance for Generation 2

Minimal Withdrawal Taxes

5

The Smiths’ advisers illustrated the Smiths’ high income taxes on 1) their business income used for their lifestyle and 2) their excess income not used for their lifestyle.

The advisers customized a graphic like the one displayed to the right.

Tax on Excess Income

Business Investment

Charity

Education

Tax on Excess Business Investment Charity Education Lifestyle Taxes on Lifestyle

We Quantify the Cash Flow and the Tax Savings Needed to Fund Your Vision

The Smiths’ advisers then helped the Smiths calculate how much extra wealth they could accumulate if they: 1) invest excess income without taxes; 2) grow assets without taxes; 3) distribute assets without taxes (during their retirement or at death).

$800,000 $700,000 $600,000 $500,000 $400,000 $300,000 $200,000

With Tax-Efficient Planning Tools: If 50% of Excess Income is Lost to Taxes Before Investing: If Investment Returns are Reduced by 38% Taxes: If 38% of Accumulated Value is Lost to Withdrawal Taxes

Lifestyle

Taxes on Excess Income

Current Expenses

$100,000 $50,000

Taxes on Current Expenses 2013

The results were dramatic:

Impact of Investing Excess Income Tax-Efficiently:

Taxes on Taxable Income*

2014

2015

2016

2017

2018

2025

2035

Taxes on Lifestyle

*Please ask how taxes on Excess Taxable Income can be deferred using vehicles that grow wealth tax-efficiently and distribute wealth tax-free. See http://tinyurl.com/ExcessTaxSolution

Now

20 Years at 6.5%

30 Years at 8%

$500,000

$1,761,823

$5,031,328

$250,000

$880,911

$2,515,664

$250,000

$580,265

$1,068,205

$359,764

$662,287

N/A

The above numbers illustrate the power of tax-deferred accumulation but, with some types of retirement investment vehicles, the illustrated values may be further reduced by taxes on accumulation. Also, the tax rates on contributions and withdrawals may vary significantly depending on the timing of cash flows, changing tax rates, and other variables not considered in the above illustration.

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6

STRATEGY PROFILE

Capital Split Dollar OBJECTIVE: To generate current income tax deductions while funding a trust that can produce tax-free retirement income and/or transfers to family members.

CLIENT SUITABILITY • Individuals ages 40-70

Tom Smith is a key executive with a midsize company.

He and his fellow executives worked with the board to put in place a Capital Split Dollar program to fund retirement more tax efficiently.

The executives all had goals similar to these:

• Desire to generate more after-tax retirement income • Average to good health • Net worth $1 million or more • Interest in effective wealth transfer strategies • Have sufficient liquid assets

HYPOTHETICAL RESULT • Shift assets to family • Protect assets from lawsuits, creditors, and divorces

1 2 3 4 5

Retire in fifteen years, at age 65; Increase the funds available for their retirement even though they have fully funded their existing retirement plans; Increase their retirement income by making tax-deductible contributions, if possible; Increase their retirement income by contributing to a program that allows tax-deferred growth, if possible; Increase the inheritance available to their heirs.

• Reduce gift and estate tax • Fund life insurance premiums with minimal gift tax consequences

7

Capital Split Dollar Initial Structure OUTSIDE LENDER Makes loan to Smith Distributors, secured by the collateral assignment on the life insurance policy

THOMAS AND VIRGINIA SMITH

SMITH DISTRIBUTORS Loan

Borrow from an outside lender, then loan the same amount to Thomas and Virginia

Loan

Borrow from Smith Distributors, then use the proceeds to pay the premium on a life insurance policy owned by an ILIT

IRREVOCABLE LIFE INSURANCE TRUST Uses the proceeds to purchase a life insurance policy. The large initial premium substantially increases the Smiths’ retirement benefits

COMPARISON OF BENEFITS EXISTING PLAN

PROPOSED PLAN

Inheritance to Heirs in Year 15

$ 3,500,00

$ 4,800,00

Estate Tax in Year 15

$ 3,500,00

$ 2,000,00

Total 15 Year After-Tax Retirement Income

$ 1,479,00

$ 2,867,835 PROPOSED PLAN SUMMARY

Increased Inheritance to Heirs

$ 1,300,00

Decreased Estate Taxes

$ 500,00

Increased Retirement Income

$ 1,388,835

Increase to Charity

$0

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STRATEGY PROFILE

CLIENT SUITABILITY • Captive Insurance Companies (CICs) that need to invest funds tax efficiently • CIC assets of at least $250,000 • CIC structure requires anticipation of a taxefficient exit as part of normal succession planning • Some liquid assets can fund high cash value life insurance • A sophisticated advisory team who knows how to coordinate legal and financial strategies

Captive Preferred LLC OBJECTIVE: To accumulate captive insurance company cash tax efficiently while providing ample liquidity for payment of claims.

Smith Ventures created a Captive Insurance Company ("CIC") to insure against risks with terms and rates more favorable than those offered by commercial insurance companies. This allows the owner, Thomas Smith, to sleep much better at night. Nonetheless, Mr. Smith also appreciated that he and his heirs might "eat better" by accumulating wealth in a tax-efficient environment.

When creating the CIC, Thomas minimized tax exposure by creating the captive in a Dynasty Trust outside of his taxable estate.

This substantially increased available wealth by avoiding the 40% gift, estate, and GST taxes. Moreover, the CIC was established with an 831(b) election to avoid recognition of income when premiums are paid to the captive.

Mr. Smith was concerned, however, that the captive must be a C Corporation, which is subject to double taxation at high marginal rates. To address these concerns, Mr. Smith's tax lawyer suggested that all captive funds be contributed to a preferred LLC that owns a high cash value life insurance policy. This structure allows funds to grow tax free. Moreover, insurance funds can ultimately fund a taxefficient exit strategy when Mr. Smith is ready to sell his business and/or liquidate his captive insurance company.

HYPOTHETICAL RESULT • Provides secure access to all cash to pay claims on CIC assets • Tax-efficiently accrues assets not used for claims 9

Captive Preferred LLC Design

Modest Investment

Investment

Captive Preferred LLC

Excess LLC Value Pr

1) From death benefit 2) Return equal to Investment Plus Interest

s

ium

em

Investment Policy

Death Benefit

Policy Loans

Non-Preferred Member with Authority Management

Special Allocation

pre m ium s

Dynasty Trust

claims

Pr e

mi

um

s

Business Pays CIC Premiums

Mr. & Mrs. Smith Preferred, Non-Managing Member

Preferred Policy

Strategy Details The "CIC" invests in a Preferred LLC that owns two insurance policies. One of the policies is designed to have high early cash value so that it can promptly pay claims. The business that establishes the CIC and pays premiums to the CIC has "A" interests in the Preferred LLC to guarantee prompt payment of all claims. Any cash value not used for claims can be used to make tax-free loans to the owner of the business according to provisions of the "B" interests in the LLC. Any insurance cash value or death benefit not used according to the A and B interest provisions, will accrue to C interests owned in a Dynasty Trust for future generations.

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STRATEGY PROFILE

Cost Segregation Study

CLIENT SUITABILITY • Investment real estate owners • Annual taxable income over $100,000

OBJECTIVE: To maximize current income tax deductions while building wealth in real estate more tax efficiently.

Mr. and Mrs. Robinson operate a business that has an approximate net worth of $1,500,000 annually.

They founded the company twelve years ago, and purchased a 120,000 sq.ft. warehouse two years ago.

They want to:

• Net worth of $100,000 or more

• Increase their income tax deductions using accelerated depreciation schedules.

• Interest in effective wealth transfer strategies

• Benefit from shorter recovery periods on assets using the Modified Accelerated Cost Recovery System (“MACRS”).

• Adequate liquid assets

• Reduce their personal income taxes by catching up on depreciation that was missed in prior tax years.

• Desire to generate more after-tax retirement income

HYPOTHETICAL RESULT

• Family wealth transfer goals can be achieved

• Some family wealth passes to one or more charities selected by the client

• Optimize equipment depreciation lifetimes to plan business operations strategically.

Description Earthwork Site Earthwork Building F oundation Utility Service Site Improvements Concrete Estimates Landscaping Roofing Ceilings Wallcovering Security Plumbing HVAC Kitchen HVAC Computers Electrical otals

Cost $50,995 $1,110 $36,117 $23,117 $65,378 $32,306 $43,414 $14,232 $18,444 $5,980 $1,863 $29,430 $55,235 $21,703 $902 $22,987 $423,180

5 yr

7 yr

15 yr

30 yr

$50,995 $1,308 $36,119 $23,177 $65,378 $32,306 $43,141 $14,232 $18,444 $5,960 $1,863 $29,430 $55,235 $21,703 $902 $30,428

$191,820

$22,987 $200,932

• Estate tax may be reduced or eliminated

11

Benefits By implementing a Cost Segregation Study on their assets, the Robinsons may be able to: • Decrease their income taxes through increased depreciation deductions.

• Catch up with depreciation that was missed on their prior years’ tax returns.

• Increase their deductions with shorter depreciation schedules on assets.

The Cost Study reallocates business assets into personal assets to benefit from shorter depreciation schedules. Utilizing shorter depreciation schedules allows Mr. and Mrs. Robinson to gain significant depreciation deductions.

1-Yr Depreciation 2-Yr Depreciation Total

Current $10,850.77 $10,850.77 $21,701.54

Cost Segregation $14,602 $24,032

$38,634

*Hypothetical illustration. Individual results may vary.

1st year depreciation 2nd year depreciation

40000 35000 2-Yr Dep. 1-Yr Dep.

30000 25000 20000 15000 10000 5000 0

Current

Cost Seg

The chart shows a strong increase in the Robinsons’ depreciation deductions.

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STRATEGY PROFILE

Nevada Incomplete Gift

Non-Grantor Trust ("NING") OBJECTIVE: To allow investment income to be able to grow within a NING Trust without being subject to state income taxes, even if you continue to reside in a high income tax state such as CA, NJ, IL, or NY.

CLIENT SUITABILITY • Individuals who reside in a higher income tax state • Individuals with a significant portfolio balance, who earn substantial interest annually • Your designated beneficiaries reside in a low or no income tax state

HYPOTHETICAL RESULT • Family wealth transfer goals can be achieved • Deduction of taxes based on investment portfolio assets

Thomas and Virginia Smith have enjoyed their comfortable lifestyle in California. However, they are concerned about the high state income taxes in their state of residence. They are worried that they might need to move out of state to Nevada (a zero state income tax state), in order to reduce their taxes when they begin to liquidate their portfolio.

They soon learn that a NING Trust will allow them to remain in California while being able to keep their portfolio in a non-grantor trust located in Nevada.

• Allows you to continue to reside in a higher income tax state such as CA, IL, NJ, and NY, while moving your investment portfolio and its associated income to the income tax free state of Nevada.

• Since Nevada is a zero income tax state, your portfolio’s income will just be subject to federal taxes while it remains in the grantor trust. Your portfolio’s taxable income will not be subject to the tax in the state where the grantor of the trust resides.

• Once distributions are made to trust beneficiaries, their taxes will be based on their own states’ taxation rates where they reside. If they reside in a state with no income tax or very low income taxes, their tax treatment should be quite favorable.

• A NING Trust is set up as a Non-Grantor Trust. This allows it to be treated as a separate taxpayer. Any trust income is reported separately, rather than needing to be reported on your personal tax return.

• A Non-Grantor Trust is subject to a maximum federal income tax rate of 39.6% on any income above $11,950, whereas a Grantor Trust has the benefit of avoiding a compressed Federal Income tax bracket. As a result, care needs to be taken so that the state tax savings still outweighs the compressed rates of the federal taxes.

13

NING Trust Establishing the NING trust in a state with no income tax provides the elimination of state income taxes as well as asset protection benefits. These benefits are extremely attractive to a taxpayer in a state like California which has high income tax rates, especially when they have high amounts of unrealized capital gains or a consistent stream of income from other sources, such as an invest-ment portfolio. In order to avoid the major pitfall of this strategy, one must avoid grantor trust status while also keeping enough control that the gift is still considered incomplete.

This was not possible before when states laws demanded that the grantor trust status existed if the grantor’s creditors could reach the trust assets. Things changed when Nevada and other states began implementing statues that allowed self-settled trusts to be protected from the claims of creditors. Now these domestic asset protection trusts (DAPTs) have been adopted in a number of other jurisdictions.

COMPARISON OF NET BENEFITS TO HEIRS No Planning

180,000,000

SALE TO NING TRUST WITH PREMIUM FINANCING

160,000,000 140,000,000 120,000,000 100,000,000 80,000,00 60,000,000 40,000,000 20,000,000 60 61 62 63 64 65 66 67 68 69 70 71 72 73 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 Age

Benefit 1: Elimination of state income taxes Benefit 2: Asset protection Benefit 3: Ability to keep economic benefit of underlying assets Benefit 4: Settler allowed to retain a lifetime power of appointment

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STRATEGY PROFILE

CLIENT SUITABILITY

Net Operating Loss Strategy

OBJECTIVE: To shelter real estate development income with Net Operating Losses • Desire to shelter high current income with Net Operating Losses (”NOLS”) • Desire to build wealth tax-efficiently • Willingness to invest in an entity that has taxable losses that can offset income • Desire to convert ordinary income to capital gains income and/or tax-free income HYPOTHETICAL RESULT • Make use of NOLs to build wealth tax-efficiently • Invest in a structure that can provide tax-free retirement income and/or wealth for heirs

Thomas Smith, age 65, has built a successful real estate business. Sales of his real property generate ordinary income taxes at the top marginal rates. To reduce or eliminate taxes on the ordinary income, his CPA recommended that Thomas enter into a preferred limited liability transaction with a real estate developer who has Net Operating Losses (”NOLs”) that can carry forward.

Thomas’ CPA recommended that Thomas contribute income-producing real estate to a Limited Liability Company “LLC” in exchange for equity interests that would give Thomas most of the future appreciation on the real estate. Thomas would give up some current income by allocating it to another real estate developer who agrees to contribute equity to the LLC along with Net Operating Losses (“NOLs”). This second developer is willing to contribute assets and NOLs in exchange for assurances that the initial taxable income from the real estate project will be sheltered by the NOLs and paid to second developer.

The above exchange allows Thomas to acquire NOLs that shelter taxable income while allowing the second developer to “sell” the NOLs to the LLC in exchange for a preferred return. The Preferred LLC (“PLLC”) can be designed with income and growth interests that can help both Thomas and the second developer achieve lifetime cash flow and wealth transfer goals tax-efficiently.

The PLLC document can protect the second developer from downside risks when he contributes his equity and NOLs to the PLLC.

15

How Does the Net Operating Loss Strategy Work?

Investment

Modest Investment

From death benefit, a return equal to investment plus interest

Thomas negotiated to contribute real estate under development to a preferred LLC that held NOLs from the second developer. This can shelter more than $7,000,000 of ordinary income from taxes using $7 million of NOLs. This tax-sheltered income can grow to be worth more than $10,000,000 - as shown on the diagram at the right. Other taxable alternatives accumulate wealth less tax-efficiently.

s um mi Pre Death Benefit

Thomas Smith evaluated the preferred LLC vis-á-vis other common income tax planning tools. He saw that the Preferred LLC could provide better after-tax wealth accumulation than the contingent purchase price agreement and the “Do Nothing” alternative, which would cause the NOLs to expire worthless.

iums

Excess LLC Value Policy Loans

Managing Member Who is “Buying” NOLs

LLC

Special Allocation

Prem

NOL “Buyer”

Investment Policy $12,000,000

Developer Selling NOLs Preferred (Non-Managing) Member Who is “Selling” NOLs

Preferred Policy

$10,500,875

$10,000,000

$7,369,259

$8,000,000

$6,000,000

$4,529,284

$4,000,000

$2,000,000

$0

Preferred LLC

Contingent Purchase Agreement

Do Nothing

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STRATEGY PROFILE CLIENT SUITABILITY • Investment real estate owners • Annual taxable income over $100,000 • Net worth of $100,000 or more • Interest in effective wealth transfer strategies • Adequate liquid assets • Desire to generate more after-tax retirement income HYPOTHETICAL RESULT • Document the portion of corporate income attributable to Intellectual Property in order to substantiate value for a future buyer and/or for donations to charity • Provide compelling reasons why third parties should pay royalty income to the company

Intellectual Property Monetization (“IP”)

OBJECTIVE: To maximize current income tax deductions while monetizing intellectual property tax efficiency.

Mr. and Mrs. Smith operate a business that has an approximate net income of $800,000 annually. They founded the company fifteen years ago, and it has been growing successfully ever since.

They want to: • Increase their income tax deduction.

• Give back to their community through donations to their favorite charities and to people in need.

• Implement a plan to achieve asset protection and leave a family legacy.

• Retain control of cash flow and income as well as the business assets.

This can be achieved cost effectively and with low risk!

By implementing the Intellectual Property/Donor Directed Charity strategy ("IP/DDC"), the Smiths will: • Receive a tax deduction and retain control of their assets.

• Protect their business assets such as legal rights and trademarks.

• Create a plant that can be used for investments, real estate holdings, and other future ventures.

Income Current IP/DDC

$800,000 $800,000

Deductions

Tax

$160,000

$281,600

$750,000

$33,600 17

Intellectual Property Strategy Design and Benefits The Smiths' advisers presented them with a strategy known as the IP/DDC. This strategy includes creating an LLC and starting a DDC.

Main Operating Company Approximate Net Income of $800,000. Makes royalty payments to LLC for use of Intellectual Property

DDC Owns a portion of LLC units

LLC Owns Intellectual Property. Receives payments from Main . Company Operating

.

After creating an LLC and capitalizing it with their Intellectual Property, the Smiths will gift a portion of the LLC’s membership units to the DDC. This will give them a deduction equal to the value of units less any discounts. $800,000 $700,000 $600,000 $500,000 $400,000

Income Deductions Tax

$300,000 $200,000 $100,000

Tax savings: $248,000

$0

Current

IP/DDC

*Hypothetical illustration. Individual results may vary

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STRATEGY PROFILE

CLIENT SUITABILITY • Clients with more than $5.25 million in their taxable estates • Clients with high marginal income tax brackets who want to reduce income taxes • Clients needing asset protection • Clients wanting to begin a process now of transferring their values and the value of their estate to the next generation

HYPOTHETICAL RESULT • Avoid estate and gift taxes • Minimize income taxes • Protect assets from creditors

Sale to a Beneficiary Defective Irrevocable Trust ("BDIT") OBJECTIVE: To transfer wealth from a taxable estate into a trust that increases in value with no estate taxes and reduced income taxes.

Thomas and Virginia Smith want to transfer their values to their children through a process involving regular family meetings. Their attorney recommended creating a BDIT with provisions involving the children in the governance process. This would help the family members work together to make decisions while transferring assets in the BDIT to the next generation.

The Smiths sold interests in their LLCs to a BDIT in exchange for a note. This allows them to receive income in the form of non-taxable principal and interest payments on the note throughout their retirement years. The BDIT benefits Thomas and Virginia by helping them move assets from their taxable estate, enabling them to no longer pay income taxes on all trust income.

Instead, taxes will be at the beneficiary's lower tax rates. Moreover, the assets in the trust can grow income tax free during the beneficiary's lifetime. The beneficiary may have, according to the BDIT experts, virtually unlimited enjoyment of the economic benefit of the trust property, full managerial control over trust assets, creditor protection (including from an ex-spouse), maximum transfer tax savings and the flexibility, within limitations, to adapt to changing circumstances within the family, tax, legal system, or economy.

The Smiths worked with their accountant to confirm that all transactions, such as sales and loans, between the beneficiary and the BDIT were ignored for federal income tax purposes pursuant to the grantor trust rules. From the beneficiary’s point of view, the trust would be creditor-proof and protected from all transfer taxes. The BDIT was designed to work well with business succession planning.

The BDIT structure also addressed the concerns of Generation 3 members regarding the value of their equity in family business ventures.

19

Optimize Your Real Estate Equity BDIT PROPOSED PLAN GEN 2 GRANTOR Business assets owned in LLCs

RLT

Independent Trustee

$5,000 gift of cash

EXISTING IDIT

LLC INTERESTS

Owns Caliente Springs interests that may be sold to new BDIT

Hold investments properties

BDIT LLC interests may be

sold for a note with payments to Gen 2 member

Owns LLC interests.

Income taxed at lower beneficiary rates

Caliente Springs income paid to Gen 2 Member Gen 3 members have tax-efficient access to BDIT assets. Gen 3 can tax-efficiently accumulate unneeded taxable income in “capital accounts” showing positive return on equity.

The BDIT was designed to accomplish estate and business planning objectives. Thomas and Virginia Smith established the BDIT as settlor/donors to the trust. Their children and grandchildren were the beneficiaries. Their advisers followed these steps:

GEN 3 BENEFICIARIES

Assets sold by Gen 2 members to BDITs can stay in trust for Gen 3 members and future generations, if not consumed.

1. Establish the BDIT as a fully discretionary GST trust with a formula clause shifting unintended gifted assets to a non-exempt BDIT. 2. Design the BDIT as a Beneficiary Controlled Trust (“BCT”). The Client is given as much control over the trust as is reasonably possible without exposing the trust to creditors or taxes. The Smiths control (i) management of trust assets, (ii) selection of parties permitted to use trust assets (including the Client ), and (iii) the selection of the trust (subject to IRC §672 (c)).

3. Make a Seed Gift of $10,000.

4. Order a Quality Appraisal.

5. Complete a Defined Value Sale to the BDIT for a Note.

6 Provide a Legitimate Guaranty.

7 File a Form 709.

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20

STRATEGY PROFILE CLIENT SUITABILITY

Section 79 Plan

• Business owners seeking to develop a succession plan

OBJECTIVE: To fund a seamless transfer of control and equity in a business entity, to parties

• Business executives willing to insure one another

Thomas and Virginia Smith want to fund a succession plan so that they can retire when they are ready. To avoid problems they had seen with other plans, they hire advisers to help them meet their criteria. The Smiths want to make employer contributions that will be deductible under IRC 162(a), as ordinary and necessary business expense. They want to avoid special reporting requirements under 409(a) and related tax code provisions limiting retirement plans.

HYPOTHETICAL RESULT • Top-heavy application with as few as two employees participating • Tax deductible payments by the business as an employee benefit expense • Income-tax-free death benefit paid to employee's named beneficiaries

with adequate funding, in order to pay the seller what the business is worth.

The Smiths like how a Section 79 Plan can benefit both executives and employees. The Smiths' company makes a 10% employer contribution to the Plan. While this amount is taxable income to the Plan participants, the Smiths’ company pays the employee tax liability by grossing up the reportable income paid to employees.

The Smiths also help employees to have the option of receiving death benefits in excess of $50,000.

While this extra death benefit would be taxable to employees, the availability of the insurance appeals.

