Lifetime Planning

The typical estate plan might earn an “A,” but without an accompanying lifetime plan, it fails the course.


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Joe has an estate plan that was completed 15 years ago. Now 66 years old and considering retirement, he recently reviewed the plan and found he was not comfortable with it. It includes a typical A/B trust for him and his wife Mary (age 64) and an irrevocable life insurance trust (ILIT) that holds a $4 million whole life policy on Joe. It does not, however, include provisions for supporting the couple during their lifetimes, nor does it maximize the payout to their heirs after their deaths.

In a classroom, Joe’s existing estate plan would get an “A” grade. Like many plans, however, it would not be implemented until after Joe dies. An A/B trust accompanied by a pour-over will is a good start, but from a tax standpoint, it is a loser. The sad fact is that the typical A/B trust cannot save the owner even one dime in estate taxes. The IRS wins, the owner’s family loses.

Joe, like any other well-to-do business owner, would benefit in a big way from having a lifetime plan to accompany his existing estate plan. Below is a snapshot of Joe and Mary’s financial statement before we put a lifetime plan into place:

Asset Fair Market Value
Cash $200,000
Stocks and bonds $1.3 million
Qualified plans (IRA/401(k)) $1.6 million
Privately owned business* $4.4 million
Real estate  
          3 private residences $4.7 million
          9 investment properties $18.5 million
Total Assets $30.7 million
Mortgages $7.3 million
Current Net Worth $23.4 million

*The company's net profit amounts to $800,000 per year.
(Also remember that, over time, mortgages will be paid off and the underlying real estate tends to increase in value. Joe and Mary’s taxable estate (net worth), therefore, will most likely significantly increase (to the $35 million range), and this will more than double the potential estate tax liability.)

Kill Taxes, Establish a Lifetime Plan
An estate-tax-killing lifetime plan is one that is asset-based. We used the following strategies to reduce or eliminate the potential estate taxes for each of Joe and Mary’s non-cash assets:

1. Stock and bond portfolio. The entire portfolio (of which Joe retains control) was transferred to a family limited partnership (FLIP), which is allowed a 35-percent discount ($455,000) on its value for estate-tax purposes. The results is tax savings of $182,000.

2. Qualified plans. Funds in qualified plans are double taxed (both income and estate taxes) in the range of 64 percent. We transferred the 401(k) funds into the IRA, a tax-free transaction, then used a strategy we call the Retirement Plan Rescue, which multiplies after-tax dollars via life insurance. In a nutshell, the IRA buys an annuity on Joe and Mary, then distributes the annual payments to Joe. The after-tax annuity payments pay the premiums on a $2.8 million second-to-die policy on Joe and Mary that is owned by an ILIT. As a result, we turned $96,000, the after-tax value of the IRA, into 2.8 million tax-free dollars.

3. Private business. We used an intentionally defective trust (IDT) to transfer ownership of Joe’s company, Success Co., to one of his sons, who was already running the company. Joe retains 100 shares of voting stock, which allows him to maintain control of the business, while the IDT uses Success Co.’s future cash flow to purchase 10,000 shares of nonvoting stock for $2.64 million, after discounts. All payments received by Joe, both principal and interest, are tax-free. In this way, the $800,000 annual income he receives (the company’s net profit) does not increase his wealth, and Success Co. is out of his estate.

4. Real estate. Joe sold one of the couple’s private properties, and kept the main residence and a summer home. All nine of Joe and Mary’s investment properties were already held in limited liability companies (LLCs) owned by Joe. We transferred Joe’s interest in these LLCs to a second FLIP and then sold the limited FLIP interests to a separate IDT. As a result of these moves, the combined value of all of the properties was discounted by about $6.5 million, saving about $2.6 million in estate taxes. Plus, the anticipated increase in the value of the real estate is out of their estate.

Finally, Joe and Mary’s original estate plan included a $4 million whole life policy on Joe held by an ILIT. We used the cash surrender value of this policy to buy $6.5 million of second-to-die insurance on both Joe and Mary, at the same premium. This resulted in an increase of $2.5 million in tax-free wealth without any additional cost.

By now you get the idea. Almost 100 percent of the time, a lifetime strategy can be used to
1) increase the value (usually tax-free) of each asset or 2) reduce that asset’s potential estate-tax liability. If you already have an estate plan in place, revisit it and investigate how a lifetime plan can increase the wealth you leave to your family.