Life insurance premium financing Adding a borrowing strategy to your estate plans can protect your heirs in the future—and your financial position today For the executors of your estate, paying the death taxes due may precipitate a liquidity crisis—forcing an untimely sale of assets that would otherwise be inherited by your intended beneficiaries, or resulting in other undesired outcomes. A WAY TO PLAN FOR ESTATE TAXES One way to protect future heirs is to insure your life so that, at your passing, estate taxes can be paid with the proceeds from a highvalue life insurance policy. Typically, in such arrangements, the policy is held separate from the rest of the estate, in a trust.1 An insurance policy can directly benefit your heirs and other beneficiaries. The proceeds of the policy can be used to: This approach has the added benefit of being tax efficient: The funds that the trust borrows to pay the annual premiums and interest expenses generally are available free of gift taxes. MANY WAYS TO POTENTIALLY BENEFIT • Cover estate taxes and thereby avoid liquidating assets or disrupting an investment portfolio Financing the cost of a high-value insurance policy can benefit you and ultimately your estate in many ways, now and in the future, by allowing you to: • Retain control of significant or illiquid assets, such as a concentrated stock position • Maximize insurance coverage without adversely affecting your current cash flow (or lifestyle) • Provide funds to sustain a business WHY BORROW? Not surprisingly, putting such protection in place comes at a significant cost, in the form of 1 annual policy premiums. As a result, many clients elect to finance those costs with a loan collateralized by the cash surrender value of the policy, in addition to marketable securities. • Avoid having to sell assets—and potentially triggering a taxable event— to cover the cost of the premiums • Gain access to liquidity at an interest rate that is often less expensive than a “policy loan” A “carry” opportunity may exist as well: If the interest rate charged on the loan is lower than the rate of return earned on the cash value of the policy, there may be potential appreciation. CONSIDERATIONS There are risks inherent in any borrowing strategy. These include interest rate fluctuation, market volatility and the possibility of collateral shortfall, which may lead to a margin call. Before deciding whether to finance the acquisition of high-value life insurance by borrowing, we encourage you to discuss your objectives with your team as well as with your legal and tax advisors. • Allow investments within the policy to grow free of income taxes Trust should be trusteed with an independent, non-subordinated party to avoid exposure to insurance contract indirect “incidences of ownership” rules set forth under IRS Sec. 2042. LIFE INSURANCE PREMIUM FINANCING 2 How it works Premium financing can help you maximize wealth passed to your heirs. Bank advances the funds to the trust to cover the annual insurance premiums and interest on the loan. You Collateral (and Guarantee) #BOL Beneficiaries Pursuant to the terms of the trust, the assets, less the loan repayment amount, are distributed to your beneficiaries free of estate and income taxes. Loan Premiums Trust Collateral Assignment In the early years of the policy, before the policy’s cash value accrues, you pledge additional collateral to support the loan. Life Insurance Contract Life Insurance Company Trust repays the loan as the cash value accrues, or you repay with personal assets.2 LOAN STRUCTURE General guidelines for eligible clients BORROWER • Typically, an Irrevocable Life Insurance Trust (ILIT) GUARANTOR • May be required (typically, the insured or grantor of the ILIT)3 FACILITY TYPE AND TENOR • Line of credit with maturities up to five years • Interest-only loan—principal due at maturity4 COLLATERAL • Loans are secured by the guaranteed net cash surrender value of the policy; additional liquid assets pledged as required3 • Premium financing can be used with Whole Life, Universal Life or Indexed Universal Life policies with a guaranteed net cash surrender value of at least $500,000 • Requires the insurance carrier you select to have an S&P or Moody’s claims-paying rating of “A” or better LENDING VALUES • Loan-to-value ratio of up to 95% is available and is based on the guaranteed net cash surrender value of the policy BASE RATE OPTIONS • Daily 1-month LIBOR (variable rate) • Fixed LIBOR for 1-, 2- and 3-month maturities DOCUMENTATION • Financial disclosure is required upon application and over the term of the loan • Loan documents, which may include covenants, prepared by legal counsel at borrower’s expense • Life insurance illustration, including all contemplated riders • Insurance policy or declarations page (if existing policy) Consider tax implications for payments outside the trust. If the insured or grantor posts collateral or provides a guarantee, there may be gift tax implications unless they are paid an arms-length fee for contingent use of their credit. 4 Interest payments are typically made as a taxable gift or capitalization of interest, if available. Borrowers may not be able to deduct interest on the loan, as the proceeds are used to purchase life insurance (Section 264 of the Internal Revenue Code). Clients should consult with their tax advisors for guidance on this matter. 2 3