• Assets protected from creditors • Tax deferred asset accumulation • Key person indemnity to aid in recruitment and retention • Succession planning that maintains business continuity 21

Section 79 Comparison Total Cost Escrow Account

The Smiths compared the costs and benefits of funding their business succession plan by using an escrow account with the alternative solution involving a Section 79 plan.

The Section 79 Plan provides clear economic benefits for both the employees and the owners.

Total Future Income (After -Tax) Escrow Account

Section 79

$13,650,000

$16,000,000 $14,000,000

$13,600,000

$12,000,000 $10,000,000

$13,550,000

$8,000,000 $13,500,000

$6,000,000 $4,000,000

$13,450,000

$2,000,000 $0

$13,400,000

Escrow Account

Section 79

Section 79 Advantage

$700,000

$147,987

$552,013

Total Employee Cost

$14,000,000

$2,959,740

$11,040,260

Annual Future Income*

$673,250

$679,643

$6,393

$13,465,000

$13,592,860

$127,860

Annual Cost

Total Future Income

Section 79

*Annual future income is after-tax projected at retirement for twenty years.

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STRATEGY PROFILE CLIENT SUITABILITY • Owner of a business or professional partnership • Desire to plan a smooth transition while selling the business for a good price • Extra taxable income available to fund future tax-free payments STATISTICS MOTIVATING CLIENTS TO IMPLEMENT BUY-SELL AGREEMENTS • Only 30% of businesses make it to G2 and a mere 3% still generate profits in G3 • 60% of families waste away their wealth by the end of the second generation • 75% of parents worry that heirs’ lives may be adversely affected by wealth • 90% of families have little or nothing left of money received from grandparents • 95% of all traditional inheritance plans fail

Tax Deductible

Buy-Sell Funding OBJECTIVE: To provide for a secure retirement and tax-efficient transfers to family by funding a buy-sell agreement with pre-tax dollars.

Tom and his brother, Bill Smith, shared ownership in a company. To protect their wives and their employees, while guarding against the risks below, they crafted a buy-sell agreement. This agreement gave ownership of the company to the other brother, if one brother should no longer be able to help run the company. The brothers agreed to fund the buy-sell agreement with pre-tax dollars. This allowed them to buy much more insurance than would be possible by using traditional after-tax buy-sell funding methods. The Smiths worked with their advisers to buy an insurance policy with pre-tax funds as part of a structure that could provide tax-free payments to the surviving spouse while giving the surviving business partner the cash flow and control needed to continue operating the business effectively. Their strategy afforded these benefits: • Used one of several techniques to fund the Buy-Sell with tax savings • Used borrowed money to fund the Buy-Sell while keeping the loan off the balance sheet • Established a clear pricing formula to avoid disputes • Created a ready market for shares in an otherwise illiquid closely-held business • Insured smooth transition in ownership and control of business • Prevented unwanted parties from acquiring equity interests • Avoided negotiating business value during fire sale or forced sale • Eliminated involvement of decedent’s inactive heirs • Eliminated unpleasant negotiations with surviving spouse or decedent’s inactive heirs • Generated tax-free insurance proceeds to satisfy buyout obligation, allowing business to survive

23

Solution The Richards’ advisers presented them with a strategy known as the Section 162 Advantage. This strategy can be implemented within their main operating company without legal fees.

Current

Implemented 162

Main Operating Company

Main Operating Company

$200,000 $125,000 Salary Reimbursement Mr. and Mrs. Richards

$75,000 Salary

Mr. and Mrs. Richards

By taking advantage of the benefits described in IRC 162, the Richards can elect to take reimbursements for personally paid expenses that are ordinary and necessary in carrying on a trade or business.

Current

Implemented 162

Salary Reimbursements Total Cash Flow

$200,000 $0 $200,000

$75,000 $125,000 $200,000

Payroll Tax Threshold Income Tax Employment Tax Total Tax

$15,912 $52,068 $2,784 $70,764

$11,425 $15,173 $0 $26,598

Tax Savings

$0

*Hypothetical illustration. Individual results may vary.

$44,166

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STRATEGY PROFILE CLIENT SUITABILITY • Clients wanting to pass a business to successor managers • Clients concerned about statistics showing that 60% of families waste away their wealth by the end of the second generation. By the end of the third generation, 90% of families have little or nothing left of money received from grandparents.

Ultimately, 95% of all traditional inheritance plans fail • Clients who want to learn from the successes of 30% of family businesses that make it to Generation 2, and to learn from the 3% that still generate profits in Generation 3

Business Succession Agreement

OBJECTIVE: To put in place integrated agreements to help a business transition to the next generation.

Thomas and Virginia Smith respected King Solomon’s warning in Proverbs: “An inheritance quickly gained at the beginning will not be blessed at the end.” Solomon’s wisdom seemed especially relevant as the Smiths considered transferring their business to the next generation.

The Smiths read many books and articles about the decline and fall of great family businesses. A Generation 1 leader typically builds the enterprise with fire in the belly. During the early years, the business founder may wonder and dream about future possibilities. Initial attempts at starting the business usually lead to challenges. The founder learns from blunders, establishes a firm foundation for future prosperity, and enjoys thundering success, often for several decades.

Eventually, the business owner must transition the business to the next generation of owners and managers. These successors will usually not fully appreciate the vision and values of the founder. Successors (or their family members and advisers) will often be tempted to spend corporate assets and cash flow instead of reinvesting with clear vision and values. This starts a process of plundering that will undermine most businesses.

HYPOTHETICAL RESULT • Maintain tax-efficient income for Generation 1 while passing the business to Generation 2 • Pass on core values to successor managers before passing on the value of the business

Family Unites Next Decision-majers to Exploit Resources Strategically

Wonders

Blunders

Thunders

Plunders

F.U.N.D.E.R.S

25

Statistics Reveal the Dangers of Wealth The Smiths hired a business succession team to help evaluate the management team of their business. Experts analyzed the authority and accountability process as well as decision-making processes. The team also confirmed that job descriptions were current and fully aligned with corporate objectives, performance evaluation, and compensation systems. The strategic planning systems were reviewed vis-a-vis industry standards.

After reviewing the problems in the business, the business succession experts recommended how business managers could use 21st-century assessment tests, proven planning methodologies, and web dash boards to guide success in preparing successor managers for optimal stewardship of assets. Consultants confirmed that the Smiths had clear purposes for managers and a compelling mission for the business, along with well-documented processes, consistent core values, and clarity about the preparation and provision for successor managers. This preparation of the next generation helped family leaders unite the next decision-makers in expanding resources strategically. In this way, the Smiths had confidence that they could leave an increasingly influential legacy across the generations.

90%80% 45%

Accountability

90%80% 65%

90%80% 65%

Authority

Decision Making

100%80% 65%

Job Descriptions

90%80% 65%

80%70% 65%

Membership

ObjectiveSetting

Maximum possible score based on questions you answered

Your actual score

Clear

Purpose

100% 65% 37%

Clear

Purpose

100% 54% 30%

Clear

Principles and Priorities

Performance Evaluations

90%80% 65%

Rawards

100%40% 65%

Strategic Planning

65%80% 65%

Tenure

Maximum Score: 100%

Average Score: 80% Your Score: 60%

Average score of past survey takers

100% 76% 43%

45%100% 65%

100% 52% 25%

Clear

Provision

for Heirs

- Maximum possible score based on questions you answered - Average score of past survey takers - Your actual score

100% 70% 48%

Clear

Preparation of Heirs

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STRATEGY PROFILE

Captive Insurance Company (“CIC”)

OBJECTIVE: To generate current income tax deductions while funding a vehicle that decreases business risks and builds wealth for retirement and/or a business exit strategy.

CLIENT SUITABILITY • Financially independent clients, willing to permanently transfer wealth • Clients with an estate of at least $5 million or married couples with a combined estate of at least $10 million • Clients who have determined . how much inheritance is enough for. family members • Very charitably inclined individuals

HYPOTHETICAL RESULT • Family wealth transfer goals can be achieved • Some family wealth passes to one or more charities selected by the client • Estate Tax may be reduced or eliminated

Virginia Smith achieved great success in her business. Rather than continuing to grow her income, she decided to begin focusing on reducing her risk. A captive insurance company was recommended by her advisers, to accomplish this goal. Advisers considered the following factors:

1 2 3 4 5 6 7

Plan design. Ideally, the captive illustration should include detailed cash flow projections for the CPAs, summaries of legal documents for the attorneys, and flow charts for the client.

Plan administration. The captive formation process requires focused attention on the next action steps, ideally using web-based project management systems.

Tax law expertise. The formation and performance of a captive requires knowledge of numerous tax issues.

Captive regulations. Different jurisdictions have varying rules for managing captives and operating the trusts that own the captives. Advisers should understand the client well enough to know which structures should perform best.

Life insurance. Experienced producers can illustrate how life insurance policies may provide better tax, investment, and liquidity benefits than those available through non-insurance investments.

Investments. The adviser should clarify how Investment Policy Statement captive funds may be invested to fund Buy-Sell agreements and retirement planning programs, as well as wealth and estate planning.

Property/casualty insurance. Advisers should know when the client should maintain commercial insurance and when to self insure with a CIC. 27

Typical Ownership Structure For a Captive Insurance Company

Captive’s Stock

VIRGINIA (OWNER) Invest $250,000 into a new captive insurance company and become 100% owners of the new company.

Capital Contribution

Controlling Ownership

Deductible Premiums

TVC (OPERATING COMPANY) Pays up to $1,200,000 in annual insurance premiums for supplemental insurance coverage.

CAPTIVE INSURANCE COMPANY

Risk coverage and payment of claims

or

Receives $1,200,000 less in annual premiums. Offers supplemental insurance coverage for the business.

HYPOTHETICAL ILLUSTRATION

COMPARISON OF NET BENEFITS AFTER PAYMENT OF CLAIMS, EXPENSES, AND TAXES

The chart below indicates the relative advantage of paying claims from a Captive versus paying claims from a sinking fund into which the operating entity deposits its after-tax earnings. $25 MILLION

NO CAPTIVE

CAPTIVE BEFORE LIQUIDATION

$20 $15 $10 $5 $0

1

2

3

4

5

6

7

8

9

10

11

12

13

14

15

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YEARS

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28

STRATEGY PROFILE

CLIENT SUITABILITY • Business owners with at least 20 employees • Good credit if a leveraged ESOP is planned • Desire to generate better after-tax returns and/or operate a business in a tax-efficient environment

HYPOTHETICAL RESULT • Improve after-tax income for business • Reduce corporate income taxes • Reduce personal income taxes • Eliminate capital gains taxes on sale of business • Reduce estate or gift taxes • Increase wealth for heirs • Increase gifts for heirs

Employee Stock

Ownership Plan (“ESOP”) OBJECTIVE: To build a business in a tax-efficient environment and then transfer the business to employees for an attractive sales price while maintaining tax-efficient income from the business.

John and Linda Baker built a successful business that they wanted to transfer to their employees rather than a third party buyer. While the employees did not have a lot of extra money to buy the business, the company did have substantial assets in retirement plans and credit lines that could fund a buyout. Moreover, John Baker was happy to stay involved with the business for five years, in order to help the company generate cash flow to service the loan assumed as part of the ESOP transaction.

John appreciated the substantial tax benefits of the ESOP. He was fascinated to see how he could deduct both loan interest and principal from his taxable income, thereby dramatically lowering his taxes on business income. Moreover, John appreciated how he could transfer business equity into a portfolio that grew tax-free and made tax-free lifetime income payments. By adding a charitable trust to the transaction, John could direct a portion of his tax savings to favorite charities while preserving a more secure lifetime income until he and Linda die.

In contrast to typical ESOP transactions, where the design of the ESOP is driven by the seller’s financial planning needs, the Baker ESOP grew out of the need to provide a sustainable benefit for employees and the company’s core values. The Bakers saw how the ESOP clearly provided better benefits than phantom stock, pension plans, stock options, and other vehicles for helping employees.

29

ESOP Strategy Diagram and Benefits 1) John establishes an Employee Stock Ownership Plan (“ESOP”) for Baker Industries and appoints himself as Trustee. John transfers 60% of Baker stock to the ESOP. 2) John and Linda establish a Charitable Remainder Trust (“CRT”), and John transfers 20% of Baker stock to the CRT. 3) Baker Industries borrows $4 million from a bank, and loans the money to the ESOP on the same terms.

4) The ESOP uses the Baker stock as collateral for repayment of the loan. Baker will make annual, fully tax-deductible contributions to the ESOP for use in repaying the loan.

5) The ESOP purchases 20% of Baker stock from the CRT for $1 million.

6. The ESOP pays John $3 million for 60% of Baker stock.

JOHN AND LINDA

2 BANK

$

3

1

6 ESOP

BAKER INDUSTRIES

CRT

$

$

4

5

POTENTIALLY ACHIEVABLE BENEFITS IF DEATH OCCURS IN CURRENT YEAR

EXISTING PLAN Current Year Corporate Income Tax

$480,000

PROPOSED PLAN $255,000

Current Year Personal Income Tax

$140,000

$95,000

Inheritance to Heirs

$3,000,000

$8,000,000

Estate Tax

$2,000,000

$1,500,000

Legacy to Charity

$0

$1,000,000

Projected After-Tax Retirement Income

$170,000

$267,000

Business Goes to Children

No

Yes

PROPOSED PLAN SUMMARY Reduced Corporate Income Taxes

$225,000 for 10 years

Reduced Personal Income Taxes

$87,000 over 2-6 years

Increased Annual After-Tax Personal Income Pre-Retirement

$30,000

Increased Annual After-Tax Retirement Income

$88,000

Eliminated Capital Gains Taxes on Sale of Business

$750,000

Reduced Estate Taxes

$500,000

Increased Net to Heirs

$5,000,000

Increase to Charity

$1,000,000

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STRATEGY PROFILE

CLIENT SUITABILITY • Businesses trying to unite managers around clear statements of vision, mission, and core values • Companies that need help leveraging strengths and developing opportunities, while minimizing weaknesses and threats • Managers who want to execute plans based on the corporate mission by following plans with ranked and quantified objectives • Managers who want to empower staff members with clear strategic initiatives linked to fulfillment of tasks

HYPOTHETICAL RESULT • More teamwork • Greater growth • Enhanced employees • Increased focus on customer satisfaction

Business Vision and Values Retreat

OBJECTIVE: To unify business managers around clear statements of vision, mission and core

values while developing strengths to facilitate greater success around a purposeful and visionary planning process.

Smith Ventures wanted to incentivize and reward key managers while also designing and funding a business succession plan. The managers understood that the selection of compensation and tax planning strategies required agreement of all key stakeholders in the business. To foster agreement and promote unity, the managers hired a retreat facilitator to unite the managers around a clear statement of vision based on core values that all managers could actively affirm.

During the business retreat, key decision makers answered a series of questions to clarify the vision, mission, and values of the organization. To determine WOTS MOST IMPORTANT?®, a facilitator helped participants review the company's Weaknesses, Opportunities, Threats, and Strengths ("WOTS") to clarify the Mission, Objectives, Strategies, and Tactics ("MOST"). This process involved surveying external issues affecting the planning process with a focus on the most important Opportunities and Threats. Then, the retreat participants considered their responses to external issues in light of the company's internal Strengths and Weaknesses.

After reflecting on the most important external and internal issues, leaders clarified a vision-inspired and mission driven plan that upheld core values. Once the plan was clear, managers operationalized the mission and executed the plan by following clear objectives, strategies, and tactics. All of the executives experienced greater team work, accountability, and success as they followed the proven process explained at www.WOTSMOST.com.

31

Establish a Purposeful and Visionary Planning Process

MISSION OBJECTIVES STRATEGIES TACTICS

T

TM

ITIES T H

S

S WEAK H N GT

N TU

TR E N

In Goals!: How to Get Everything You Want-Faster Than You Ever Thought Possible, 2nd Ed., Brian Tracy cites results of a longitudinal study that tracked 1979 Harvard MBA program graduates.

The students were asked when graduating whether they had, "set clear, written goals for your future and made plans to accomplish them?" Only 3% of the graduates had written goals and plans. Ten years later, the 3% with written goals were earning, on average, ten times more than the other 97% put together. Other students with non-written goals also reported much greater success than those who had not recorded any goals. Pastor Rick Warren sites similar statistics in a sermon entitled "Making the Most of Your Time," delivered in Lake Forest, California, at Saddleback Church on June 11-12, 2005. Warren's research shows that, "Only five percent of Americans have written down goals for their life. Only five percent. Ninety-five percent of the people in America have no written goals for their life. It's interesting.

They've studied that five percent who have written goals. They are the same five percent that are the highest wage earners in the nation.�

E

A RE

The purposeful process produces results for individual managers:

S OPPO E S S R

The vision-inspired and values-based process unites managers around clear statements of mission, objectives, strategies, and tactics.

In the Journal of Business Ethics, Spring 2005, researchers Nabil Ibrahim and John P. Angelidis surveyed companies that foster an inspired vision and build upon time-tested values. They reviewed 312 companies before determining that companies with Christian statements of vision and values had greater performance compared to their industries, a larger growth rate in sales, and a better return on investment.

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STRATEGY PROFILE

Charitable

Remainder Trust OBJECTIVE: To reduce income and estate taxes while increasing funds to heirs CLIENT SUITABILITY

and favorite charities.

• High-net-worth individuals

Thomas and Virginia Smith own a large block of low-basis stock. Now that the stock has grown to such an enormous value, Virginia is not comfortable having so much tied up in one stock. Thomas, on the other hand, is hesitant to diversify because of the steep capital gains tax they would face if they sold the stock. They have considered giving some of the stock to charity, but they are afraid that they might need the income during their retirement years ahead.

• A desire to create an inheritance for children and grandchildren that can pass tax efficiently

Their Wealth Adviser showed them how a Charitable Remainder Trust could address their income tax concerns while guaranteeing future income for retirement. Their plan also provides income for their favorite charities as well as a comfortable nest egg for their heirs, which will pass to them free of gift and estate taxes.

• A desire to reduce income and estate taxes

Goals achieved because of the Charitable Remainder Trust: HYPOTHETICAL RESULT • Reduces federal estate taxes • Generates an income tax deduction • Accumulates wealth in a tax-deferred environment • Allows for tax-efficient distributions • Protects assets from creditors

• Reduces federal estate taxes • Funds favorite charities

• Generates an income tax deduction • Protects assets from creditors

• Diversifies their assets tax-free • Maximizes tax-free compounding • Manages the timing of taxable income

33

Charitable Remainder Trust Taxable Sale

CRT

CRT with WRT

Heirs

$ 1,638,842

$0

$ 1,500,000

Estate Tax

$ 1,340,871

$0

$0

$ 1,810,112

$ 1,810,112

$ 2,971,894

$ 2,971,894

Spendable Income $ 1,810,112 Charity

$0

DESIGN CONCEPTS 1) Thomas and Virginia contribute $2 million of highly appreciated marketable securities to a Charitable Remainder Trust.

2) For their contribution, the Smiths receive an income tax dedution of $398,100.

3) The Smiths receive an annual distribution of 7%, or $140,000 from the Trust.

STRATEGY DIAGRAM WEALTH REPLACEMENT TRUST (optional)

THOMAS and VIRGINIA Contribute $2,000 or zero basis or low-basis property.

Contribution

Annual gifts to trust to pay premiums

Acquires a $1.5 million policy on Thomas and Virginia.

4) The Smiths establish an Irrevocable Life Insurance Trust (”ILIT”) and instruct the trustee to purchase a $1.5 million policy on their lives.

5) The Smiths have sufficient cash flow from the CRT to make annual gifts to the ILIT to fund the policy.

6) Upon the death of Thomas and Virginia, the remaining trust corpus passes to the Smith Foundation.

7) At the same time, proceeds from the $1.5 million insurance policy pass estate-tax free to Thomas and Virginia’s heirs.

Initial annual Income tax deduction income of $140,000 of $398,100 SMITH CRT Payout rate of 7.0% for the client’s lives.

Future benefit to charity SMITH FOUNDATION

HEIRS

Remainder of CRT assets pass to Foundation upon death of clients.

Receive death benefits according to term of trust.

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STRATEGY PROFILE

CLIENT SUITABILITY • Ages 40-70 • Average or better health • Desire to defer taxes on capital gains • Desire to begin tax advantaged wealth accumulation strategy to help build assets for retirement and/or family wealth transfers

Capital Gains Split Dollar

OBJECTIVE: To sell an appreciated business or other assets through a trust that accumulates

1 2 3

HYPOTHETICAL RESULT • Shift assets to family • Help protect assets from lawsuits, creditors and divorce • Help reduce capital gains, gift, and estate taxes • Fund life insurance premiums without using annual gift tax exclusions or lifetime exemption

4 5

wealth tax efficiently while facilitating tax-free distributions for retirement and/or family wealth transfers.

Thomas and Virginia agree to sell their business to a buyer in exchange for cash.

The buyer works with the seller to make part of the purchase payments tax-deductible according to accepted accounting principles.

Payments from the buyer go to a trust for the benefit of the sellers, Thomas and Virginia. Transfers of cash to the trust do not trigger current taxes. The transfer agreement defers taxes and facilitates investment in vehicles that can make tax-free payments to the sellers throughout their lifetimes or to the sellers' estates at their death.

Once the investment funding process is complete, the seller can access cash tax-free every year throughout retirement.

The trust can have family bank features or other provisions to facilitate wise stewardship across the generations.

35

Capital Gains Split Dollar Stock or Company Assets Partially Deductible Payments Split $ Agreement

Buyer of Company

Tax-Deferred Trust for Benefit of Seller

Assumes $1,000,000 of payments to Hypothetical Seller, Age 50 EXISTING PLAN

PROPOSED PLAN

AFTER-TAX PAYMENT FROM BUYER

$

1,000,000

$

795,699

AFTER-TAX PAYMENTS TO SELLER (Assuming 38% CG Tax)

$

620,000

$

6.379.741

FAMILY FOUNDATION

$

-

$

960,939

ESTATE TAX (Assuming 40% rate)

$

420,000

$

-

PROPOSED PLAN SUMMARY IMPROVEMENT IN ECONOMICS FOR BUYER

$

204,301

INCREASED NET PAYMENTS

$

5,759,741

INCREASE TO FAMILY AT DEATH

$

960,939

ESTATE TAX SAVINGS

$

420,000

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STRATEGY PROFILE

Charitable Limited Liability Company

OBJECTIVE: To generate tax deductions while contributing assets to a structure that CLIENT SUITABILITY

grows tax efficiently and facilitates tax-efficient lifetime income.

• Clients with cash or assets that they would like to donate to charity

Thomas and Virginia Smith realized that their average tax rate was about 45%. This high level of taxation resulted from substantial income taxed at high federal and state income and capital gains tax rates. They also had additional assets subject to estate, gift, GST, and IRD taxes. They seemed resigned to working more than five months each year to fund the state and federal treasury departments.

• Clients wanting to preserve the right to manage funds and/or receive income from funds donated to charity

The Smiths’ adviser told them they could redirect taxes to trusts for retirement, family, and favorite charities.

Instead of paying 45% in taxes, the Smiths could pay 5% in taxes and pay the rest to their favorite charities.

The Smiths would still have as much or more personal wealth but they would have the joy and satisfaction of redirecting tax savings to causes that perpetuated their legacy.

HYPOTHETICAL RESULT • Increase after-tax lifetime income

To reduce taxes while increasing wealth for themselves and their favorite charities, the Smiths created a Charitable Limited Liability Company (“CLLC”). They capitalized the CLLC with appreciated assets and then donated 99% to a community foundation. The community foundation let the Smiths direct some of the income from their assets to the Smiths’ preferred charities. Additional income was lent to a trust that grew tax efficiently for the benefit of the Smiths’ family.

Personal Wealth 50%

• Protect assets from creditors • Transfer assets tax efficiently

5%

Community Wealth 45%

Consumed and Transferred to Beneficiaries

Paid is Taxes

• Increase wealth for family • Redirect taxes to causes that matter to your family

Gifted to Charity

37

Charitable LLC Design

The Smiths contributed stocks, real estate, and other low basis assets to the LLC. Acting as voting members of the LLC, they sold the assets with 99% of the sales proceeds sheltered from gain. The Smiths then distributed some of the gain to their favorite charities and lent the rest to a dynasty trust for the benefit of their children. Assets grew tax efficiently within the dynasty trust, while producing these benefits:

1% Managing Member

Client

Real Estate, Cash Stocks, Intellectual Property

Assets in ULTIMATE PLAN - Year 80

$58,053,216 $ 9,931,401

Assets in ULTIMATE PLAN - Year 100

$169,385,207 $ 12,437,343

Assets in CURRENT PLAN - Year 100

Client Passive Asset(s)

$11,648,030 $ 2,890,540

Assets in CURRENT PLAN - Year 80

LLC

Client

Assets in ULTIMATE PLAN - Year 50

Assets in CURRENT PLAN - Year 50

99% NonManaging Member

Total Charitable Gifts through Year 100 $45,887,150!

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STRATEGY PROFILE

Super CLAT OBJECTIVE: To generate a current income tax deduction, move assets out of the

taxable estate, and transfer wealth to a trust for retirement or family members by funding future charitable gifts in advance.

CLIENT SUITABILITY • A desire to increase charitable giving • A desire to maximize inheritance for heirs • A need to minimize gift or estate taxes

Thomas and Virginia expected high ordinary income from exercising stock options and selling real estate with substantial recapture. Because the Smiths were W-2 employees, they could not use business income tax planning tools to lower taxes. Fortunately, the Smiths had put aside significant income for retirement and their children, so the Smiths felt good about doing more charitable giving.

The Smiths’ attorney suggested that they could generate a substantial current income tax deduction by funding a Super CLAT. When designing the trust, the attorney worked with a financial adviser who calculated substantial benefits for the Smiths now and when the Super CLAT term ended in ten years. The numbers were among the most attractive available since the Super CLAT was created by Congress in 1969. Numbers are better because the interest rates used in the calculations are among the best since the 1960s.

The Strategy Behind a Super CLAT • Make a large contribution to a Charitable Lead Annuity Trust (CLAT).

HYPOTHETICAL RESULT

• Establish a trust that will make distributions to charity equal to 10% of the initial contribution each year for a period of 10 years, after which the assets in the trust will pass to the children.

• Reduce income tax

• An initial charitable distribution will occur which will increase in the future.

• Reduce or eliminate gift and estate taxes

• The distribution is reported as a gift. A portion of the remaining lifetime exemption is used to avoid paying any gift tax on this distribution.

• Begin annual charitable gifting program

• Ten years later, the assets remaining in the trust will go to the children.

• By using the lifetime exemption, the children are able to inherit a much larger sum. In addition, a charity(ies) has benefitted as well.

39

SUPER CLAT DIAGRAM

COMPARISON OF BENEFITS (Dollars in Millions) EXISTING

-

Income Tax Deductions

(from current annual charitable giving)

1 SUPER CLAT

THOMAS

$

3

Heirs Receive Immediately

(assumes entire net after-taxes and charitable contribution given heirs currently)

$

-

PV of Benefits to Heirs From CLAT Charity Income, Gift, and Estate Taxes

$

2

2,910,871

2,440,000

7

$

4,897,498

$

2,949,304

$

400,000

Increase to Charity (NPV) Tax Savings YEAR 2005 Heirs

Taxes

$ $ $ $

2,910,871 3,337,498 2,949,304 2,040,000 YEAR 2014

Charity

5

6

Heirs

Taxes

Charity

5 4

4 3

3 2

2

1

1

0

0

Taxes Heirs Charity

Current Plan 1.6 2.4 0.0

Proposed Plan 4.9 0.4 3.0

Taxes Heirs Charity

Current Plan 3.1 3.1 0.0

6 THE SMITH FAMILY FOUNDATION

5

CHILDREN

PROPOSED PLAN SUMMARY Increased Income Tax Deductions Increased Net to Heirs (Existing vs. NPV of CLAT)

4

SUPER CLAT

-

1,560,000

FAMILY LIMITED PARTNERSHIP

Proposed Plan 5.1 0.4 3.0

1) Thomas contributes $1,643,388 in cash or high basis assets to establish a Family Limited Partnership.

2) Thomas receives General Partnership and Limited Partnership units in exchange.

The value of the Limited Partnership units are discounted in value to reflect a lack of control and lack of marketability.

3) Thomas contributes the Limited Partnership units to a Super CLAT. 4) Since the Super CLAT is established as a Grantor Trust, Thomas receives an income tax deduction of $1,119,666 for the portion of the assets that are estimated to pass to the Family Foundation.

5) The Super CLAT pays an annuity of $136,664 (12%) to the Family Foundation for a period of 10 years.

6) As General Partner of the Family Limited Partnership, Thomas purchases a Variable Life Insurance policy on his life, paying the premiums with excess interest earned from tax-free municipal bonds.

7) After the term of the Super CLAT expires, the Limited Partnership units in the trust, which include the insurance policy, pass to Thomas' heirs.

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Testamentary

Charitable Lead Trust

OBJECTIVE: To zero out estate taxes and increase one’s charitable giving by paying an annuity over

CLIENT SUITABILITY • A desire to lower taxes • A desire to increase one’s legacy and charitable contribution • A desire to maximize one’s legacy by keeping control of your assets during your lifetime

HYPOTHETICAL RESULT • A greater contribution to charity and one’s beneficiaries • A decrease in taxes • A simple plan that allows you to change it at any time up until your death

a period of time to favorite charities. Once this period has ended, the remaining trust assets are distributed to a trust for retirement income and/or transfers to family.

Thomas and Virginia Smith wanted a low-cost way to direct their tax savings to their family and favorite charities. The Smiths did not want their children to pay estate taxes on the portion of the parents’ estate that exceeded the parents’ remaining lifetime exemption ($4 million). Instead, the Smiths wanted to accumulate the money that would have been wasted on estate taxes in a family foundation that could be managed by the children. The Smiths hoped to have their children meet annually to make decisions about investing the foundation assets and disbursing a portion of the earnings to charities that uphold the Smiths’ values. Thomas and Virginia believed strongly in having the family participate in voluntary philanthropy instead of simply letting 40% of their taxable estate pass to the Treasury Department, which would disburse the Smiths’ hard-earned wealth through involuntary philanthropy.

• The Smiths’ advisers showed them how they could retain use of all of their assets during their lifetime and transfer them into a Testamentary Charitable Lead Annuity Trust (“TCLAT”) at death in order to “zero out” estate taxes.

• Their attorney generated a customized report to illustrate how the heirs would receive a larger financial inheritance if the Smiths used a TCLAT. • When adding the financial inheritance to the capital managed by the heirs in the family foundation, the heirs realized that they could control more than twice as much capital if using a TCLAT instead of letting assets pass to the IRS.

41

VALUE AT END OF TCLAT TERM

THOMAS and VIRGINIA Contribute $1,666,667 of residual discounted estate assets to TCAT

STRATEGY DIAGRAM

Heirs

Estate tax

Charity

6 5

TCLAT Make 15 annual distributions of $143,681 to the Family Foundation, which totals $2,155,215 over the term of the trust. Remainder interest passes to heirs

FAMILY FOUNDATION

4 3

Makes distributions to charity as determined by Board of Directors

2 1 0

CHILDREN Receive the assets remaining in the TCLAT at the date of termination, projected to be worth $5,531,334

1) Thomas and Virginia Smith scheduled a meeting at MVM Law to have their attorney generate an illustration with numbers like those on this page.

2) The Smiths had their attorney update their living trust with a revocable TCLAT provision. The updated living trust gave the Smiths the right to change the TCLAT at any time until death.

Their heirs had limited rights to revoke the TCLAT provision following the Smiths’ deaths.

3) The Smiths met with their children to create guidelines for a family board. The family agreed to meet at least annually before and after the death of Thomas and Virginia to review how the Smiths should use TCLAT distributions to fund charities that would honor the Smiths’ legacy.

4) The Smiths met with their children to discuss the expected inheritance for each child. The children saw that they would receive reasonable wealth transfers during the lives of Thomas and Virginia and at the death of Thomas and Virginia. Therefore, the children did not mind waiting until the end of the term of the TCLAT to receive a portion of their inheritance. The parents and children agreed to shorten the term of the TCLAT (thereby generating less than a 100% estate tax deduction) if the children would be too old at the end of the TCLAT term.

5) The Smiths agreed to meet with their attorney periodically to review which trusts should complement the TCLAT in order to transfer appropriate assets to the children regardless of when Thomas and Virginia die.

Heirs Estate Tax Charity

TCLAT 5.5 0.0 2.1

Status Quo 3.1 2.6 0.0

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STRATEGY PROFILE

Double Step-Up

• Ages 50-85

Planning

• Average or better health

OBJECTIVE: To minimize both estate and capital gains taxes on the transfer of assets to a

CLIENT SUITABILITY

• Net worth of $5 million or more • Desire to begin tax advantage wealth transfer strategy to help build assets for future family inheritance HYPOTHETICAL RESULT • Shift assets to the family • Help protect assets from lawsuits, creditors, and divorces • Help reduce gift and estate tax • Lock in current high estate tax exemptions and favorable discount rules before laws change

trust that generates tax-efficient retirement income and/or transfer to heirs.

Thomas and Virginia Smith wanted to move assets from their taxable estates to avoid the 40% estate tax. Their adviser recommended that they gift and sell 99% of LLC and S Corporation interests to a grantor trust so that assets would grow outside of the taxable estate. The adviser explained the many tax and non-tax benefits related to transferring the 99%, but cautioned that the carry-over basis could be a problem for trust beneficiaries when they sell the assets.

The Smiths were concerned that, upon sale, a capital gains tax would be assessed on the difference between their initial investment and the sale price. Even if the assets are passed onto the next generation through a trust, the taxable gain remains unless there is a step-up in basis. Such a step-up can be obtained in a community property state by having the assets held in the taxable estate when the first spouse dies. At the first death, basis is increased to the fair market value. The asset can then be sold without capital gains taxes or transferred to a trust with no built in capital gains tax liability.

The Smiths loved the idea of avoiding estate taxes, as in the first paragraph, but also avoiding capital gains taxes, as in the second paragraph. Their adviser offered the solution on the following page.

• Minimize or avoid capital gains taxes 43

Solution

HYPOTHETICAL RESULTS

1. Capital Contributions

Non-voting Interests

Thomas and Virginia

$8,000,000 $7,000,000 $3,000,000

2. Discounted interests gifted/sold $1,000,000 Estate Tax

Capital Gains Tax

Income Tax on Lifetime Income

Important note: The insurance recommended below can quickly accumulate cash value greater than premiums paid if funded with some unique types of policies.

Insurance Provider Insurance policy on Susan

3. Annual Premiums

5. Make note payments or provide tax-free loans to the surviving spouse

Family Grantor Trust

6. Future Trust Distributions

Family

Hold assets for the

4. Death Benefit can benefit of the family pay estate taxes or buy assets from the estate

1. Thomas and Virginia recapitalize their S Corporation and LLC into 1% voting and 99% non-voting interests.

2. High basis assets are transferred now to a new Family Grantor Trust (possibly a Dynasty Trust) to grow value outside of the taxable estate.

At the first death (once assets have a step-up in basis), the Smiths can use what remains of their $10.6 million estate tax exemption to transfer the non-voting interests tax-free to a Family Grantor Trust.

3. The Smiths have their attorney design their Family Grantor Trust to hold an insurance policy funded with annual exclusion gifts. The trust pays annual premiums on an insurance policy designed to pay a death benefit when one spouse dies. To keep premiums low, the healthiest spouse is insured. Upon the death of the insured spouse, a tax-free death benefit is received by the trust.

4. Upon the death of the first spouse, when assets receive a step-up in basis, the assets can be acquired by the trust using the insurance death benefit.

5. The assets can be bought by the Family Grantor Trust for cash from the estate. Money from the purchase can support the surviving spouse. If the non-insured spouse dies, the assets can be bought by the trust for a note with monthly interest to support the surviving spouse.

6. The assets are moved to the next generation with the basis stepped up to the current market value.

The Smiths avoid both estate and capital gains taxes!

Note: The insurance protects against the principal risk with this strategy: the possibility that both spouses may die at the same time while assets are still in the taxable estate. If this should happen, the insurance can pay the estate tax or fund a charitable tool that zeroes-out the estate taxes. If insurance costs are prohibitive because of bad health, alternative solutions are available.

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STRATEGY PROFILE

CLIENT SUITABILITY • Individuals who have retained our estate planning services and desire to continue to preserve their estate plan • Individuals who would like to have contact with our attorneys regarding their estate plans throughout the year for a nominal fee • Individuals who know it is wise to plan for the future and not be caught off-guard when change inevitably hits their estate plan HYPOTHETICAL RESULT

EP Protection Plan OBJECTIVE: To provide a valuable service for you and your heirs where we assist you in keeping your estate plan up-to-date, while informing you of the appropriate changes that may have occurred within the estate planning legal environment.

Thomas and Virginia Smith wanted to work with our firm to draft their revocable living trust. However, they needed additional help as their goals changed, their assets changed, the tax laws changed, their advisers changed, and their family changed. They felt that it would be much more cost effective to pay one time for the services that they anticipated needing than on an as-needed basis. For example, one service they wanted taken care of was the administration of their HIPAA forms.

The Smiths elected to enroll in the EP Protection Plan and then renew their membership on an annual basis. As a result, they no longer had to worry about the administration of their HIPAA forms. The Smiths appreciated how MVM Law brings a wealth of experience to help ensure that their interests are protected. EP Protection Plan provides the following services: • • • • •

Updates explaining changes in tax laws, IRS rulings and planning techniques Annual review of your estate plan Annual review of titling of assets Workshop teaching clients on specific estate planning issues Approved amendments, such as change of trustees and beneficiaries (once per year) • Unlimited telephone consultations to answer your estate planning questions • Personal consultations regarding advanced planning needs as they arise

• Net benefits to heirs may increase • Long-term tax-deferral • Less overall cost because the plan is being kept up-to-date

45

EP Protection Plan An annual fee of $450 or a one-time fee of $3500* also includes the following services: • Any additional legal services outside the scope of the estate plan services includes a 20% discount.

• We provide you with access to a link at change to http://24-7-benefits.com which allows you with to access your Advanced Healthcare Directive.

• Invitations to annual client dinners.

• Notifications of any significant changes in the law.

• Unlimited telephone consultations to answer your basic Estate Planning questions.

• Personal consultations for advance planning needs, as they may arise.

Note: The annual cost of the EP Protection Plan is a nominal fee of $450 vs. the overall $2000 value of legal services provided. This value includes an annual review (up to two hours, a value of $900), $300 value of Advanced Healthcare access, $300 amendments/updates services, and $500 in Asset Funding services to your Trust.

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STRATEGY PROFILE

Grantor Retained Annuity Trust

CLIENT SUITABILITY

OBJECTIVE: To substantially reduce the value of the assets being given away, by delaying the use of the property by the recipients for a period of years.

• Individuals who want to transfer appreciating assets to heirs • Individuals who want to retain income from assets for a predefined period • Individuals who want to reduce gift tax on ultimate transfer of assets • Individuals with “S” Corporation stock, limited partnership interests, and rapidly appreciating assets

Thomas and Virginia Smith want to transfer their appreciating assets to their heirs. At the same time, they want to retain income from assets for a predefined period of time. They also want to reduce the gift tax on the ultimate transfer of assets to their heirs.

By creating a Grantor Retained Annuity Trust (“GRAT”), the Smiths substantially reduce the value of the assets being given away by delaying the use of the property by the recipients for a period of years. Also, if successful, it eliminates the value of the assets and their subsequent appreciation from estate taxation. The assets of the Smiths are then sheltered from the claims of potential creditors.

How the Strategy Works: • Creates irrevocable trust • Transfers appreciating assets to trust • Determines number of years to receive income from trust • Determines payout rate

HYPOTHETICAL RESULT • Net benefits to heirs may increase • Reduction of gift tax

47

Grantor Retained Annuity Trust Assumptions Transfer Date Section 7520 Rate Beginning Principal Trust Term Client’s Age Spouse’s Age Annuity Frequency Annuity Increase % Annuity Payment Rate Growth Rate of Principal

Client 1. Gift $1 million

2. Annual Distributions

GRAT 3-yr 35% 3. $509,000 actual future transfer (25% earnings)

4. Taxable gift value $522

Family

Year

Contribution (Beg. Of Year)

Assets in GRAT (End of Year)

1 2 3

1,000,000 -

901,835 744,312 509,110

Distribution to Grantor

Distribution to Heirs

348,165 382,982 421,280

509,110

1-Jan-00 7.2% 1,000,000 3 60 60 1 10% 34.82% 25%

Taxable Gift Valuation • • • • •

• The “exhaustion test” must be applied to determine whether an annuity is valued in the standard manner or whether it is subject to special revaluation rules (Rev. Rul. 77-454).

• GRAT gift amounts are prevented from actually reaching zero.

• Grantor Trust rules apply and Grantor pays income tax on all income received by the trust, even if Grantor receives only a portion of it.

• The Grantor has the right to buy back assets and it is considered a tax-free event. The Grantor can receive distributions in-kind.

• If Grantor survives term, assets are excluded from grantor's estate.

Determined when transfer is completed Current FMV of contribution assets Term of income interest Value of annuity payment Current IRC Section 7520 rate

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STRATEGY PROFILE

CLIENT SUITABILITY • Families trying to reward behaviors of beneficiaries that are consistent with the family’s vision and values • Settlors trying to foster distribution of trust funds in a manner that rewards gainful employment, realization of educational goals, involvement in appropriate charities, commitment to parenting children and/or other socially beneficial goals

HYPOTHETICAL RESULT • Discourages excessive dependence on trust payments • Encourages completion of college degrees, gainful employment, involvement in charities, etc.

Incentive Trusts OBJECTIVE: To motivate beneficiaries with incentive provisions in trusts.

Thomas and Virginia Smith are concerned about studies showing that 80% of the heirs of wealthy families will dissipate the family’s wealth by the third generation. They fear that the age-old concept of “shirt sleeves to shirt sleeves in three generations” will still apply in their family. At their country club, they see how many first generation members have “fire in their belly” and great entrepreneurial zeal, but the second generation members seem content earning business degrees and merely maintaining the wealth. Of greater concern is the fact that the third generation often includes many individuals who are content to work as golf pros, artists, ski bums, creative types, perennial students, active vacationers, and others who will eventually consume the family's wealth.

The Smiths believe that they can beat the 80% odds of wealth being wasted if they pass on their values along with the value of what they own. This process begins with clarifying their values in a clear statement of the family’s vision and mission. These statements can guide the wealth management process and provide clear character principles and written priorities to guide beneficiaries. Moreover, the trustees can use objective standards to reward responsible heirs and discourage heirs who do not uphold the family’s values.

To unite families around clear values, and to help heirs appreciate the wisdom of honoring the family's core values, the Smiths hired a wealth counselor to lead annual meetings. In these gatherings, the family clarified which behaviors would be rewarded. While Thomas and Virginia, the patriarch and matriarch, were alive, these family meetings provided outstanding opportunities to affirm and reward behaviors consistent with the values that made the family successful.

• Helps give beneficiaries a spiritual and emotional inheritance before they receive a financial inheritance 49

Motivating Heirs with Incentive Trusts A wealth counselor attending the family meetings can affirm important values and establish a process for perpetuating the family's values in future generations. Ideally, this process involves crystallizing core values into a document that clarifies which values should be encouraged and which should be discouraged. Typically, a family will have a few paragraphs about promoting education, philanthropy, as well as savings. Likewise, the family should maintain a document that discourages misguided consumption, self-destructive behavior, and unfocused charity.

A wealth counselor can work with the family's attorney to add paragraphs about the above topics into trust documents that will guide trustees and heirs after the patriarch and matriarch are no longer able to preside over family meetings. Unlike traditional discretionary trusts, which provide for discretionary distribution decisions pursuant to broad or narrow standards, the incentive trust uses objective and inspiring language to encourage beneficiaries to meet designated standards of desirable behavior. An incentive trust is designed specifically, not only to provide funds to the beneficiary for one or more stated purposes, but to cause the beneficiary to carry on values consistent with the family's core values or the unique gifting of the beneficiary.

An incentive trust, if used improperly, can be legalistic and stifling for the beneficiaries. Wealth counselors, attorneys, and family leaders must guard against using rules rather than relationships to guide heirs. Fortunately, qualified wealth counselors know how to promote encouraging relationships during family meetings and then capture the essence of this encouragement in incentive trust document language. By working with a qualified wealth counselor, heirs can understand core values more clearly. Just as importantly, they can work with a wealth counselor to maximize the likelihood of the incentive trust provisions inspiring heirs across the generations.

1) The Settlor has the power to remove or replace the trustee

The Three Most Common Ways to Include Flexibility in an Irrevocable Trust 2) The Trustee has the power to apply discretionary distribution standards

Trustee

Trust

Settlor

Spouse

Children

Siblings

3) The Settlor’s spouse is named as a trust beneficiary

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STRATEGY PROFILE

Sale to a

Non-Grantor Trust OBJECTIVE: To sell an appreciated asset to a trust and take back a payment obligation CLIENT SUITABILITY • Clients with appreciated assets who need secure lifetime income • Clients who want to build wealth with less capital gains tax and no estate taxes • Clients who desire for their trust to be treated as a taxable entity, and for their trust to be responsible for the tax consequences of income, deductions, and credit HYPOTHETICAL RESULT

without recognizing gain at the time of the sale, and to generate secure income during retirement with most of the income taxed at capital gains rates.

Thomas and Virginia held low basis real estate that they wanted to sell without triggering an immediate capital gains tax.

Their adviser suggested that the Smiths capitalize the assets into an LLC and sell 99% of the LLC (the non-voting interests) to a non-grantor trust for a note. The Smiths retained the 1% voting interest. They recommended that the note make payments each month to the Smiths throughout their retirement with most of the income taxed at lower capital gains rates. The payments were to begin as soon as the non-grantor trust sold the low basis real estate to a third party.

The third party would buy the real estate at market value from the LLC. Because the Smiths checked the 754 election box on their tax return, the market value basis (outside basis) could be assigned to the property in the LLC (inside basis).

This can effectively trap the capital gains tax in the trust until payments are made on the installment note.

BENEFITS OF A SALE TO A NON-GRANTOR TRUST * • It is considered a business entity instead of a person, depending on the property and who benefits from it. Therefore, a sale to a non-grantor trust involves possibly a different tax rate.

• Defer or eliminate income tax upon sale of assets in trust

• The non-grantor trust is funded via a gift with assets equal to at least 10% (or approximately $750,000) of the value of the proposed sale, in order to avoid any potentially serious tax consequences.

• Reduce gift and estate tax

• This gift limits the amount that you can transfer to the RMA presently free of tax.

• Increase benefits to heirs • Retain control of assets transferred to heirs

* For more benefits, please reference endnotes at the end of this book

51

Sale to Non-Grantor Trust Strategy #4 IRS regulations provide for allocation of a transferee’s market value basis in his partnership (or LLC’s) interest when the partnership makes a §754 election. The goal of §754 is to achieve uniformity between the inside and outside basis, when there has been a transfer of a partnership interest by sale. In other words, the party selling a partnership (or LLC) interest to a non-grantor trust, after making a §754 election should have the same basis in his share of the underlying partnership (or LLC) assets. This would be as if the party had purchased an undivided interest in them.

To achieve this goal, rules require that you:

THOMAS AND VIRGINIA

Give and sell LP #2 interests to Non-grantor Gift of $750,000 of LP units to trust

1) Make a §754 adjustment based on the difference between the partner’s basis of his partnership interest and his share in the underlying basis of partnership property.

2) Make accounting adjustments for two classes: ordinary income and capital gains property. The adjustment must be applied first to ordinary income property in an amount equal to the income. Then the adjustment is applied to the capital gains class.

3) Allocate the step-up for each class when selling from the non-grantor trust to a third party.

Sale of $6,306,000 of LP units to trust NON-GRANTOR TRUST Boosts the inside basis of the FLP to equal the outside basis so that assets can be sold at a lower tax cost. Gain is recognized to the extent interest payments are made.

Interests can be capitalized inside the trust to defer capital gain on asset sale

Assets and income are distributed to heirs according to trust provisions

HEIRS Receive income and principal according to terms of trust

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STRATEGY PROFILE

CLIENT SUITABILITY • Family members in average or better health • Net worth of $5 MM or greater • Limited ability to use annual exclusions or lifetime exemptions for gifting • Some liquid assets to fund high cash value life insurance • Sophisticated advisory team who knows how to coordinate legal and financial strategies HYPOTHETICAL RESULT • Provides secure lifetime income for Generation 1

Preferred Limited Liability Company

OBJECTIVE: To provide adequate cash for the party with assets while transferring most of the assets tax efficiently to another party Mrs. Jones, age 75, is a widow and the last surviving senior generation member of the Jones’ family estate. The Jones’ family estate is valued at approximately $12.5 million. It is comprised of real estate, private businesses, investments, and cash. Mrs. Jones exhausted all of her exemptions and gift credits by implementing a series of transfers and gifts that were recommended to her by her estate tax attorney. Mrs. Jones has one child, a son, age 45. Mrs. Jones had no existing life insurance policies. Her son is in excellent health and married, with three children. Mrs. Jones has no existing life insurance policies. Mrs. Jones is very motivated to consider other advanced estate planning solutions and has a significant desire to transfer wealth to her son and grandchildren in an efficient manner.

Absent any additional advanced estate tax planning, Mrs. Jones faces a substantial estate tax liability upon her death. She is too old to use traditional estate planning tools like the IDIT and TCLAT to transfer wealth to beneficiaries in a timely fashion. Mrs. Jones is in poor health, uninsurable, and cannot secure life insurance for estate tax funding purposes.

Fortunately, Mrs. Smith's advisers were able to design, draft, and fund a preferred LLC that was more powerful than alternative instruments. By insuring younger family members, the preferred LLC could realize benefits even better than what would have been realized by insuring Mrs. Smith.

• Leverages available exemptions to improve inheritance for Generation 2 53

How Does the Preferred LLC Work?

Investment

Modest Investment

Son

From death benefit, a return equal to investment plus interest

Prem

s um mi Pre Death Benefit

iums

Excess LLC Value Policy Loans

Non-Preferred, Managing Member

Investment Policy Mrs. Jones evaluated the preferred LLC vis-à-vis other common estate planning tools including the IDIT and TCLAT. The preferred LLC provided the greatest wealth transfer without using insurance on Mrs. Jones’ life.

$12,000,000

Mrs. Jones

LLC

Special Allocation

Preferred, Non-Managing Member

Preferred Policy

$10,500,875

$10,000,000

$7,369,259

$8,000,000

$6,000,000

$4,529,284 $3,141,983

$4,000,000

$2,000,000

$0

PLLC

Interest-only IDIT

TCLAT

Do Nothing

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STRATEGY PROFILE

Qualified Personal Residence Trust

OBJECTIVE: To transfer a home outside of the taxable estate while retaining the right CLIENT SUITABILITY • Clients desiring to pass their home to family members while retaining the use of the home for life • Clients wanting to leverage available gift and estate tax exemptions by transferring assets with values greater than the amount of the exemptions

HYPOTHETICAL RESULT • Transfer the home tax-free

to live in it.

Thomas and Virginia, both age 55, own a vacation home valued at $500,000. They have no mortgage on the property. They ultimately want to transfer the property to their children. They do not want to use up a large portion of their lifetime exemption in giving the property outright today. They also do not believe their children are ready to properly manage the property at this time. Instead, they decide to transfer their property to a QPRT. They design the trust to hold the property for fifteen years. During this time, they will be able to enjoy their home just as they do now. At the end of the term, the property will pass to their children. When they contribute the home to the QPRT, the value they will have to report as a gift to their children is only about 32% of their home’s current value.

In other words, they will report a gift of approximately $160,000 and will apply some of their lifetime exemption to avoid any current gift tax on this transfer. After fifteen years, the home may be worth more than $1 million.

This property will pass to the children free of any additional transfer tax.

• Equity in the home is built outside of the taxable estate.

55

Optimize Your Real Estate Equity THOMAS AND VIRGINIA

To retain control of assets transferred to heirs, reduce gift and estate taxes, and increase benefits to heirs, the Smiths designed their QPRT as follows:

Contribute property to two separate qualified personal residence trusts with terms of 15 years.

• They transferred their home into a QPRT with a

term equal to about 70% of their life expectancy, so that they had a high likelihood of outliving the term.

Residence passes to trust

SUMMARY OF BENEFITS QUALIFIED PERSONAL RESIDENCE TRUST

HEIRS RECEIVE FUTURE BENEFITS FROM THE TRUST

$

8,899,152

ESTATE TAX SAVINGS

$

2,500,000

QUALIFIED PERSONAL RESIDENCE TRUSTS

• They had an appraiser calculate the net present

value of the right to use the home. The difference between this value and the appraised value was the gift.

Receives qualified residence.

• They filed a gift tax return to apply a lifetime exemption against the taxable gift.

• They retained the right to live in the home and

serve as the trustees of the QPRT for life, while agreeing to pay rent to the QPRT trust (for the benefit of the children) at the end of the term of the QPRT.

HEIRS

After 15 years, property passes to beneficiaries.

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STRATEGY PROFILE

Spousal Lifetime

Access Trust (“SLAT”) CLIENT SUITABILITY • Individuals facing possible estate taxes or creditor actions • Individuals wanting to provide tax-efficient income for the surviving spouse • Individuals trying to accumulate wealth with the unique investment options available through life insurance

OBJECTIVE: To generate a current income tax deduction, move assets out of the

taxable estate, and transfer wealth to a trust for retirement or family members by funding future charitable gifts in advance.

Thomas and Virginia expected high ordinary income from exercising stock options and selling real estate with substantial recapture. Because the Smiths were W-2 employees, they could not use business income tax planning tools to lower taxes. Fortunately, the Smiths had put aside significant income for retirement and their children, so the Smiths felt good about doing more charitable giving.

The Smiths’ attorney suggested that they could generate a substantial current income tax deduction by funding a Super CLAT. When designing the trust, the attorney worked with a financial adviser who calculated substantial benefits for the Smiths now and when the Super CLAT term ended in ten years. The numbers were among the most attractive available since the Super CLAT was created by Congress in 1969. This is because interest rates used in the calculations are among the best since the 1960s.

BENEFITS OF A SLAT

HYPOTHETICAL RESULT

• The grantor is given the ability to pass wealth outside of his or her estate through this type of ILIT (irrevocable trust).

• Estate tax-free death benefit proceeds

• Special spousal access provisions exist which distinguish a SLAT from a traditional ILIT.

• Tax-efficient lifetime cash flow • Flexibility to modify structures as goals, tax laws, and asset values change

• The non-grantor spouse has access to trust assets, including any available life insurance cash value.

• The lifetime beneficiary of the trust becomes the non-grantor spouse.

• A spouse has the potential to pass a great deal of wealth outside of their taxable estate because of spousal access provisions.

• Spousal access provisions allow maintaining access to the trust assets for supplemental retirement income or other financial needs.

57

Benefits of a SLAT 1

HOW IT WORKS

Create SLAT

Insured/Grantor

2 Gift of Separate Property

3

Spousal Lifetime Access Trust

Premiums

Life Insurance Policy

5 6 Distribution

SLAT Beneficiaries

Death Benefit

4

Lifetime Distributions to Non-insured Spouse

1) Each of the spouses creates a SLAT, with the help of an attorney.

2) Life insurance policy premiums are funded by insured/grantor gifts which separate the property funds to the SLAT. Depending on the insured or grantor’s use of his or her annual exclusion gifts and/or lifetime gift tax exemption amount, this gift may be subject to the gift tax.

3) A life insurance policy insuring the insured’s or grantor’s life and the SLAT is purchased by the SLAT trustee. The SLAT then becomes the beneficiary and the owner of the life insurance policy.

4) The trustee has the discretion to take loans and withdrawals, which may be income tax free. The trustee can then use borrowed funds to make tax-free distributions to the non-insured spouse.

5) The SLAT should receive the life insurance death benefit proceeds free from estate and income tax.

6) In accordance with the terms of the SLAT, the SLAT trustee may make distributions to the SLAT beneficiaries (including the non-insured spouse).

Non-Insured Spouse

RESULTS 1) The trustee is then able to make distributions to the non-grantor spouses. Indirect access to the life insurance policy's cash value is then provided.

2) Both spouses gain indirect access to the trust’s assets, by estabilishing two SLATs. Spouses are then provided with additional flexibility and security in case of a divorce or a premature death.

3) When the SLAT is properly funded and structured, the death benefit proceeds from the life insurance policy should pass to the SLAT free from estate and income taxes. Distributions may then be made to the SLAT beneficiaries (including the non-grantor spouse) by the SLAT trustee, in accordance with the terms of the SLAT.

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STRATEGY PROFILE

CLIENT SUITABILITY

Zero Tax

Estate Planning

• Comfortably financially independent and are willing to make permanent transfers of wealth

OBJECTIVE: To implement a flexible estate plan that addresses five goals of 1) providing for a

• Have an estate of $5 million or, for married couples, a combined estate of $10 million or more

For nearly 40 years, Thomas and Virginia Smith reinvested their profits in an enterprise that prospered. They used cash from the business to buy a primary federal residence and a secondary home with reasonable leverage. Deductions from their real estate investments, coupled with large retirement plan deductions, allowed the Smiths to invest very tax efficiently. The real estate and qualified plan investments grew tax efficiently, as did the equity in the business. The cash flow from the business could be capitalized at a fairly high value because of intellectual property in the business that gave the company a strong niche in its industry. When the business value was added to the value of the other assets, the Smiths realized they would have much more wealth than they needed to live comfortably.

• Have developed an opinion about how much inheritance is enough for their family members • Very charitably inclined HYPOTHETICAL RESULT • Family wealth transfer goals can be achieved • Some family wealth passes to one or more charities selected by the client • Estate tax may be reduced or eliminated

secure retirement, 2) transferring appropriate inheritance amounts to children, 3) redirecting tax money to charity, 4) reducing or eliminating federal estate taxes, and 5) lowering income taxes.

The Smiths saw that the portion of their estate valued at over $10.5 million would be subject to a 40% estate tax. Of greater concern, they realized that 57% state and federal income taxes would apply to the portion of their income that exceeded what they spent on their lifestyle. They also feared that they would lose much more than half of their retirement plan assets to estate and IRD taxes.

The Smiths’ wealth counselor suggested ways to design trusts that would lower estate, gift, capital gains, income, and IRD taxes. These trusts also included incentive provisions that helped the Smiths pass on to Generation 2 and 3 the values that contributed to the success of Generation 1.

59

The Zero Estate Tax Design The Smiths started with a plan that transferred just $14,971,000 to their family. By integrating tools, as shown on the flowchart below,the Smiths progressed from having basic, leveraged, and wealth control plans until – after several years – they had an optimized blueprint that integrated twelve planning tools. The optimized blueprint increased the inheritance to $26.97 million, redirected $6,050,000 to charity, zeroed-out $4,435,000 of taxes, and generated $3,445,000 of income tax deductions.

Current

Basic Blueprint

Leveraged Blueprint

Total Wealth Control Blueprint

Optimized Blueprint

$14,971,000

$19,134,000

$23,147,000

$26,416,000

$26,974,000

Charity Receives

-

-

-

$6,050,000

$6,050,000

Estate Tax Savings

-

$4,422,000

$2,812,000

$4,435,000

$4,435,000

Income Tax Deductions

-

-

-

$2,035,000

$3,445,000

Heirs Receive

CRT

THOMAS & VIRGINIA SMITH

$2,200,000

$12,200,000

SUPER CLAT

QPRT

IDIT

FLP

1st Estate

Taxes and Expenses $71,000

$302,011 annual income for 10 years

Family Trust $4,886,832

income

Virginia

5,000,000

income

Marital Trust

$42,169

2nd Estate

Taxes and Expenses

$165,843 Smith Foundation

Testamentary CLAT

$6,050,040

HEIRS

$26,974,624

ILIT $2,000,000

The flowchart to the left of this page summarizes more than 100 pages of integrated diagrams, spreadsheets, and graphics in the Optmized Family Wealth Blueprint®. This particular optimized blueprint integrates twelve strategies.

This flowchart is supported with additional content described at www.FamilyWealth 695 Town Center Drive 7th Floor Blueprint.com.

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STRATEGY PROFILE

Section 162 Plan OBJECTIVE: To generate current income tax deductions while funding a vehicle that can

CLIENT SUITABILITY • Business owners ages 30-80 • Annual taxable income over $200,000 • Average to good health • Net worth of $500,000 or more • Interest in effective wealth transfer strategies • Adequate liquid assets • Desire to generate more after-tax retirement income HYPOTHETICAL RESULT • Family wealth transfer goals can be achieved • Some family wealth passes to one or more charities selected by the client • Estate tax may be reduced or eliminated

grow tax efficiently and make tax-efficient payments during retirement or at death.

Mr. and Mrs. Richards are self-employed and run a business that has an approximate net income of $700,000. They would like to: • Provide additional incentives, specifically to certain key employees • Increase business deductions • Retain and reward loyal and performing employees • Optimize cash flow by saving money on payroll taxes such as social security and medicare • Boost individual's morale and company efficiency We can achieve this cost effectively with low risk!

By taking advantage of Section 162, the Richards will be able to: •Implement additional incentive plans for their key employees • Increase their business deductions • Save money on payroll taxes •Provide tax-free employee benefits • Increase employee morale • Make their company more attractive for new hires 61

Solution The Richards’ advisers presented them with a strategy known as the Section 162 Advantage. This strategy can be implemented within their main operating company without legal fees.

Current

Implemented 162

Main Operating Company

Main Operating Company

$200,000 $125,000 Salary Reimbursement Mr. and Mrs. Richards

$75,000 Salary

Mr. and Mrs. Richards

By taking advantage of the benefits described in IRC 162, the Richards can elect to take reimbursements for personally paid expenses that are ordinary and necessary in carrying on a trade or business.

Current

Implemented 162

Salary Reimbursements Total Cash Flow

$200,000 $0 $200,000

$75,000 $125,000 $200,000

Payroll Tax Threshold Income Tax Employment Tax Total Tax

$15,912 $52,068 $2,784 $70,764

$11,425 $15,173 $0 $26,598

Tax Savings

$0

*Hypothetical illustration. Individual results may vary.

$44,166

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STRATEGY PROFILE CLIENT SUITABILITY This strategy can be suitable for clients wanting: • Tax deductions over the next five years • Tax-free growth and distributions • Asset protected wealth accumulation • Freedom to discriminate in favor of key executives when funding benefit plans • Freedom to access cash prior to age 59 ½ • Death benefit for buy/sell agreements and/or estate planning HYPOTHETICAL RESULT • Invest $100,000 for five years • Deduct payments at the corporate level • Pay modest taxes at the employee level • Generate $1,094,000 of tax-free cash over 10 years • Maintain a death benefit of $3,752,000

Restricted Property Trust

OBJECTIVE: To maximize current income tax deductions while accumulating and distributing wealth with minimal taxes.

Thomas Smith is 52 years old and in good health.

He expects that his business will generate $100,000 annually of excess taxable income that he does not need for his lifestyle of business investments. He wants to grow the money in a fund that can provide for a more secure retirement and possible tax-free transfers to his kids. Thomas wants to implement a strategy that will help his corporation receive a 100% deduction against taxable income. He likes the idea of compounding his unneeded income tax-free in a fund that can provide tax-free loans if Thomas should need more liquidity.

Thomas worked with his advisers to create a Welfare Benefit Plan based on rules enacted in 1928 and clarified when sections 419 and 419A were added to the Internal Revenue Code in 1984.

Under Section 419, Thomas' company could take a deduction for expenses related to “welfare”: death, disease, and disability. The deductions must not exceed “Qualified Cost” in the current year. It is estimated that about 60% of expenses should be deductible.

63

Cash Flow Diagram Restricted Property Trust $100,000

$100,000 83/419(e) Restricted Property Trust

Employee

Corporate Outlay $100,000 $40,000

(Pays Small Tax and Receives Tax Free Income)

Employee 83(b) election* $40,000

Beneficiary

(Receive Tax-Free Benefit)

$2,631,579

Cash Value Death Benefit

$3,140,196

Year Ten Results: $1,094,471 $3,751,937 death benefit

Net Current Deductions

$300,000

$600,000

Tax-Free Income

69% of CV in policy not taxable on transfer 3.8% Rate of Return*

71% of cash value income tax-free 8.4% Rate of Return*

Year Five Results:

Rate of Return

This assumes that a portion of the income is taxable to the employee as income. According to the Table 2001 rates, a portion of the $40,000 will be taxable to the employee as income. Approximate income tax-free portion of the cash value: $786,183 - Calculations by Crabb Financial, LLC.

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STRATEGY PROFILE

Stock Options OBJECTIVE: To utilize tax planning strategies for stock options, while ensuring proper alignment of interests between the employer and employee, in order to minimize taxation implications.

Thomas and Virginia Smith want to exercise stock options tax efficiently. They are skeptical of investment advisers promoting "magic bullet" strategies to avoid taxes on stock options. These techniques, although attractive in theory, usually have serious practical limitations. The Smiths learn that, nonetheless, that tax planning strategies for Incentive Stock Options (“ISOs”) or Non-Qualified Stock Options (“NSOs”) can both work as long as the employer and employee have an alignment of interests. The Smiths work with the option grantors and grantees to confirm parallel desires regarding:

CLIENT SUITABILITY • Individuals who want to utilize proper tax planning strategies in order to minimize taxation implications on their stock options • Individuals who have an alignment of interests between the employer and employee

HYPOTHETICAL RESULT • Taxes are potentially reduced on the sale of the stock options • Portfolio diversification is achieved as a result

1 2 3 4

Taxes. (There is no deduction to the employer until the employee recognizes income.) Moreover, even if a company wants to modify a stock option agreement, there is often difficulty in finding a method that appeals to all executives because of their differing tax circumstances.

Incentives. After the options are exercised and sold, or just sold, the employee no longer retains the equity investment in the company that the company wants the employee to have.

Diversification. The employee generally has an interest in diversifying her/his portfolio whereas the employer wants the employee's entire net worth tied to the company's performance so that the employee is motivated to work long hours for many years.

Transferability. For obvious reasons, there is no strategy that achieves the goal of helping the company restrict transferability while helping the employee achieve his or her goal of maximizing transferability.

Despite the problems with aligning employer and employee interests, the Smiths uncover numerous strategies for reducing taxes on the sale of stock options. These are explained on page two of the flyer.

65

Tax Reduction Strategies Estimated Strategy Popularity CRT

30%

Prepaid Forward Contract

15%

Family Foundation

25%

Super CLAT

15%

Super CLAT. This strategy produces a large charitable income tax deduction and generates significant benefits to charity over a term of years. At the end of the term, the family can receive a large distribution. It involves the use of a variable universal life insurance contract. It does not produce any personal income for the client. The Super CLAT is not connected with stock options directly. However, the client can implement the strategy in the same tax year that he or she exercises the non-qualified stock options, in order to produce a large deduction to shelter some of the taxable income. The minimum contribution is approximately $1 million.

Option Exchange Fund. Large institutions offer exchange funds for stock options. Like the exchange funds for stocks, these vehicles allow an investor to contribute assets to a diversified pool of funds without triggering a tax upon contribution. An investor can own a portfolio of options that retains the basis of the contributed options.

Prepaid forward contract. The executive monetizes options by pledging them to a financial institution in exchange for the financial institution's loan of cash. The terms of the loan depend on how the options perform.

Option Exchange Fund

15%

Family Foundation. Another charitable strategy that can produce significant tax deductions is a Family Foundation. Generally, most clients will choose between a Donor Advised Fund, a Private Foundation, or a Supporting Organization.

Charitable Remainder Trust. Generally, a Charitable Remainder Trust (CRT) is a tax-exempt, irrevocable trust typically designed to pay income to its creator for life. At the death of the creator, the assets remaining in the trust pass to charity. There are many variations of charitable trusts. When used in connection with non-qualified stock option planning, the client may contribute other assets to a CRT to produce a charitable income tax deduction. This deduction, usually equal to 10%-25% of the value of the contribution, can be used to reduce the client's income tax liability during the same tax year that the client exercised the options.

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STRATEGY PROFILE

Capacity Capture OBJECTIVE: To “capture” the maximum amount of life insurance the market will allow.

CLIENT SUITABILITY • Individuals ages 70-85 • Average to good health • Net worth $5 million or more • Desire to capture financial opportunity and/or enhance family inheritance

HYPOTHETICAL RESULT • Ensure the ability to acquire insurance regardless of a change in health • Lock in favorable insurance rates now

1 2 3 4

The ability to acquire life insurance on one's life may not always be possible.

It is only available: • with the consent of the individual • if the individual is insurable Collectively, insurers have limits on how much insurance they are willing to issue on any particular individual.

These limits are based primarily on: • a person's need • a person's health • personal net worth This "market capacity" is a perishable commodity. It can disappear due to a decline in health.

A "resale" market for existing fixed policies can reduce the financial risk of policy owners by providing: • a liquidity alternative • potentially higher values

• Potentially recoup costs or profit from sale in secondary market, if the product is not needed 67

How Does Capacity Capture Work?

FUNDING ALTERNATIVES Annual gift funding: If annual exclusions and lifetime gift exemptions are insufficient, an alternative source of funding will be needed to acquire the coverage.

Sample Client

Possible loans and/or loan guarantees for third-party loans

Irrevocable Life Insurance Trust Buy/sell the insurance the market will offer

Wealth transfer strategy such as GRAT or sale of appreciating assets

Premium financing:

Loans

Future distributions for estate planning purposes

Family Beneficiaries

Debt services and loan repayment

Institutional Lender

- Third-party loans: Commercial lender advanced funds for premiums - Private financing: Commercial lender advanced funds for premiums - Corporate split dollar: Commercial lender advanced funds for premiums Premium financing loan repayment strategies: If insurance is acquired with funds that ultimately need to be paid back, it is advisable to implement one or more additional strategies that can generate funds to repay the loan.

- Grantor Retained Annuity Trust ("GRAT") A properly designed and funded GRAT has the potential to generate significant wealth to the insurance trust with minimal gift tax consequence.

- Sale of assets to Grantor Trust The client can sell assets, especially non-voting discounted assets such as limited partnership interests, to a grantor trust in exchange for a low-interest promissory note.

After the term of the note the promissory note can be repaid and any wealth accumulated in the trust can then be used to repay premium advances.

- Low interest loans for investment opportunities The client can lend cash to the insurance trust to enable it to participate in special investment opportunities. If successful, the trust can repay the client and use any wealth accumulated in the trust to repay premium advances.

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STRATEGY PROFILE

CLIENT SUITABILITY • Individuals in fair to excellent health • Individuals interested in transferring wealth to decendants • Preference for guarantees • Individuals that have enough other assets to provide personal income needs • Individuals interested in simplifying their planning

HYPOTHETICAL RESULT • Net benefits to heirs may increase • Some benefits may be guaranteed by major institutions

Credit Shelter Trust with Life Insurance

OBJECTIVE: To leverage assets in a Credit Shelter Trust to provide benefits to heirs.

1 2 3 4

A Credit Shelter Trust is a strategy commonly used by couples to save on estate taxes.

A Credit Shelter Trust typically: • Funds at the death of the first spouse.

• Provides income to the surviving spouse, if needed.

• Passes its assets to family beneficiaries after the death of the surviving spouse.

Some surviving spouses do not need or want income from the Credit Shelter Trust. Instead, they may be interested in maximizing the benefits that are passing to their heirs.

Allocating assets in the Credit Shelter Trust to a properly designed life insurance policy provides a means to diversify trust assets and potentially increase the benefits that will pass to trust beneficiaries.

69

How Can Life Insurance Be Used in a Credit Shelter Trust?

A Hypothetical Example Life Insurance Company

1. Trustee pays annual premiums of $133,190.

2. $5 million death benefit

Doris, age 75, has $2 million in a Credit Shelter Trust ("CST") left to her by her husband, Ken, who died two years earlier. She has a large estate and does not need the income from the trust. Instead, she wants as much of the CST value as possible to pass to her family beneficiaries.

1. Doris authorizes the trustee of the CST to apply for and become the owner and beneficiary of a $5 million life insurance policy insuring her life. The trust investments are assumed to earn 4% annually after tax. The trustee will pay an annual premium of $133,190 which will guarantee the policy until age 95.

2. Upon Doris' death, the insurance policy will provide a death benefit to the CST. Generally, the death benefit should be free of federal income tax.

3. The trustee will distribute the insurance benefits plus any other assets remaining in the CST to the trust beneficiaries according to the trust terms.

Credit Shelter Trust Trustee buys $5,000,000 life insurance policy

3. Trustee makes distributions to family beneficiaries

Family Beneficiaries Children and Grandchildren

Potential Benefit to Family

Age

CST without Insurance

CST with Potential Benefit to Family Insurance

75 80 85 90 95

$2,000,000 2,375,373 2,821,198 3,350,698 3,979,578

$6,886,600 6,745,985 6,444,296 6,085,983 5,660,420

244% 184% 128% 82% 42%

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STRATEGY PROFILE

Financed Indexed

Fixed Universal Life OBJECTIVE: To generate needed insurance benefits with minimal personal outlay.

CLIENT SUITABILITY • Individuals ages 50-65 in good or excellent health • Needs life insurance coverage for business or estate planning reasons • Minimum net worth of $3 million • Sophisticated understanding of leveraging principles

1 2 3 4

HYPOTHETICAL RESULT • Acquire insurance benefits outside of the taxable estate and reduce or eliminate gift tax

The benefits of premium financing strategies are as follows: • Acquire insurance benefits outside of the taxable estate • Reduce or eliminate gift tax • Reduce or eliminate selling assets to pay premiums Despite their popularity among affluent families, two major drawbacks affect most programs: • Significant collateral is often required • Exit planning is prudent because the policy performance may be inadequate to repay the loan Innovative indexed universal life insurance products and alliance lenders have teamed up to offer new programs that may overcome the shortcomings of traditional arrangements.

These programs have the potential to generate significant insurance benefits with: • Very low cash outlay • A letter of credit in lieu of collateral, by some lenders • Higher potential cash value accumulation than traditional products

71

How Does Financed Indexed Universal Life Work?

This is a conceptual illustration only. Programs vary substantially. Results are not guaranteed.

Client/Insured

1. Establishes trust

Irrevocable Life Insurance Trust 6. Distributes benefits to beneficiaries

2. Lends annual premiums

5. Repays interest and/or principal from death benefits.

Alliance Lender Interest may be added to principal balance

3.Pays letter of credit fees Commercial Bank

4. Guarantees loan to Alliance lender

The client establishes an Irrevocable Life Insurance Trust ("ILIT"). The trust acquires life insurance on the client using mostly borrowed funds. The loan interest may be added to the loan balance annually. The ILIT pledges the policy to the Lender as collateral. The client may also obtain a Letter of Credit ("LOC") from a commercial bank to provide a loan guarantee. The cost of an LOC is typically 1% of the amount at risk. The amount at risk is the difference between the loan balance and the policy cash value. The LOC fee may be the only outlay planned by the client.

The policy cash value is placed in an equity index. The objective of this strategy is to earn as much or more than the interest expense of the loan.

At the death of the insured, the ILIT trustee collects the death benefit, pays off the loan, and distributes the net benefits to the trust beneficiaries.

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STRATEGY PROFILE

CLIENT SUITABILITY Business owners who:

Fixed Private Split Dollar

OBJECTIVE: To secure fixed universal life insurance for estate planning needs by using corporate funds, while keeping initial personal cash gift requirements to a minimum.

• May have a taxable estate

• Prefer to use business assets rather than personal assets to initially fund insurance needs

1 2 3

• Need a funding strategy for a buy-sell agreement

4

• Have many estate liquidity needs

HYPOTHETICAL RESULT • Insurance benefits may be excluded from the client’s taxable estate • Business assets can be used initially to pay for personal estate planning needs • Personal cash can be reserved for other uses

5 6

Split Dollar is a method of financing the acquisition of permanent life insurance for estate planning and/or business succession.

The business enters into an agreement with an Irrevocable Life Insurance Trust (“ILIT”) to “split” the costs and benefits of a life insurance policy on the business owner and possibly spouse.

The business pays the premium and retains an equity interest in the policy equal to the greater of cumulative premiums paid or cash value.

The ILIT is the applicant and owner of the policy.

It receives the portion of the death benefit that exceed the equity in the policy assigned to the business in consideration of its contributions.

The ILIT pays the business each year an amount equivalent to the economic value of the potential death benefit payable to the trust.

A strategy should be implemented to enable the trust to repay the business since the amount the trust will owe the business will increase over the period.

73

How does the Fixed Private Split Dollar work?

2. Company pays premiums.

1. Company and ILIT form Split Dollar Agreement

Company

3. ILIT receives economic benefits from the client and then pays to the Company

5. ILIT repays Company’s interest policy at death of surviving insured, if not sooner

Irrevocable Life Insurance Trust

4. Pays death benefit

Life Insurance Company

Owns policy and assigns as collateral to company

6. Trust benefits pass to family

1. An Irrevocable Life Insurance Trust (“ILIT”) is formed by the business owner. The ILIT enters into an agreement with the Company in which the Company will advance the premiums on a policy insuring the business owner and spouse.

2. The Company pays the premiums annually when due.The ILIT owns the policy but “collaterally assigns” the policy to the company to secure its interest.

3. The ILIT pays to the company an amount equal to the economic value of its potential net insurance benefit each year based on the Table 2001 rates. Client makes gifts of this amount to the ILIT. For joint insureds, this amount may be attractive. At the death of one insured, this amount will increase. Therefore, a parallel wealth transfer strategy should be implemented to enable the ILIT to repay the business when the split dollar annual outlay becomes too large.

4. At the death of the surviving insured, the policy proceeds are paid.

5. The Company recovers its ownership interest in the policy which is the greater of its cumulative premium outlay or the cash value.

6. The ILIT retains whatever portion of the death benefit that exceeds the Company's interest.

This balance may pass to family beneficiaries and/or be available for estate planning purposes.

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STRATEGY PROFILE

Insurance Trust Review OBJECTIVE: To make sure that the right kind of insurance is owned in the right way, with the appropriate price structure, to help achieve financial goals.

CLIENT SUITABILITY • Owners of insurance policies held for five years or more with a cumulative face value amount of $1 million or more • Term, universal life, whole life insurance policies • Insured is age 55 or older

HYPOTHETICAL RESULT • Potentially increase death benefit for the same or reduced premium outlay • Maintain the death benefit and potentially reduce the cost of the premium

1 2 3 4

Policy owners should review and adjust their insurance portfolio periodically for the same reasons that investment professionals regularly review and make changes to an investment portfolio.

Changes may be warranted because of a: • Decrease or increase in need • New business circumstance • Change in ability to pay Changes may be appropriate in areas such as: • Amount of coverage • Ownership structure • Beneficiary changes A thorough review will address areas such as: • Current client circumstances and needs • Financial strength of current policy issuer • Suitability of existing policies for current needs • Strength of product relative to competition • Opportunities for improvements

• Improve overall value from insurance budget 75

How Does an Insurance Policy Review Work?

Policy Owner

1. Collects authorizations and other information

Adviser

2. Obtains current policy information

Insurance Issuer

4. Presents reports 3. Prepares analysis and recommendations Show Life Insurance Trustees Why They Need to Review and/or Replace Policies Planning Team Member's Name Annual Premium: Death Benefit: Years Guaranteed: Underwriting Rate Class:

Current Policy

Proposed Policy

$27,706

$26,688

$5,500,000

$5,500,000

12

Lifetime

Preferred Non-Smoker

Preferred Non-Smoker

AM Best: S & P:

A+ A

A+ AA

Moody's:

Aa3

Aa3

Fitch:

AA

AA

Company Ratings:

A professional policy review will typically address the following issues related to the client: • Exposure to risk and insurance need • Address cash availability Issues related to existing insurance policy(ies): • Assess policy type and suitability • Assess company financial ratings • Address appropriateness of premium schedule • Report on relative product strength and suitability • Make suitable recommendations

1. The adviser has the policy owner and insured sign authorizations to obtain medical records from the insured’s physicians and policy information from the insurance issuer.

2. The adviser obtains the medical records from physicians and policy information from the issuer.

3. The adviser analyzes the information and compares the results to industry benchmarks.

4. The adviser presents the reports.

Issues related to possible new policy(ies): • Survey market for new alternatives • Obtain medical requirements for formal applications • Submit medical records to obtain tentative offers • Initiate negotiations to optimize risk classification

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STRATEGY PROFILE

Insurance

Warehousing OBJECTIVE: To secure affordable insurance to assure future availability and attractive rates.

CLIENT SUITABILITY • Individuals ages 60-75 • Average to good health

1 2

• Net worth $5 million or more • Desire to enhance family inheritance • Desire to secure adequate insurance at favorable rates HYPOTHETICAL RESULT • Lock in favorable rates now

3 4

The need for life insurance often arises later in life as wealth grows but coverage may be unattainable due to a decline in health.

Primary reasons that individuals do not acquire insurance at younger ages include: • They do not realize they could need it • They think it is a bad investment • They assume it will always be available in the future Competitive current insurance rates and a strong “resale” market for existing policies may significantly reduce the financial risk of acquiring insurance.

The life settlement market has given some policy owners an important alternative method of converting their policies to cash.

• Future life settlement option may be more attractive than cash surrender value 77

How Does Insurance Warehousing Work?

Sample Client

Annual premiums during warehouse period

Insurance Warehouse Acquire insurance for potential future needs THREE EXIT STRATEGIES

Continuation premiums after Warehouse period

1. Unexpected death 2. Continue beyond Warehousing period

Sales proceeds

Family Beneficiaries

Institutional Buyer

3. Sell

1. Sample Client dies unexpectedly. Although unlikely, An “Insurance Warehouse” is an analogy used to refer to the notion of holding goods for future use. this outcome could result in a significant benefit to the beneficiaries.

An individual may choose to own such a policy personally or establish an entity to own it outside the 2. Sample Client keeps the policy. This might be estate, depending on their needs and circumstances. an attractive option if estate assets increase In a typical personal ownership arrangement, significantly or if Sample Client experiences a Sample Client would pay the premium. In a typical decline in health. Future premiums would be based estate planning arrangement, Sample Client would on Sample Client’s age at the time of conversion make gifts to the trust to enable the trustee to pay and at the same health classification at the time the the premium. policy was originally issued.

In a typical premium financing arrangement, Sample 3. Sample Client decides not to keep the policy. This Client would guarantee a loan to enable the trustee might occur if estate assets decrease or if future to pay the premium with borrowed funds. premiums are not affordable. Under this scenario, the owners would seek offers from institutional The strategy concludes in one of three ways. buyers.

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STRATEGY PROFILE

Life Settlements OBJECTIVE: To analyze whether there is more value than the cash surrender value for your life insurance policies that you may no longer need, want, nor be able to afford.

CLIENT SUITABILITY • Owners of an insurance policy with a face amount of $250,000 or more • Insured has Indexed Universal Life Insurance (IUL) or Survivor Universal Life Insurance

1 2 3

• Insured is age 70 or older • Life expectancy of insured is less than twelve years, with substandard health HYPOTHETICAL RESULT • Obtain settlement offers higher than cash surrender value depending on circumstances

4

A “resale” market for existing life insurance policies may provide an ideal way to obtain a higher value for the policy than the cash surrender value.

The primary reasons an individual may want to sell a policy include: • A need for immediate liquidity • Original purpose for life insurance purchase no longer exists.

• The sale of a business or the retirement of a key person According to a Conning research report, approximately $6.1 billion in face amount of life insurance was transferred to the life settlement market in 2006.

Risk factors such as the cost and availability of new insurance if needed, tax treatment of settlement proceeds, and the release of medical information should be considered.

79

How Does a Life Settlement Work?

3. Owner completes paperwork 4. Sales proceeds

1. Collects applications, authorizations, and other information; delivers bid information

2. Submits information directly and/or through a broker to potential buyers • The owner completes the application and signs the authorization to collect medical records and current information about the policy.

• The agent provides the information (confidentially) to possible buyers directly and/or through a broker.

• A private auction is established in which the bidders are given an opportunity to increase their bids based on the previous bids of others. It is common for potential buyers to bid multiple times.

• Bid information is relayed periodically by the agent to the policy owner.

• If the owner elects to accept the highest bid, final documents are prepared including the acceptance of the offer and change of ownership.

• The signed documents are returned to the funding organization. The documents are then forwarded to the insurance company to record the change of ownership.

• When the changes of ownership and beneficiary have been recorded, sales proceeds are transferred to the policy seller.

• Most states have laws that permit the seller to cancel the transaction for a specified period of time after the transaction is complete.

Case Example #1

Case Example #2

Case Example #3

Universal Life Policy

Universal Life Insurance Policy Client no longer wants to fund the policy.

Corporate-Owned Term Policy Key person wants retirement.

Insured: Female, Age 86 Death Benefit: $300,000 Annual Premium: $14,470 Cash Surrender Value: $0 Secondary Market Value: (Life Settlement) = $64,000

Insured: Female, Age 76 Type of Insurance: UL Death Benefit: $1 Million Annual Premium: $37,600 Cash Surrender Value: $104,000 Secondary Market Value: $190,000

Death Benefit: $24 Million Life Expectancy: Almost ten years; he was significantly impaired for his age.

The client could no longer afford the premium to keep policy in force. She needed the liquidity to maintain lifestyle.

The client used the proceeds towards his grandson’s college tuition.

Secondary Market Value to the Corporation: $1,850,000

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STRATEGY PROFILE CLIENT SUITABILITY • Individuals, ages 45-75, in good to excellent health • Individuals interested in mitigating the emotional and physical consequences of LTC on their families • Individuals interested in protecting their portfolios • Individuals wishing to stay in the safety of their own home should they need care • Individuals, ages 65 and older, who might be less insurable but willing to pay more for coverage

HYPOTHETICAL RESULT • Reduced stress to spouse and children

Long-Term

Care Insurance OBJECTIVE: To help people who have disabilities or chronic care needs, including dementia, by combining medical, nursing, custodial, social, and community services.

1 2 3 4

Planning for long-term care (“LTC”) should be part of every estate and financial plan, and is a risk that should be treated like every other risk you currently face.

LTC can cost $150,000 or more per year, which may quickly erode income-producing assets, and can create serious emotional and physical strain on family members.

There are various ways to fund a plan for LTC; some are “stand-alone” LTC policies that pay only if the need arises.

Other options include “hybrid” combinations of life insurance or annuities and LTC that guarantee a death benefit, long-term care benefits, a return of premium, or a combination of these.

• Protecting the viability of income-producing assets • The ability to fulfill your financial commitments

81

Long-Term Care Insurance Strategy Traditional LTC • • • •

John and Susan are 60 and 65 and in good health. They purchase a traditional LTC insurance policy that costs $5,027 per year for both of them.

Scenario I: They pay a total of $100,540 in premiums in 20 years, and then both need care. They receive a total of $1,040,319 in LTC benefits.

Scenario II: They pay a total of $100,540 in premiums in 20 years, but neither needs care. Their policies do not pay off.

Scenario III: They pay a total of $100,540 in premiums in 20 years, and then only Susan needs care. Her policy pays $520,159 for her care.

Hybrid LTC • John and Susan are 60 and 65 and in good health. They purchase a “hybrid” LTC/Life insurance policy. The premium is $100,000 for each of them, a total of $200,000.

• Scenario I: John passes away and never needs LTC. His policy pays $200,000 to his beneficiaries as a death benefit.

• Scenario II: Susan needs LTC. Her policy pays $600,000 over a six-year period for her care.

• Scenario III: After several years, either spouse decides they want to cancel their policy and have their original premium returned to them. They are refunded their premium of $100,000.

Traditional LTC Costs vs. Benefits 1,200,000

900,000

600,000

300,000

0

rs Yea 20- ium m Pre 0,540) ($10

of Pay ial 319) t n e , Pot $1,040 (

f

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STRATEGY PROFILE

CLIENT SUITABILITY • Average or better health • Net worth of $10 million or more • Current cash flow and/ or annual giving capacity may be limited

Premium Financing:

Fixed Insurance Policies OBJECTIVE: To acquire needed insurance, minimize gift taxes, and avoid selling strategic assets to fund premiums.

1

• Current estate assets can have significant growth and/or income potential

2

• Sophisticated investor, knowledgable about the benefits and risks of leverage adequate insurance at favorable rates

3

HYPOTHETICAL RESULT • Low initial outlay • Efficient use of annual exclusions • Avoid selling assets to pay premiums • Can help produce estate taxes

Premium financing involves: • Creating an estate planning trust to own life insurance outside of the taxable estate • Authorizing the trustee to borrow funds from a commercial lender to pay life insurance premiums • Making annual gifts to the trust to cover increasing loan interest • Repaying the lender with a portion of the death benefit or using assets from a companion strategy Primary benefits of this strategy include: • Low initial current outlay, as compared to a traditional insurance purchase • Minimal use of annual gift tax exclusions and unified credit • Ability to keep strategic assets which may earn a higher return than the interest cost of borrowing Important considerations include: • The risk of an increasing interest rate • The need for a companion strategy to pay off the loan prior to death • The need for supplemental collateral or personal loan guarantees • Financing that is subject to the lender's collateral and financial underwriting requirements • Financing lenders typically require additional collateral during the early years of a policy in the form of cash, cash equivalents, marketable securities, a personal guaranty, or a letter of credit from a bank approved by the lender.

• Interest in closely held businesses and real estate are not generally acceptable collateral.

83

How does Premium Financing Work?

1

Thomas and Virginia Smith Provide collateral or loan guarantees

4

6 Family Beneficiaries

Irrevocable Life Insurance Trust

3

Insurance Provider

$10 million policy 2

5

Lender

The initial annual premium is $94,368 and is scheduled to increase to $325,813

Thomas and Virginia Smith have a $25 million estate comprised chiefly of non-liquid assets. They want to acquire $10 million of life insurance coverage but do not want to liquidate assets to pay the premiums. They are ages 75 and 73, and both preferred nonsmokers.

They considered the following plan: 1. They establish an Irrevocable Life Insurance Trust("ILIT") which is the applicant, owner, and beneficiary of a $10,000,000 life insurance policy insuring them both.

3. Increase to $325,813 beginning in the 16th year for life. The policy has a return of premium rider which will increase the total death benefit by the amount of each new premium paid.

4. Thomas and Virginia make gifts to the trust each year to enable the trustee to pay the interest on the loan. The initial rate is 7%, but this could change annually. They will apply their annual gift tax exclusion to shelter these gifts.

5. The trustee pays the interest and, at the death of the insured, repays the principal with a portion of the death benefit.

2. The trustee of the ILIT borrows the funds to pay the premiums and pledges the policy as collateral. The 6. After the lender is repaid, the remaining clients also provide supplemental collateral or a loan insurance benefits are distributed according to the guarantee as required by the lender.

ILIT terms.The initial annual premium is $94,368 and is scheduled to ILIT terms.

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STRATEGY PROFILE

CLIENT SUITABILITY

Dynasty Trust OBJECTIVE: To establish a long-term strategy to transfer assets to heirs and to avoid estate and generation-skipping transfer taxes ("GSTT") for your children and their families.

• Individuals in fair to excellent health

1

• Individuals interested in transferring wealth to family members

2

• Individuals that have enough other assets to provide personal income needs • Individuals interested in guaranteed cash values

HYPOTHETICAL RESULT • Net benefits to heirs may increase

3

A Dynasty Trust can be an ideal place to hold, manage, and accumulate assets to create a legacy for your children and their families.

A Dynasty Trust: • Is long-term and irrevocable • Is not included in your estate or your family members' estate if properly structured • Can provide distributions for health, education, maintenance, and support for several generations Fixed Guaranteed Universal Life Insurance may be the ideal way to fund the trust.

Some advantages are: • The cash value of the policy generally accumulates on a tax-deferred basis.

• Death benefits of life insurance policies are generally income-tax free.

• The Trust becomes fully funded upon the death of the insured.

• Relatively small gifts for annual premiums can be leveraged to generate a larger death benefit.

• Benefits can be guaranteed by three major institutions

85

How does the Dynasty Trust work?

John and Susan

Gifts cover annual premiums of $133,190

Trustee makes distribution to family

Dynasty Trust Trustee buys a $5,000,000 universal life insurance policy 3

John and Susan, each age 75, have a large taxable estate and want to move assets to their three children and seven grandchildren. They have used none of their combined $4 million of GSTT exemptions.

They create a Dynasty Trust. The Trustee (possibly an adult child) applies for and becomes the owner and beneficiary of a $5 million life insurance policy insuring both John and Susan.

They elect a premium funding schedule such that fifteen annual premiums of $133,190 will guarantee the policy until age 100.

They apply a portion of their GSTT exemptions to each gift, so that the entire death benefit and future Trust assets should be exempt from GSTT for multiple generations.

The table indicates the potential property available to heirs, net of estate taxes under three scenarios.

Family Beneficiaries Children, Grandchildren and Great-Grandchildren

Fifteen annual contributions are made in each scenario. The comparison assumes net investment earnings of 4% annually which are completely reinvested. It assumes a flat estate tax rate of 45% for each generation with no exemptions.

Assets accumulate in the Trust with the end of each generation. These hypothetical results are based on assumptions that are not guaranteed.

Potential Benefit to Future Generations (Dollars in Millions)

$40 $30 $20 $10 $0 Generation 1 15 Years

Generation 2 40 Years

No Planning Dynasty Trust with No Insurance Dynasty Trust with Insurance

Generation 3 65 Years

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STRATEGY PROFILE

CLIENT SUITABILITY • Ages 50-85 • Average or better health • Net worth of $5 million or more • Desire to begin tax-advantaged wealth transfer strategy now, to help build assets for future family inheritance

HYPOTHETICAL RESULT

Sale of Partnership to a Family Grantor Trust

OBJECTIVE: To shift wealth to the family while maintaining reasonable control and protection of assets.

1 2 3

• Shift assets to family • Help protect assets from lawsuits, creditors, and divorces • Help reduce gift and estate tax • Fund life insurance premiums without using annual gift tax exclusions or lifetime exemption

4

Forming a Family Limited Partnership ("FLP") and subsequently giving and selling the limited partnership interests to a Family Grantor Trust offers numerous potential benefits.

• Centralizes management • Facilitates family gifts • Protects assets from creditors and divorces • Leverages tax advantages Parents are able to move growing assets from their own estate by giving and/or selling limited interests to a trust for family members. This helps to mitigate a potentially escalating estate tax liability.

By using the installment sale method, suitable assets, and effective design, it may be possible for the limited interests acquired by the family's trust to generate sufficient cash flow. This satisfies much or all of the debt service owed to the parents.

Excess cash flow in the family grantor trust could be allocated to life insurance premiums without using any annual gift exclusions or lifetime exemption.

87

Sale of Partnership to Family Grantor Trust John and Susan

Family Limited Partnership

1. Capital Contributions

1% general + 99% limited interest 2. Give and/or sell non-voting interests

Insurance Provider Insurance Policy

4. Annual Premiums

5. Death Benefit

3. Promissory note and debt

Family Grantor Trust

Family

6. Future Trust Distributions

Hold assets for the benefit of the family

1. John and Susan transfer assets to an FLP for which they receive general and limited interests.

5. The Trust is the beneficiary of the policy. Some portion of the policy proceeds may be needed to repay any outstanding note balance, if the note was not paid off during their lifetime.

2. They sell additional limited interests to the Trust in exchange for an instalment note.

6. The family will receive distributions from the Trust according to its terms. They may also receive the promissory note (if not previously paid off) from the estate after estate taxes.

3. The Trust pays John and Susan interest and principal. Earnings of the partnership may support most or all of this debt service.

7. As grantor, John will report and pay the income tax on Grantor Trust earnings. Debt service from the promissory note may help to cover this.

4. The Trust applies for and pays the premiums on a life insurance policy insuring John and/or Susan. John and Susan may use a 8. If the value of the partnership interest declines, portion of their remaining lifetime exemtion the Family Grantor Trust could become insolvent. (if any) to give some of the limited interest to The IRS may challenge the appraised value of a Family Grantor Trust. the partnership interest involved in the sale transaction

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STRATEGY PROFILE

CLIENT SUITABILITY • Ages 50-85 • Average or better health • Net worth of $5 million or more • Desire to begin tax advantaged wealth transfer strategy to help build assets for future family inheritance HYPOTHETICAL RESULT • Shift assets to the family • Help protect assets from lawsuits, creditors, and divorces • Help reduce gift and estate tax • Lock in current high estate tax exemptions and favorable discount rules before laws change

Tax-Efficient

Squeeze Freeze OBJECTIVE: To shift wealth to the family while maintaining reasonable control and protection of the assets.

1 2 3 4

Generation 1 forms an LLC that provides adequate management rights and cash flow for Generation 1 while tax-efficiently transferring some control, cash flow, and ownership to a trust for the benefit of Generations 2 and 3. The family patriarch and matriarch thereby receive these benefits: • Lock in currently favorable discount rates • Centralize management • Facilitate family gifts • Protect assets from creditors and divorces • Leverage tax advantages Parents are able to move growing assets from their own estate by giving and/or selling limited interests to a trust for family members. This helps to mitigate a potentially escalating estate tax liability.

By using the installment sale method, suitable assets, and effective design, it may be possible for the limited interests acquired by the family's trust to generate sufficient cash flow. This satisfies much or all of the debt service owed to the parents.

Excess cash flow in the family grantor trust could be allocated to life insurance premiums without using any annual gift exclusions or lifetime exemptions.

89

Sale of LLC Units to Family Grantor Trust John and Susan

1. Capital Contributions

Family Limited Partnership

1% general + 99% limited interest 2. Give and/or sell non-voting interests

Insurance Provider Insurance Policy

4. Annual Premiums

5. Death Benefit

1. John and Susan transfer assets to an LLC for which they receive general and limited interests.

3. Promissory note and debt

Family Grantor Trust

6. Future Trust Distributions

Hold assets for the benefit of the family

5. The Trust is the beneficiary of the policy.

Some portion of the policy proceeds may be needed to repay any outstanding note balance, if the note was not paid off during their lifetime.

2. John and Susan may use a portion of their remaining lifetime exemption (if any) to give some of the limited interest to a Family Grantor 6. The family will receive distributions from the Trust. They sell additional limited interests to the Trust according to its terms. They may also receive Trust in exchange for an installment note. the promissory note, if not previously paid off, from the estate after estate taxes.

3. The Trust pays John and Susan interest and principal. Earnings of the LLC may support As grantor, John will report and pay the income tax most or all of this debt service. on Grantor Trust earnings. Debt service from the 4. The Trust applies for and pays the premiums promissory note may help to cover this. on a life insurance policy insuring John and/or Susan.

Family

If the value of the LLC interest declines, the family grantor trust could become insolvent. The IRS may challenge the appraised value of the partnership interest involved in the sale transaction.

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STRATEGY PROFILE

Insurance as an Asset Class

OBJECTIVE: To diversify assets using alternative financial instruments that offer alternative returns compared to cash equivalent and fixed income investments.

CLIENT SUITABILITY • $1 million or more of marketable securities • Ages 50-85 in fair or better health • Preference for guarantees • Desire to increase transfer value to family and/or charity • Desire diversification with returns uncorrelated with the stock market HYPOTHETICAL RESULT • More tax-efficient growth of portfolio assets

1

Contemporary life insurance products offer internal rates of return which, considering the potential income tax advantages, can be extremely attractive compared to alternatives with comparable guarantees.

2

New insurance product features include: • Death benefits guaranteed by major financial institutions • Guaranteed premiums based on recent mortality tables

3

With proper planning and design, life insurance can help optimize wealth transfer to beneficiaries.

• Life insurance benefits are generally exempt from income taxes • With proper ownership, life insurance benefits can also pass free of estate taxes

• More protection from downside risk because of insurance death benefit • Less volatility because of non-correlated classes in portfolios

91

How Does Insurance as an Asset Class Work?

Michael Granger

Life Insurance Provider

1. $50,211 Annual Deposits

Male Age 75

2. Death benefits distributed to beneficiaries

Beneficiaries

$1,000,000 Policy

1. Michael makes annual deposits (premiums) to a life insurance policy.

2. Upon Michael’s death, the life insurance company pays the death benefits to the beneficiaries.

Life Insurance Hypothetical Rate of Return by Year at Death Pre-tax Yield After-tax Equivalent Yield

3. As owner of the policy, Michael retains access to the cash values.

ASSUMPTIONS Male age Age at IRS life expectancy Level death benefit Annual premium for life Insurance underwriting class Tobacco status Guarenteed to age Policy interest assumption

75 86 $1,000,000 $50,211 Preferred Nonsmoker 100 4.00%

Internal Rate of Return

50% 40% 30% 20% 10% 0% 75

80 85 90 95 Insured Age at Death

100

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STRATEGY PROFILE CLIENT SUITABILITY • Individuals with more than $1,000,000 of assets and more than $200,000 of income • Investors willing to assume risks related to energy development • Clients wanting to diversify their risks • Taxpayers wanting lower taxes HYPOTHETICAL RESULT • Generate large income tax deductions • Generate tax-favored cash flow • Generate better potential IRRs • Invest in inflation hedged assets • Invest in countercyclical assets • Increase transfers of wealth to heirs

Oil & Gas

Partnership OBJECTIVE: To establish secure accounts that grow tax efficiently while providing access to liquid funds.

Thomas and Virginia Smith need tax advantages while receiving passive income. The Smiths live in a state with high income taxes and know that they could lose more than half of their ordinary passive income, and still retain their tax-sheltered income.

As a result, the Smiths design a portfolio that makes direct investments in long-term oil and gas programs. (Such investments are illiquid programs that are not suitable for all investors.) Nonetheless, the investments provide attractive diversification and tax benefits, not readily available from other passive investment options.

As a joint venture partner in a drilling program, the Smiths benefit from the tax deductions available for an oil and gas drilling investment.

These include write-offs for intangible drilling costs, depreciation, operating costs, and percentage depletion.

Through proper structuring, the Smiths are able to offset their taxable income gained from other sources with the substantial deductions available from investing in oil and gas wells. The Smiths also receive long-term income as the gas projects pay off over 15 to 20 years after the initial well drilling. The income stream fluctuates with changes in interest rates, stock market trends, and other short-term fluctuations. However, the Smiths' investment policy statement coordinated other investments to help stabilize monthly disbursements.

93

Oil & Gas Investment Program Interests transferred in 2½ years, when value is near zero.

INVESTOR Contributes $100,000 into oil and gas program, receives interests, which entitles the investor to receive a cash flow and tax deductions.

$ Investment

DYNASTY TRUST Receives program interests and reinvests cash flow for beneficiaries.

Interests in program

OIL & GAS PROGRAM

HEIRS

Pools investment into gas exploration and drilling programs, which passes income through to tax investors.

Receive income and principal according to terms of Dynasty Trust

By investing in oil and gas programs, the Smiths project the following benefits: IF DEATH OCCURS IN YEAR 10

Amount Under Consideration: Participation/Investment Amount Benefits Comparison: Estimated Tax Savings Over Two Years Year 10 Value of Strategy to Heirs

$

Alternative 1

Alternative 2

Oil & Gas Investment Program

Nothing : Invest in Taxable Stock Portfolio

100,000

$

100,000

29,781

-

327,506

93,310

357,287

93,310

Overall Benefits to Family Estate Tax if Death Occurs in Year 10 Invest in inflation-hedged assets Invest in counter-cyclical assets

-

93,310

Yes

No

Yes

No

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STRATEGY PROFILE CLIENT SUITABILITY • Individuals or companies that no longer want assets accumulating in a taxable portfolio • Investors who want to integrate portfolio planning with estate planning HYPOTHETICAL RESULT • Tax planning combined with portfolio planning • Integrated cash flows in portfolio and estate plans • One-stop planning • Rebalancing

Tax-Efficient Asset

Management Solution OBJECTIVE: To maximize the after inflation, after tax, after fee, after distribution return on a portfolio.

Thomas and Virginia Smith wanted to see how their portfolio could grow more tax efficiently to provide income for their retirement, their children’s homes, and their grandchildren’s education.

They calculated that funds should last more than 80 years. To make wise decisions about the returns over the next 80 years, they looked at market performance over the last 80 years. They were shocked to see how returns are reduced dramatically by taxes and other expenses.

The Smiths realized that they could accumulate far more wealth by minimizing taxes, inflation risks, fees, and ill-timed trading decisions. They asked their adviser to suggest a portfolio that could perform more like the top line on the following graph:

• Timely distributions

Growth of $1 after Taxes, Inflation, Fees, and Policy Deviations

• Dollar Cost Averaging • Customized proposals • Investment advice offered with legal/tax advice

$10,000.00

$1,000.00

After Taxes $503 $503

• Online presentations • Training

$100.00

• Low-cost trading platform • Back office support

After Inflation $10.00

After Fees After Deviation from Policy

• Investment committee • For more complete information, see www.TEAMSolution.com

S&P 500 Return $3,527 $3,527

$1.00

1926 1936 1946 1956 1966 1976 1986 1996 2006 2012 95

T.E.A.M. TM SOLUTION The Tax-Efficient Asset Management Solution

Estate Optimization + Portfolio Optimization = Wealth Optimization

MODEL PORTFOLIOS

Portfolio Optimization uses projected cash flows to determine which portfolio mix will produce appropriate after-tax returns. Wealth optimization occurs when we integrate rate of return projections for each portfolio to calculate lifetime income and projected wealth transfers.

Our tax advisers team up with your Registered Investment Adviser to offer an integrated solution.

We help you maximize your after-tax return by minimizing income taxes on your investment.

Current Portfolio

Optimal #1 Same Return, Lower Risk

CRT

JOHN AND SUSAN SAMPLE

ILIT

$ 1,000,000

$ 20,400,000

$ 2,000,500

CLAT

FLP

IDIT

TAX AND EXPENSES $ 50,000

FAMILY TRUST

SUSAN

MARITAL TRUST

$-

$ 10,537,255

$ 8,812,745

TAX AND EXPENSES $ 67,708 SAMPLE FOUNDATION $ 21, 317,896

CLAT

HEIRS $ 18,898,339

Optimal #2 Same Risk, Higher Return

We will show you a pie chart of your current portfolio along with as least two alternatives.

We show you how $1 can grow to be worth hundreds or thousands of dollars if you minimize taxes, inflation risks, fees, and ill-timed distributions. Then, using illustrations like the one below, we illustrate how we help you minimize the above costs so that dollars in your portfolio can grow to achieve your lifetime income and wealth transfer goals.

Monte Carlo Retirement Simulation $2,813,821 $2,084,387

Greater Financial legacy

$1,671,178 $1,047,448

No Financial legacy after 2044

$628,724 $0 2004

2009

2014

2019

2024

2029

2034

2029

2044

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STRATEGY PROFILE

Annuity Income

Maximization

OBJECTIVE: To help increase fixed income security proceeds with a strategy that offers guarantees of income and principal.

CLIENT SUITABILITY • Individuals ages 70-85 • Average or better health • Currently invested in fixed income securities • Desire to increase income • Desire to maintain value of inheritance • Places high value on guarantees

1 2 3 4 5

Life insurance and an immediate annuity, when properly designed and structured, may produce more spendable income compared to fixed income alternatives.

The annuity can generate guaranteed income for life, subject to the claims paying ability of the issuer.

Life insurance premiums can be paid with a portion of the annuity income.

Life insurance can provide an inheritance to replace all or part of the value invested in the annuity.

Life insurance proceeds can be income and estate tax-free, if owned outside the estate.

HYPOTHETICAL RESULT

• Increase net spendable income • Help maintain the amount of inheritance to heirs • Income and death benefits guaranteed by institutions

97

Annuity Income Maximization Strategy Diagram 3. $61,643 annual premiums 1. Lend $700,000 2. Initial interest payments of $11,130 annually. Future repayment of loan.

$700,000 deferred annuity

7. Benefits after estate tax

$1,280,272 policy

6. Death benefit of $1,280,271

FAMILY GRANTOR TRUST

THOMAS

LIFE INSURANCE PROVIDER

Holds assets for benefit of family

4. Trust invests $638,357 in SPIA

8. Estate and income tax-free benefits

SPIA PROVIDER

5. Annual payments of $72,773

11.40% payout; 78.0% exclusion ratio

FAMILY BENEFICIARIES

HOW DO THE SCENARIOS COMPARE? Potential Benefits to Family by Year AIM Strategy

Keep Annuity

$1,200,000 $1,000,000 $800,000 $600,000 $400,000 $200,000 $0 77

78

79

80

81

82

83

84

85

86

87

88

89

90

91

92

93

94

95

695 Town Center Drive 7th Floor Costa Mesa, CA 92626 800.447.7090 Office 714.384.6580 Direct 866.447.7090 Fax www.MVMLawyers.com

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STRATEGY PROFILE

CLIENT SUITABILITY • Business owners ages 30-80 • Annual taxable income of over $100,000 • Average to good health • Net worth of $100,000 or more

Defined Benefit Combo Plan

OBJECTIVE: To maximize current income tax deductions while funding a vehicle that can

grow tax efficiently and make tax-efficient payments during retirement or at death.

Mr. and Mrs. Jones are self-employed and run a business that has a net income of approximately $300,000. They each take a salary of approximately $80,000 a year and would like to: • Increase their income tax deduction.

• Interest in effective wealth transfer strategies

• Fund a retirement plan with accelerated contributions using pre-tax dollars.

• Adequate liquid assets

• Retain plan portability with changing objectives during their retirement years.

• Desire to generate more after-tax retirement income HYPOTHETICAL RESULT • Family wealth transfer goals can be achieved • Some family wealth passes to one or more charities selected by the client • Estate tax may be reduced or eliminated

• Avoid small contribution limits.

• Protect their retirement plan from creditors or judgments from lawsuits.

• Retain key employees.

We can achieve this cost effectively and with minimal risk!

99

Solution The Jones’ advisers presents them with a plan known as the Defined Benefit Combo Plan and 401(k) plan. This strategy includes adopting a Defined Benefit Combo Plan and a 401(k) Profit Sharing Plan in their main operating company.

Income

Contributions

Deductions

Tax Savings

Current

$300,000

$0

$0

$0

DB Combo

$300,000

$200,000

$200,000

$70,000

$300,000

Main Operating Company

Income

$250,000

Contributions

$200,000

Approximate net income $300,000

Deductions Tax Savings

$150,000 $100,000 $50,000 $0 Current Plan

DB Combo Plan

Tax Savings: $70,000 Retirement Value: $200,000

*Hypothetical illustration. Individual results may vary.

Defined Benefit Combo Plan

Receives Contributions

401(k) Profit Sharing Plan

Receives Contributions

After adopting a Defined Benefit Combo Plan and a 401(k) Profit Sharing Plan, the Joneses consult with their advisers and fund either plan with the maximum contributions. Both contributions are 100% tax deductible.

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STRATEGY PROFILE

Equity Appreciation Sharing

CLIENT SUITABILITY • Individuals or couples ages 60 to 90 • Homeowners with at least $100,000 home equity • Homeowners wanting to live off of equity instead of transferring more equity to children or charity

OBJECTIVE: To monetize equity in a home while retaining the right to live in the home for life.

Mr. and Mrs. Johnson are retired. They have planned well for their retirement but have run into some financial concerns. They have a personal residence valued at $1,500,000.

They want to: • Increase liquidity in their investment portfolio.

• Utilize their home’s value without collateralizing or borrowing against it.

HYPOTHETICAL RESULT • Receive a lump sum of cash in exchange for future appreciation on their house • Create a plan that can be used for investments, real estate holdings, and other future ventures

• Invest capital into their new hobby.

• Spend more money traveling rather than juggling more bills or second or third mortgage payments.

• Live easy knowing they have true financial independence.

• Frees up cash to make their portfolio more liquid 102

Equity Monetization Example

Future:

i

ciat

Cash Received:

re App

$225,000

$3,000,000

ey™

uityK

Eq 0 % to

5

50

e

r tim

ve on o

ou

ion to y

reciat % App

Original Equity of

$495,000

Remains as Asset of the Johnsons

Example: • The Johnson’s home appraised at $1,500,000. Any equity they had is locked in and current mortgage is $1,050,000 or less (30% minimum equity).

• Both Mr. and Mrs. Johnson qualify for “key” (cash) of $225,000. Their home appreciates to $3,000,000.

• The Johnsons sell their home. They keep $1,500,000 and $1,500,000 goes to Equity Appreciation Sharing.

• Both Mr. and Mrs. Johnson pass away. Heirs buyout by refinancing, cash from life insurance, or sell the home.

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STRATEGY PROFILE CLIENT SUITABILITY • 45 years of age or older • Owns or is employed by an active trade business such as: •Medical Professional • Business Owner • CPA/Attorney • Sports figure • Entertainer • $250,000 or more in assets from one of the following: • IRA/Inherited IRA • Profit Sharing Plan • Defined Benefit Plan • 401(k)/403(b) Plan • Keogh Plan HYPOTHETICAL RESULT • Shift assets to family • Help protect assets from lawsuits, creditors, and divorces • Help reduce capital gains, gift and estate taxes • Fund life insurance premiums without using annual gift tax exclusions or lifetime exemption

Family Retirement Account

TM

OBJECTIVE: To maximize your retirement income by minimizing IRD, gift, and estate taxes. $1 of taxable IRA value can be doubled and increased in value up to nine times the original amount.

The Family Retirement AccountTM provides these key benefits:

1 2 3 4 5 6

Magnify the Family Legacy. Provide maximum family legacy while retaining the ability to generate tax-free income.

Provide Safety, Security, and Peace of Mind. Fund this strategy with guaranteed insurance products that reduce exposure to economic volatility.

Dramatically Reduce Taxes Associated with an IRA. Manage the family tax liability using techniques supported by respected law firms.

Reduce the Complexity of Maintaining an IRA. Use techniques that do not require monitoring of complex rules regarding Required Minimum Distributions, beneficiary elections, etc.

Customize this Strategy to Meet Your TM Individual Needs. Each Family Retirement Account solution is designed to address the individual needs of the client and/or the beneficiaries of the client's estate.

Manage Cash Flow. The Family Retirement Account TM can be designed for no out-of-pocket-cost to the client.

104

9

Family Legacy Design (for a Taxable Estate) FAMILY RETIREMENT ACCOUNT

$10,000,000 M o r t a l i a t t y

L e g a c y

TM

VS. $1,000,000 IRA

$8,000,000 $6,000,000 $4,000,000 $2,000,000 $-

45

50

55

60

65

Family Retirement Account Guaranteed Legacy

IRA Legacy

70

75

80

Family Retirement Account Total Legacy

THE PROBLEM: The IRA Time Bomb High income and estate taxes shrink the value of your IRA or Qualified Retirement Plan assets dramatically.

The result is that the family receives but a fraction of these hard-earned assets. Even clients with no estate tax can lose more than half of their retirement assets Potential Taxation of Qualified Retirement to income and IRD taxes.

Plans and IRAs

Income Taxes 40% Family Legacy 20%

If you fail to plan, the government may get more than your family!

Estate Taxes 40%

Even when no estate tax applies, the taxes paid often exceed the family legacy. In order to maximize your family legacy, please call us so that we may assist you.

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STRA TEGY PROFILE

IRA Maximizer OBJECTIVE: To help increase benefits to heirs from IRA assets that are not required to supplement personal income.

CLIENT SUITABILITY • Ages 70-85 in average or better health • Receives adequate income from other sources • Owns IRA assets of $500,000 or more • Places high value on guarantees

1 2 3 4 5

Life insurance and an immediate annuity, when properly designed and structured, may produce more benefits to heirs than naming them as primary or contingent beneficiaries of the IRA. The custodian invests IRA funds in an immediate annuity which generates income subsequently distributed to the participant as taxable income.

The participant gifts a portion of the IRA income to an estate planning trust, in order to pay premiums on participant’s life.

The life insurance can provide an inheritance or place all or part of the value invested in the annuity.

The life insurance proceeds can be income and estate tax-free, if a properly structured life insurance trust is used.

HYPOTHETICAL RESULT

• Net to heirs may increase considerably • Benefits guaranteed by major institutions

106

How Does the IRA Leveraging Program work?

Prepared for Thomas and Virginia Smith

1. $87,617 annual withdrawals

IRA

THOMAS AND VIRGINIA SMITH

3. Annual gifts of $87,617 for insurance premiums

A $1,000,000 example 2. Annual loans to cover income tax on IRA withdrawals

4. Loan balance repaid from estate

IRREVOCABLE LIFE INSURANCE TRUST Owns policy insuring Thomas with death benefit of $1,000,000

5. Benefits pass to trust beneficiaries FAMILY BENEFICIARIES

COMMERCIAL LENDER

COMPARISON OF BENEFITS TO FAMILY Potential results of a $1,000,000 example Keep IRA

IRA Leveraging

Benefit to Family after Income and Estate Tax

2,500,000

2,000,000

1,500,000

1,000,000

500,000

0 76

77

78

79

80

81

82

83

84

85

86

87

88

89

Insured Age

90

91

92

93

94

95

96

97

98

99

100

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107

STRATEGY PROFILE

Retirement

Rescue Strategy

OBJECTIVE: To provide tax-free retirement income and/or greater benefits for heirs by transferring

CLIENT SUITABILITY • A desire to access cash in a qualified retirement plan without paying interest or penalties • A desire to protect retirement assets from potential creditors • A desire for extra cash to earn interest with minimal principal or market risks HYPOTHETICAL RESULT • Income taxes are optimized on withdrawals during retirement • Wealth is passed to the heirs tax efficiently • Investments appreciate outside of the taxable estate

funds from a retirement plan to a profit-sharing plan, that invests capital tax efficiently in a high cash value life insurance policy. After several years of funding the policy, it is transferred outside of the taxable estate to an irrevocable trust.

Thomas and Virginia Smith had more money in their retirement plan than they expected to spend. They were concerned that extra funds would be subject to estate and income taxes at death, resulting in their children receiving only about 20% of the value of the retirement assets. They asked their advisers to suggest a non-charitable retirement rescue strategy to transfer the entire value of their retirement plan to a trust for family members. While the Smiths were willing to let their children and grandchildren have the entire value of the plan, they wanted the assets held in a trust that could still give emergency income to Thomas and Virginia. They also wanted to have some measure of control in ensuring that family members would only receive transfers from the trust, if the family members upheld the Smith family values.

• The Smiths' attorney recommended a Retirement Rescue Strategy to transfer funds from a retirement plan to a profit sharing plan.

This enabled the capital to be invested tax efficiently in a high cash value life insurance policy.

• After the policy was funded over several years, the policy was transferred to an irrevocable Dynasty Trust outside of the taxable estate. The Dynasty Trust had incentive provisions to reward heirs that respected the Smiths' core values.

• The trust now provided tax-free retirement income and potentially greater benefits for heirs.

• The Retirement Rescue strategy included a program for the tax-free transfer of Required Minimum Distributions ("RMDs") or other annual IRA distributions into an LLC that facilitated purchase of the policy from the profit sharing plan.

• The strategy also included a "safety net" to protect tax-free benefits in case of a premature death. (Clients using this tool need not be over 70 1/2 years old; nor must they keep their contributions under $100,000 to satisfy the strict IRA Charitable Rollover guidelines for 2013.)

108

Retirement Rescue Strategy

Net Cash Flow Income Taxes Paid Net Cash to Heirs Estate Taxes Paid $5,000,000 $3,500,000 $3,000,000 $2,500,000 $2,000,000 $1,500,000

The Smith’s advisers presented them with a strategy known as the Qualified Money Conversion (“QMC”). This strategy includes creating a Profit Sharing Plan (“PSP”) and a Trust (Spousal Limited Access Trust “SLAT” or Megatrust).

$1,000,000 $500,000

$0

Current Plan

By implementing the QMC, the Smiths will save $1,128,934 in income tax, double their cash flow, and leave $1,427,218 to their heirs tax free.

QMC

Net Cash Flow

Income Tax Paid

Net Cash to Heirs

Estate Taxes Paid

Total Cash to You & Heirs

Current Plan

$1,621,210

$1,128,934

$0

$0

$1,128,934

QMC

$3,329,280

$0

$0

$0

$4,756,498

With the QMC, they can: • Double their cash flow without paying taxes or penalties on the withdrawls • Transfer more wealth to heirs without estate taxes and with dramatically lower income taxes • Have investments appreciate outside of the taxable estate • Maintain peace of mind that comes from knowing that their retirement funds are growing in a safe environement

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109

STRATEGY PROFILE

Roth IRA Conversion OBJECTIVE: To convert a traditional IRA to a Roth IRA in order to improve tax benefits now, during retirement, and upon death.

CLIENT SUITABILITY • Clients with more than $100,000 in an IRA • Clients who have tax deductions that they want to utilize with extra taxable income now • Clients who expect to be in high marginal tax brackets during retirement • Clients who want to transfer wealth tax efficiently to the next generation

Thomas and Virginia Smith expected to be in high marginal tax brackets throughout their retirements. They knew that they wanted more tax-efficient income each year. The Smiths expected that most of their annual expenses would be met with portfolio income taxed at capital gains rates, utility stock dividends taxed as qualified dividends, annuity payments with some tax-free return of principal, and tax-sheltered income from rental real estate. Both Thomas and Virginia were bothered that these various income sources would push them into high marginal tax brackets so that half of their IRA income would be lost to state and federal income taxes unless they did more planning.

The Smiths' financial adviser suggested that Thomas and Virginia move their IRA into a Roth IRA. The Smiths were bothered that they would have to pay taxes now on the transfer, but the adviser showed them how paying taxes now is better than having heirs pay the taxes later. Also, the advier suggested how much of the taxable income from the IRA could be offset with charitable deductions, capital loss carry forwards, and net operating losses from a business. This reduced the tax and cash flow impact on the transfers. Considering the tax benefits in the current year and the likely tax-free payments from the Roth IRA in later years, the Smiths saw how they could realize a double digit after-tax Internal Rate of Return (IRR) from the Roth conversion strategy.

HYPOTHETICAL RESULT • Generate better after-tax returns during their lifetime • Generate substantially larger potential transfers to heirs 110

Roth IRA Conversion By using non-IRA funds to pay the income tax on the conversion from a traditional IRA to a Roth IRA, the Smiths were able to grow their entire IRA balance tax efficiently. They also maintained the flexibility to undo the conversion, if the tax rates or market conditions changed. The Smiths, therefore, anticipated the following benefits of conversion: Potential Tax Benefits Now: • The Smiths converted to the Roth IRA in a way that helps them use charitable deductions, investment tax credits, net operating losses (NOLs), and other tax deductions now. These deductions reduce the effective tax rate of the conversion.

• The Smiths took advantage of the years when they were in lower income tax brackets by doing the conversions in the years when their marginal tax brac ets are lower.

• The Smiths reduced the net present value of expected future taxes by converting taxable IRAs to Roth IRAs. • Paying the taxes on the conversion to the Roth IRA helped the Smiths reduce the value of the estate subject to estate taxes.

Potential Tax Benefits During Retirement: • The Smiths received income not subject to the 3.8% surtax.

• The Smiths moved funds from taxable to tax-free income brackets.

• By using the Roth IRA, the Smiths benefited from the suspension of the minimum distribution rules at age 70½.

Potential Tax Benefits at Death: • The Smiths’ Roth IRA distributions should not cause an increase in tax rates for the surviving spouse when one spouse has passed away. The Smiths could benefit from paying income taxes before estate taxes when the Roth IRA election is made. (Traditional IRAs are subject to estate tax under IRC § 691(c)).

• The Smiths could more efficiently fund credit shelter trusts with Roth IRAs. • Perhaps most importantly, the Smiths' after-death distributions to beneficiaries will be tax-free.

Should You Convert?

High Income Taxpayer

$3,500,000 $3,000,000

Convert to Roth IRA

$2,500,000

Keep in Regular IRA

$3,500,000 $3,000,000 $2,500,000 $2,000,000

$2,000,000

$1,500,000

$1,500,000

ROTH IRA

$1,000,000

$1,000,000

REGULAR IRA

$500,000

$500,000 $0

Roth IRA Advantage to the Child Beneficiar y

$0 60

65

70

75

80

Participant’s Age

85

90

45

50

55

60

65

70

Beneficiary’s Age

75

80

85

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111

STRATEGY PROFILE

CLIENT SUITABILITY • Individuals who have minor children or grandchildren and would like to determine how and when the offspring will receive the assets of the IRA • Individuals who have an irrevocable trust, or it becomes so upon the death of the owner of the IRA • Individuals who make the trust beneficiaries readily determinable from the trust instrument

HYPOTHETICAL RESULT

IRA Trust OBJECTIVE: To establish a long-term strategy where your trust is the designated beneficiary of your IRA, thus helping to lengthen the period of time that your assets may grow and, therefore, realize the goal of long-term tax deferral.

1

2

An IRA Trust can be an ideal legacy tool to assist you in preserving the assets for your children and their families.

• IRA assets are protected for a period of time • A post-death contingency plan is created, which allows for disclaimer planning • Taxes are deferred for the long-term • Wise distribution of assets is encouraged, in accordance with incentive trust provisions or other guidelines • Faithfulness to family values is encouraged by protecting the assets from creditors, because the trust is designed with separate accounts and other asset protection features • Wealth is accumulated and transferred more tax-efficiently Advantages to an IRA Trust are: • Helps to ensure that only minimum distributions are taken, until additional cash is needed by the heirs • Helps to ensure that estate and/or generation-skipping tax savings exist for the children and grandchildren • Most effective when accounts are more than $200,000 • Special needs beneficiaries' payouts are limited which allows for ongoing government benefits • Allows better protection from unbridled spending and creditors

• Net benefits to heirs may increase • Long-term tax deferral • Benefits stay within the family 112

How Does the IRA Trust Work?

John and Susan

Instead of the assets being passed on immediately to the heirs, the trust is designated as the beneficiary.

Family Beneficiaries: Children, Grandchildren, and Great-Grandchildren

Trustee makes distribution to family

IRA Trust

Traditional IRA Scenario Selecting your Trust as the Beneficiary for your IRA Scenario #1

• Assume individual has $100,000 in a traditional IRA. Owner dies and IRA is distributed to spouse as beneficiary.

• Your inherited IRA of $100,000 would be distributed under the five-year rule. All assets need to be completely distributed from your inherited IRA by December 31 of the fifth year following the IRA owner's death.

Scenario with Your Trust as the Beneficiary to Your IRA

• You elect to name your trust as the beneficiary for • Assume individual has $100,000 in a traditional IRA. Owner dies and IRA is distributed to IRA Trust as your IRA. beneficiary.

• By designating your trust as the beneficiary for your • Your inherited IRA of $100,000 would be distributed according to the provisions of the trust. Required IRA, you are able to lengthen the tax deferral and minimum distributions would be calculated on the life expectancy of the oldest beneficiary. increase potential wealth building.

Distributions would be allocated to beneficiaries according to trust provisions.

Scenario #2

IRA Tr ust as Beneficiar y

$1,000,000 Mary, your sister, is designated as the trustee. Mary will $905,958 $900,000 be able to decide how much she would like to distribAssets $800,000 ute to your daughter, Jane, who is listed as the primary $700,000 beneficiary. Therefore, the assets remain protected $600,000 $508,006 within the trust. Mary is able to then keep the money $500,000 in the trust and take minimum distributions from the $400,000 IRA. This prevents Jane from spending too much $275,889 $300,000 money too quickly. Any minimum distributions are $200,000 $ 1 4 5 , 7 6 0 determined by the person who has the shortest life $100,000 expectancy of all possible trust beneficiaries. A shorter $0

life expectancy means a shorter period of time for the money to be disbursed. Therefore, if Jane's children or siblings are listed as secondary beneficiaries, Jane would be able to stretch out the length of time for the IRA trust for a longer period.

10 YEARS

20 YEARS

30 YEARS

40 YEARS

Example is shown for illustrative purposes only. Chart shows a hypothetical example of a $100,000 IRA which a 45 year old beneficiary inherits. IRS rules and life expectancy tables are used for this example. 7% annual rate of return is assumed, with the 25% federal tax bracket. All income dividends and capital gains are reinvested. Ending values do not reflect inflation, fees, or distributions taken.

MRDs are taken at the beginning of each year. MRDs are based on the single life expectancy of the beneficiary, invested in a taxable account.

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STRATEGY PROFILE

CLIENT SUITABILITY • Age 50-85 • Average or better health • Net worth of $5 million or more • Desire to begin tax advantaged wealth transfer strategy to help build assets for future family inheritance HYPOTHETICAL RESULT • Shift assets to the family • Help protect assets from lawsuits, creditors, and divorces

Statutory Retirement Rescue

OBJECTIVE: To convert taxable retirement funds into tax-free income and/or tax-free transfers to children.

Thomas and Virginia Smith had faithful funded their IRA and pension for many years. They now had more than $2,000,000 of cash in the pan. To their surprise, they saw that it made little sense to spend retirement funds during retirement funds during retirement. Instead, their CPA recommended that they save taxes by living on capital gains distributions from their stock portfolio, tax-sheltered rental payments from their real estate, and tax-sheltered SERP payments from Thomas’ employer.

The Smith’s financial adviser warned the Smiths that money left in the retirement plan at death could by subject to 40% estate taxes and IRD taxes over 50%. Less than 1/3 of the retirement assets to charity in way that could increase wealth available for their lifestyle and/or their gifts to their children. The proposed solution would: • Convert involuntary philanthropy (income and estate taxes) into voluntary philanthropy while helping the Smiths control all of their retirement assets • Generate large charitable income deduction

• Help reduce gift and estate tax

• Transfer significant assets to family members at a very low gift tax value

• Lock in current high estate tax exemptions and favorable discount rules before laws change

• Build wealth in a trust that can make tax-free payments to the Smiths during retirement while leaving a large inheritance for children

• Receive access to tax-free income for life 114

Statutory Retirement Rescue The profit sharing plan funds a policy a policy that is distributed in year 4 to a super CLAT. The CLAT uses life insurance to fund charity and distribute assets to a trust for family

PROFIT SHARING PLAN Thomas rolls current IRA to a profit sharing plan.

Plan invests in a $18,784,000 policy insuring Jim’s life and pays premiums of $500,000 for 4 years. At the end of 6 years policy in distributed to Jim.

THOMAS Receives distribution of policy in year 6 and contributes policy to a Super CLAT.*

Charitable income tax deduction of $2,083,753

Gift life insurance policy in year 6 SUPER CLAT

Uses policy loans to make distributions to the Smith Foundation for 12 years. At the end of 12 years the policy plassesto heirs.

SMITH FOUNDATION Makes distributions to charities

HEIRS Receive the life insurance policy in the CLAT at the date of termination

*Distribution from plan is taxable but gift to CLAT is deductable. Any deduction not used in the year of the gift can be carried forward for 5 years

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STRATEGY PROFILE

Tax-Sheltered Retirement Distribution (“T.S.R.D.”)

OBJECTIVE: To convert ordinary income from retirement assets into tax-free income for your family and favorite charities.

CLIENT SUITABILITY • Individuals ages 40-100 with family members in fair to excellent health • Owns more than $500,000 of retirement assets subject to high marginal taxes • A desire to preserve the estate for the family • A willingness to initiate transfers now, while retaining access to capital

HYPOTHETICAL RESULT • Net benefits to heirs may increase

Thomas and Virginia Smith want to minimize taxes on their retirement plan assets, while achieving these goals for themselves, their children, and their grandchildren.

1 2 3 4 5

Generate more tax-efficient lifetime income.

Accumulate more after-tax wealth in a trust that can be used as a family bank.

Increase the after-tax inheritance for the children.

Reduce or eliminate ordinary income taxes on retirement assets now and at death.

Facilitate the orderly transfer of investments to family members, in the event of a premature death.

• Benefits can be guaranteed by major institutions 116

1

Tax-Sheltered Retirement Distribution Trust (“TSRD Trust”) Design Thomas and Virginia Smith, both age 60, have accumulated over $1,000,000 in an IRA account.

They are financially secure and have other income and assets to fund their retirement. They are concerned that funds taken out of their IRA in retirement would be subject to top marginal ordinary income taxes of more than 50%. The Smiths are also unhappy about the Required Minimum Distribution rules, which will begin to impact their income taxes when they turn 70 years old.

After analyzing their IRA assets, they realize that with the normal growth of their IRA portfolio over their 30 year life expectancy, they will have paid over $900,000 of taxes and their heirs will only receive $900,000. They want to structure a plan to create current income tax deductions, transfer retirement plan assets tax-free to their children, fund favorite charities, and still give access to funds, if more money is needed in their later years.

The Smiths learn that their involuntary philanthropy (taxes) can be converted to voluntary philanthropy (gifts to favorite charities). Their law firm illustrates how money withdrawn from the IRA retirement plan over 10 years can be contributed to a tax-sheltered retirement distribution trust (TSRD Trust). This vehicle is able to then lend the money to a Dynasty Trust to fund a tax-efficient portfolio.

By avoiding income taxes on the annual withdrawal of assets from the retirement plan, and by growing assets tax efficiently, the Smiths can accumulate more than $3,500,000 for family while directing more than $900,000 to their favorite charities.

$1,000,000 IRA Assets over 10 Years

Thomas & Virginia Smith

Cash Available if Needed for Lifestyle

Tax Deduction Low Interest Loans

TSRD LLC

Distribution of Assets

Dynasty Trust Owns Tax-Efficient Portfolio

Guaranteed Repayment of Loan

Favorite Charities $996,000

Taxes $0

Family $3,520,000

Trust Assets Pass to Heirs Tax-Efficiently

By redirecting tax money to family and favorite charities, the Smiths can create a larger legacy and make a bigger impact with all of their hard-earned retirement plan assets.

Family Assets

Gifts to Charity

$ 5,000,000 $ 4,500,000 $ 4,000,000 $ 3,500,000 $ 3,000,000 $ 2,500,000 $ 2,000,000 $ 1,500,000 $ 1,000,000 $ 500,000 $0

T.S.R.D. Trust

Current

T.S.R.D. Trust

Current

Comparative Benefits

Family Assets

$

900,091

$

3,520,363

$

Gifts to Charity

$

-

$

995,936

$

2,620,272 995,936

$

3,616,208

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STRATEGY PROFILE CLIENT SUITABILITY • Individuals with any amount of assets and income • Parents or grandparents who want to give their beneficiaries more than money • Individuals with an interest in addressing the spiritual foundations of wealth planning HYPOTHETICAL RESULT • Articulates life lessons in a format that will inspire and guide future decision makers.

• Helps trust beneficiaries avoid unnecessary problems.

• Creates a document focused on relationships which complements the legal, rule-based documents.

• Integrates spiritual values into the estate planning process.

Ethical Will OBJECTIVE: To clarify a family's mission and vision by creating a document which complements the family's legal will and/or trust. By upholding time-tested values, the family's strengthened relationships and stewardship of their wealth is documented.

Thomas and Virginia Smith read studies showing that 95% of generation three members will lose inherited wealth. The Smiths were also deeply concerned about the children and grandchildren not understanding and respecting the values that contributed to the creation of their wealth. After reviewing their living trust and other legal documents, both Thomas and Virginia expressed concerns to their attorney about how the legal documents failed to guide the trustees and beneficiaries in using inherited wealth in the future.

The Smiths’ attorney responded to the concerns by recommending an ethical will. The ethical will summarizes stories, life lessons, and family traditions, many of which have been passed down from previous generations.

The Smiths learned that ethical wills have existed for at least 4,000 years.

The Hebrew Scriptures first describe ethical wills in Genesis Chapter 49, where Jacob’s communication to his sons includes elements of the Abrahamic covenant and earlier Adamic and Noahic covenants. Covenantal concepts from Scripture still help patriarchs and matriarchs foster godly commitments across the generations. Six elements from ancient ethical wills consistently appear in all types of more recent covenants, including the family compacts and church constitutions. In the 21st century, ethical wills continue to define the six main elements of partnership agreements, trusts, and other legal documents.

These legal instruments are often designed by wealth counselors and drafted by lawyers, after attending a retreat focused on clarification of the elements of the covenant.

118

Ethical Will Provisions Guide All Trustees ETHICAL WILL Business assets owned in LLCs

CHARITABLE TRUSTS

LLC INTERESTS

Own Appreciated Assets

Hold Investment Properties

REVOCABLE TRUST DYNASTY TRUST Owns LLC Interests and Real Estate

Research shows that families achieve far greater success when family members encourage faithfulness to elements of a covenant. Dr. Robert Clinton studied 50 biblical leaders, 100 historical leaders, and 1,150 contemporary leaders. Clinton concluded that less than one in three leaders finishes well. Clinton's conclusions affirm the six covenantal elements in an ethical will. By addressing spiritual and emotional issues at six levels, wise advisers can help family leaders integrate legal, financial, and other technical solutions with relational solutions that can inspire future generations. See www.Legacies.info for more information.

2/3 of Leaders Fail to Uphold Six Elements in an Ethical Will

Finish Fail to Well Finish Well

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STRATEGY PROFILE

CLIENT SUITABILITY • Individuals with taxable estates • Individuals seeking to understand the cash flow, tax, and inheritance impact of integrating multiple planning tools • Individuals wanting to provide clear design details to advisers who are helping with the drafting and funding of trusts HYPOTHETICAL RESULT

Family Wealth Blueprint

R

OBJECTIVE: To integrate planning instruments with help from optimization software that

minimizes taxes while increasing wealth for retirement, family, and favorite charities.

Thomas and Virginia Smith built a profitable business with a substantial retirement plan. Income from the business allowed the Smiths to own two nice homes, an investment property, and a substantial stock portfolio. They realized that their net worth of more than $22 million gave them substantial tax exposure.

Like many wealthy couples, they had done no significant planning.

With help from their advisers, the Smiths developed a plan to enhance after-tax income, eliminate more than $6 million of taxes, transfer tax savings to a family foundation, and give more than $20 million to their children. The Smiths realized millions of planning benefits for a relatively modest cost. More important than the financial benefits, however, was the peace of mind they attained. The Smiths knew they had projected a secure after-tax retirement income, while establishing mechanisms to transfer the right amount of assets and income to heirs at the right time.

• Less estate tax • Less income tax • Less capital gains tax • More for retirement • More for family • More for favorite charities 120

Redirect Tax Money to Trusts for Retirement, Family, and Charity Current Estate Distribution Program

Before the Smiths began the Blueprint process, they were expected to waste $6 million on taxes and transfer less than $15 million of their $22 million to heirs. The baseline flowchart to the right shows the Smiths’ estate distribution diagram before the planning began. Like many wealthy individuals, the Smiths had a plan that transferred assets to heirs only when Thomas and Virginia died. Because of this failure to plan, the Smiths were not heeding the wisdom to “do your giving while you’re living so you’re knowing where it’s going.” The Smiths’ advisers instead helped the Smiths to realize the results below:

Death Occurs in 2013 Thomas & Virginia Smith $22,000,000

1st Estate

Taxes and Expenses $85,000

Virginia $21,915,000 2nd Estate

Taxes and Expenses $6,943,980

Financial Independence Triangle HEIRS

$14,971,020

Community Capital Legacy Status Tax

$4,434,880

Gift

0

Total

$4,434,880

Family Legacy Status $17,016,820

Financial Independence Status $14,800,000

SOCIAL CAPITAL LEGACY

Community Capital Legacy Goal Tax

0

Gift

0

Total

$5,000,000

FAMILY LEGACY

Family Legacy Goal $15,000,000

FINANCIAL INDEPENDENCE

Financial Independence Goal $8,082,834

The Smiths set up trusts to provide ample income for financial independence. The extra was directed to family and to charities. The charities received money that would have otherwise gone to taxes. Both family and charity received more wealth than they would have had if no planning had been done.

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STRATEGY PROFILE

CLIENT SUITABILITY • Individuals with any amount of assets and income • Parents or grandparents who want to give their beneficiaries more than money • Clients with an interest in addressing the spiritual foundations of wealth planning • Individuals who want to establish their charitable giving intentions

HYPOTHETICAL RESULT • The family is able to obtain peace of mind knowing that their wealth will be used in accordance with their principles • The family's values are clarified so that they can be passed on to future generations

Family Wealth

Statement (“FWS”) OBJECTIVE: To develop a clear statement of vision and values from questionnaires completed by the matriarch and patriarch.

Thomas and Virginia Smith read studies showing that 95% of generation three members will lose inherited wealth. The Smiths are deeply concerned about the children and grandchildren not understanding and respecting the values that contributed to the creation of their wealth. Thomas and Virginia expressed concern to their attorney, once they reviewed their living trust and other legal documents. They are concerned that the documents will fail to guide the trustees and beneficiaries in using inherited wealth in the future.

The Smiths’ financial adviser responded to the concerns by recommending a family retreat focused on articulating the family's values. Before the retreat, both Mr. and Mrs. Smith completed questionnaires with a total of 60 questions in six categories. Answers from the questionnaires were interwoven into stories about major life events, lessons taught by parents and grandparents, and summaries of family traditions. The retreat leader sought to discover and clarify the wisdom and warnings that were passed down through the generations in order to help the family achieve success.

Lessons from the retreat were summarized in a Family Wealth Statement (“FWS”), with the six sections described on the following page. The FWS would then guide advisers, inspire beneficiaries, and unite the family around a clear statement of vision and values.

122

The Family Wealth Statement Unites a Family The Family Wealth Counselor drafts a Family Wealth Statement which has 6 elements:

The Wealth Counselor helps a family focus on a compelling vision statement. This helps unite advisory team members in addressing foundational technical issues. This vision is referred to as, "the castle in the sky," that needs a foundation under it.

Working with wealthy clients for three decades, we see that family members and planning team members are most likely to unite around the vision statement, if it includes six key dimensions: Potential Resources: Each family member is encouraged to discover and develop emotional passions, spiritual insights, intellectual capital, physical talents, social networks, professional skills, and financial capital.

Professional Perspectives: • Business Lawyer Guides Executives • Philanthropic Planner Redirects Tax Money • Investment Adviser Designs Portfolios • Insurance Agent Manages Risk • Accountant Files Tax Returns • Tax Lawyer Implements Tax Strategies The Wealth Counselor helps identify team members with skills as analysts, planners, adviser coordinators, blueprint publishers, licensed implementers, and educators. The licensed implementers typically include licensed lawyers, accountants, appraisers, and insurance agents. Each of these professionals produces a deliverable, as illustrated on the graphic below, to summarize recommendations.

The Seven Levels of Services Provided by a Capable Planning Team

7 Levels C

7 Rules

7 Deliverables

COUNSELOR

Family Wealth Statement

A

ANALYST

Financial Check-up and/or Value Proposition Letter

P A

ADVISER COORDINATOR

B

BINDER/PUBLISHER

Tactical plan and/or Comprehensive Plan

L

LICENSED IMPLEMENTERS

Legal Documents

E

EVALUATOR/EDUCATOR

Annual Updates

PLANNERS

Three Phase 1 Deliverabks: FWS, FC, & VPL

Purpose Statements - Individual family members develop purpose statements based on their unique passions, talents, and experiences.

The Family Wealth Statement unites the family around a clear statement of vision and values. The six sections are based on answers given by the patriarch and matriarch who complete the Family Wealth Questionnaire. The document inspires beneficiaries to receive a spiritual and emotional inheritance before receiving a financial inheritance. Provisions establish guidelines for family meetings, charitable giving, and adviser evaluation. During a family retreat, ideas are shared from successful families and the hundreds of books on family wealth management principles

Process - The family leader has a process to unite planning team members around a clear plan that reflects the family vision.

Principles and Priorities - The family has a ranked list of values that guide the accumulation, maintenance, and distribution of wealth.

Provision - The family rewards faithful behavior by transferring control, management, and ownership of assets in a fair and reasonable manner.

Preparation Pathway - Before family members receive meaningful wealth, the family leaders encourage stewardship training through a series of family meetings

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STRATEGY PROFILE CLIENT SUITABILITY • Individuals whose goals have changed • Individuals who express uncertainty about how well their financial, tax, and legal plans reach their goals HYPOTHETICAL RESULT • Balance sheet assets provide a secure lifetime income without too many taxes • Asset management performance is consistent with risk tolerance and benchmarks • Legal documents are current and consistent with goals • Tax returns do not reveal excessive tax liabilities

Financial Checkup OBJECTIVE: To prepare a report card to show how well current goals are realized by existing balance sheet, asset management, legal, tax, insurance, and cash flow plans.

Thomas and Virginia Smith hired various advisers over the years to help with investments, insurance, estate planning, and tax strategies. They were nervous that maybe the strategies were out-of-date or not consistent with current goals. They decided to send all of their current documents to a team of advisers that could analyze everything vis-a-vis a current summary of ranked and quantified goals. The lead adviser agreed to prepare a “report card” to show which goals were realized and where additional planning was needed.

The Smiths had disappointing scores on their report card. They realized that they had faulty beliefs about their estate plan because they expected it to have more lifetime benefits. They also saw that they were paying too much tax on portfolio turnover, life insurance premiums, and excess cash flow used for investment purposes.

The Smiths’ advisers were able to look at the report card when conceptualizing a new plan for minimizing taxes while maximizing benefits for heirs, increasing transfers to a family foundation, providing a more secure retirement income, and achieving other personal goals.

The report card was part of a complete Financial Checkup with a variety of useful graphics to help the Smiths conceptualize the problems with their current plan along with potential solutions. The Smiths’ adviser was able to use this information to quantify potential benefits. It was then clear that the benefits should be at least 100 times greater than the costs of moving to the next phase of planning.

• Insurance coverage is current and appropriate • Decision makers are comfortable with projected sources and uses of cash 124

Financial Checkup Process Retirement Living Expenses Total Cost of Retirement

$4,00000

The Smiths’ Financial Checkup analyzed the design, drafting, and funding of each of their legal entities. While the plan was fairly complex, details were distilled into a simple balance sheet and cash flow statement. It was, therefore, possible to create graphics and other reports to evaluate the health of their investments.

The Financial Checkup included reports showing how the various planning instruments impacted the Smiths' net worth each year until their life expectancies were reached. The balance sheet also linked to a cash flow statement detailing how the integration of various planning instruments affected their income and cash flow.

$6,807,207

$3,60,000

Total Retirement Income Sources

$3,20,000

$732,563

$2,80,000

Total Capital Withdrawals

$4,734,216

$2,00,000

Shortfall

$2,40,000

$1,340,428

$2,00,000

Unfunded Years

5

$1,60,000 $80,000 $40,000 $0

2017

2020

2023

2026

2029

Withdrawals from Assets

Income

2032

2035

2038

2041

Deficit

The Smiths were also able to work together to agree upon which reports would guide the surviving spouse or future generations of decision makers. $1,400,000 $1,200,000 $1,000,000

Taxable Balance Tax Deferred Balance Difference

10 Years $131,556 $144,865 $13,309

20 Years $385,549 $472,402 $86,853

30 Years $875,932 $1,212,957 $337,025

$800,000 $6,00,000 $4,00,000 $200,000 $0

*Assumes 8.5% Rate of Return

10 Taxable

20 Years

30 Tax-Deferred

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STRATEGY PROFILE

CLIENT SUITABILITY

Value Proposition Letter

OBJECTIVE: To calculate the costs and benefits of planning, before spending money on plan • Individuals wanting to analyze exposure to unwanted taxes • Individuals who desire to see where current financial and legal instruments fail to achieve goals • Individuals wanting a concise and integrative summary of balance sheet, asset management, legal, tax, insurance, and cash flow documents

HYPOTHETICAL RESULT • Develop a report card showing what is good about current planning documents and what aspects of planning need attention • Summarize planning documents in one place

design, drafting, and funding.

Thomas and Virginia were anxious about the status of their planning. They were especially concerned that Virginia wouldn't know what to do if something were to happen to Thomas. In order to gain a complete understanding of all of their planning documents, they hired a wealth counselor to review financial, legal, tax, insurance, and cash flow documents.

Documents analyzed included: • Net worth statement and expected returns • Income tax status including income sources, deductions, and tax categories • Financial independence as it relates to lifestyle, inheritance, and philanthropy • Wealth transfer status to heirs, taxes, and charity • Expected return, volatility, and portfolio efficiency of liquid investments • Life insurance summary of coverage • Goals, objectives, and progress The wealth counselor provided a grid showing how the Smiths are subject to unnecessary income, capital gains, and estate taxes.

The grid showed how the costs of additional planning should be less than 1% of the tax savings. The value proposition grid is in a letter that addresses: • Potential for enhancing surplus cash flow • Tax saving strategies • Investment portfolio returns and risks • Wealth transfer steps and timing • Life insurance considerations and alternatives • Estate planning deficiencies and solutions • Family meeting agendas and metrics • Other areas of importance to the Smiths

126

Value Proposition Letter Process The Smiths adviser met with them during an initial consultation. The consultation was free because the Smiths agreed to provide their balance sheet, income tax, and legal documents before the initial meeting. Having this information in advance allowed the adviser to document the costs and benefits of planning in a Value Proposition Letter (VPL). The VPL showed the fees and expected additional after-tax cash flow and inheritance amounts that should result from engaging the adviser for a new tactical plan, summary plan, or comprehensive Family Wealth BlueprintÂŽ.

Current

Proposed

Estate Taxes

$14,300,000

$100,000

Benefit to Heirs

$15,200,000

$18,900,000

Income Tax Savings

$0

$200,000

Benefit to Charity

$0

$21,300,000

Tactical Plan Discovery Session

Summary Plan

Comprehensive Plan Phase 1

Phase 2

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127

STRATEGY PROFILE CLIENT SUITABILITY • Parents who desire to pass

on relational ideas through spiritual and emotional inheritance, that prepares children for a financial inheritance

• Parents who try to reward

the behaviors of beneficiaries that are consistent with the family's vision and values

• Parents who try to foster

the distribution of trust funds in a manner that fosters rewards. These rewards may be gainful employment, the realization of educational goals, involvement in appropriate charities, commitment to parenting children, or other socially-beneficial goals

HYPOTHETICAL RESULT • Helps inspire the subsequent generations to appreciate the sweat, blood, and tears invested in building family wealth • Ranks and quantifies goals so that abstract statements about values can be translated into concrete provisions in legal documents and financial statements

Wealth Strategy Counseling

OBJECTIVE: To meet with the family patriarch and matriarch to develop a clear statement of vision and values that can unite advisory teams and inspire beneficiaries.

Thomas and Virginia Smith know that their children will need guidance in using the wealth that will likely pass to the kids when the elder Smiths die. The Smiths decide to hire a wealth counselor with skills and systems to integrate the technical (legal and financial) dimensions of planning with the relational aspects of planning. The Wealth Strategy Counseling process involves Thomas and Virginia filling out questionnaires separately and then meeting with the Wealth Strategy Counselor during a 4-6 hour retreat to agree on shared answers. The shared answers are then articulated in a Family Wealth Statement ("FWS").

The Wealth Strategy Counselor then involves Generation 1 in a meeting with Generation 2 children and in-laws.

Family members go through exercises to communicate and refine their vision and core values. The family learns how their ranked and quantified goals can be fulfilled through the appropriate selection, design, drafting, and funding of planning tools. The Wealth Strategy Counselor is able to show how appropriate non-tax goals are introduced and integrated into the tax planning discussion. Instead of focusing on just the opportunities created by tax and financial planning, The Wealth Strategy Counseling process unites spouses and other family members around a vision for realizing opportunities created by wealth.

Additional benefits may include the following: • Spiritual Insights • Emotional Passions • Intellectual Capital • Physical Talents • Social Networks • Professional Training • Financial Capital Resources are then freed up for education, business acquisitions, and other investments which enable family members to develop and fulfill their own personal callings. Ultimately, the family is inspired while protecting themselves against "affluenza" and other dangers of wealth.

128

Statistics Reveal the Dangers of Wealth

Below endnotes may be referenced from the article at http://vfos.com/webdocs/TimVoorhees-WhyMostFamiliesLoseTheirWealthbytheThirdGeneration.pdf

75% 75% of parents worry about wealth’s impact 7

96%

95%

Time to grow wealth Time to lose wealth 10

95% of inheritance plans ultimately fail 11

90%

97% 97% of businesses are unprofitable by Gen 3 12

90% of wealth is lost by Gen 3 13

Wealth Strategy Counselors Unite Family Members Around Proven Tools and Processes King Solomon warned, "An inheritance quickly gained at the beginning will not be blessed at the end." Heirs given money typically have a strong inclination toward spending the money on possessions, pleasures, or other purposes without lasting significance. Psychologists specializing in "sudden wealth syndrome" acknowledge that heirs, like lottery winners, tend to blow their windfall . The availability of money may undermine the pursuit of a higher purpose. Andrew Carnegie, the 19th-century steel magnate stated, "The parent who leaves his son enormous wealth generally deadens the talents and energies of the son, and tempts him to lead a less worthy life."

The Wealth Strategy Counselor addresses the above problems by helping families: 1) unite around clear statements of vision and values based on the resources and purposes of individual stakeholders; 2) establish a consistent process that is followed by team members with clear roles, goals, and controls; 3) design, draft, and fund technical tools that help the client achieve ranked and quantified goals. This focus on the relational vision, process, and tools invariably yields great results.

Once the vision is established by the wealth counselor, it is possible to choose advisers that can fulfill the seven roles pictured at the right. Each of these roles corresponds to a valuable deliverable.

The deliverable summarizes the recommendations of the adviser along with a clear summary of costs and benefits.

The Seven Levels of Services Provided by a Capable Planning Team

7 Levels C

COUNSELOR

Family Wealth Statement

A

ANALYST

Financial Check-up and/or Value Proposition Letter

P A

PLANNER ADVISER/COORDINATOR

B

BINDER/PUBLISHER

Tactical plan and/or Comprehensive Plan

L

LICENSED IMPLEMENTERS

Legal Documents

E

EVALUATOR/IMPLEMENTER

Annual Updates

7 Rules

7 Deliverables

Three Phase 1 Deliverables FWS, FC , & VPL

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conclusion Matsen Voorhees Mintz LLP helps advisers and their clients create fully-integrated, tax-efficient wealth plans. Our cost-effective process gives clients access to the highest level of technical skill along with personalized customization of each plan. It is our hope that The Best Tools Resource Manual gives advisers valuable resources for showing the full scope of top-level strategies that are available to integrate with client's existing planning tools. Applying and implementing these strategies can be challenging and requires a level of expertise that takes decades to develop. In order to make these strategies accessible for every adviser, the attorneys at MVM Law are here to assist in the design, drafting, and funding of planning instruments. We are happy to come along side advisers at any point in the process. Our engagement process is explained at www.WebinarCounsel.com. You can take the first steps by visiting WebinarCounsel and filling out the short forms regarding your case, or simply email your questions to info@MVMLawyers.com. We look forward to hearing from you. his Best Tools Resource Manual has been developed for investment, insurance, legal, and accounting professionals. It is not intended for distribution to clients; however, pages from the this book may be displayed to prospective and current clients as long as suitable compliance approvals are received. If you have licensed the hard copy of this book, you may call 800-447-7090 to request access to a web-based version of the book for display on your computer screen.

For client-ready materials, please contact Tim Voorhees and his team at Matsen Voorhees Mintz LLP. Their number is 800-447-7090.

Please note that the “zero tax� concepts explained in this book all rely on charitable giving strategies. The charitable planning concepts are explained in The Best Zero Tax Planning Tools. You may download free reprints from Chapter 1 and Chapter 9 of this book by vising www.ZeroTaxCounsel.com.

The Best Zero Tax Planning Tools Updated with new 2014 numbers, The Best Zero Tax Planning Tools equips advisers with a proven process for integrated charitable and non-charitable tools to help clients decrease taxes, enhance retirement income, increase transfers to heirs, adn augment charitable giving potential

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Endnotes Sale to a Nongrantor Trust, Pg. 51 Continued Benefits of a Sale to a Nongrantor Trust • If you wish to fund the RMA at the goal specified $3,000,000 (instead of the illustrated $2,000,000) we suggest working with the planning team to evaluate additional techniques for eliminating gift taxes on lifetime transfers to heirs.

• Our assumptions show that the installment note will bear an interest rate of 4.0%.

Therefore, the initial annual interest due to you will be $252,240.

• Once structured properly, the trustee can elect to capitalize on the interest each year instead of paying it out to defer the capital gain recognition indefinitely.

• The growth in the assets of the trust will create benefits for your family. This growth will pass outside your taxable estate.

• If the note never makes a payment, there will be no income or estate tax due because it can ultimately fund a zeroed-out TCLAT, which is discussed later in the report.

THE BEST TOOLS RESOURCES MANUAL LICENSE AGREEMENT Subject to the provisions contained in this License Agreement (the “Agreement”), Voorhees Intellectual Property (“VIP”) and Matsen Voorhees Mintz LLP (“MVM Law”) hereby grant to ______________________ (Licensee) a non-exclusive license (the “License”) to receive a bound version of The Best Tools Resources Manual (“Best Tools Manual”) published by Tim Voorhees. VIP and MVM Law are the Licensors of property developed and owned by VIP.

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As long as the Matsen Voorhees attorney is provided with the clients “BIG Docs” (see www.MVMLawyers.com/A-Big-Docs) prior to the training webinar, the attorney may display contents from the Best Tools Manual during adviser training meetings or clients meetings. Following the webinar, the attorney may provide Licensee with the password-protected PDF referenced in Section 1.

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9. Governing Law, Interpretation, and Arbitration. This Agreement shall be interpreted under and governed by the laws of the State of California without regard to its rules governing the conflict of laws. If a court of tribunal of competent jurisdiction holds any provision of the Agreement illegal or unenforceable, the remaining provisions of this Agreement shall remain in effect and the invalid provision deemed modified to the least degree necessary to remedy such invalidity.

Any claim or dispute arising from or related to this agreement shall be settled by mediation and, if necessary, legally binding arbitration in accordance with the Rules of Procedure for Christian Conciliation of the Institute for Christian Conciliation, a division of Peacemaker® Ministries (complete text of the Rules is available at www.Peacemaker.net/Rules). Judgment upon an arbitration decision may be entered in any court otherwise having jurisdiction. The parties understand that these methods shall be the sole remedy for any controversy or claim arising out of this agreement and expressly waive their rights to file a lawsuit in any civil court against one another for such disputes, except to enforce arbitration if a dispute arises with respect to this decision.

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By: Tim Voorhees