TRUST AND ESTATE PLANNING WITH LIFE INSURANCE

First Run Broadcast: September 7, 2017

Live Replay: July 2, 2018

1:00 p.m. E.T./12:00 p.m. C.T./11:00 a.m. M.T./10:00 a.m. P.T. (60 minutes)

Life insurance trusts are platforms to transfer wealth among generations of a family on a tax-

favored basis. These trusts also have the substantial benefit of providing liquidity, which is often

lacking when family business interests, real estate or other illiquid property is transferred. The

keys to the effectiveness of these trusts are choosing the right type of trust and insurance policy

drafting the trust instrument’s “Crummey” powers to permit the payment of premiums, and

assigning a value and defining terms to avoid IRS scrutiny and challenge. When these inherent

intricacies are not carefully planned and drafted, the trusts are easily subject to challenge and

defeat. This program will provide you with a practical guide to structuring and drafting life

insurance trusts.

• Planning with life insurance trusts to transfer wealth, fund death taxes, and provide

liquidity

• Types of life insurance trusts, including single-life and second death trusts

• Intricacies and traps of drafting the underlying trust and choosing the right policy

• Understanding the relationship of “Crummey” powers to pay ongoing insurance

premiums

• Generation Skipping planning for life insurance trusts

• Tradeoffs of financial and tax benefits versus control in insurance trusts

Speakers:

Daniel L. Daniels is a partner in the Greenwich, Connecticut office of Wiggin and Dana, LLP,

where his practice focuses on representing business owners, corporate executives and other

wealthy individuals and their families. A Fellow of the American College of Trust and Estate

Counsel, he is listed in “The Best Lawyers in America,” and has been named by “Worth”

magazine as one of the Top 100 Lawyers in the United States representing affluent individuals.

Mr. Daniels is co-author of a monthly column in “Trusts and Estates” magazine. Mr. Daniels

received his A.B., summa cum laude, from Dartmouth College and received his J.D., with

honors, from Harvard Law School.

VT Bar Association Continuing Legal Education Registration Form

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Trust and Estate Planning with Life Insurance Teleseminar July 2, 2018

1:00PM – 2:00PM 1.0 MCLE GENERAL CREDITS

PAYMENT METHOD:

Check enclosed (made payable to Vermont Bar Association) Amount: _________ Credit Card (American Express, Discover, Visa or Mastercard) Credit Card # _______________________________________ Exp. Date _______________ Cardholder: __________________________________________________________________

VBA Members $75 Non-VBA Members $115

NO REFUNDS AFTER June 25, 2018

Vermont Bar Association

CERTIFICATE OF ATTENDANCE

Please note: This form is for your records in the event you are audited Sponsor: Vermont Bar Association Date: July 2, 2018 Seminar Title: Trust & Estate Planning with Life Insurance Location: Teleseminar - LIVE Credits: 1.0 MCLE General Credit Program Minutes: 60 General Luncheon addresses, business meetings, receptions are not to be included in the computation of credit. This form denotes full attendance. If you arrive late or leave prior to the program ending time, it is your responsibility to adjust CLE hours accordingly.

Estate

Planning with

Life Insurance Daniel L. Daniels

Wiggin & Dana, LLP - Greenwich, Connecticut

(o) 203-363-7665

ddaniels@wiggin.com

© 2015 Wiggin and Dana

What Is Life Insurance

Defined:

– Contract in which insurance company (“Insurer”)

– promises to pay a specified amount (“Face Value”)

– to a designated person (“Beneficiary”)

– upon the death of the insured.

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What Is Life Insurance (cont’d)

• Owner must have an insurable interest in the insured

(avoids gambling)

• Owner has following powers:

– Power to name or change beneficiary

– Right to assign policy

– Right to cash value (if any)

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Uses of Insurance In Estate Planning

• Income replacement for spouse and descendants

• Providing liquidity to pay estate taxes

• Providing liquidity to fund buy-sell agreements

• Equalizing distributions for:

– Business interests (where not all children are in the business)

– Second marriage

• Investment Vehicle

• Cash value for retirement or disability

• Employee benefit

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Types of Life Insurance

• Term

– Pure insurance, no cash value

– Increasing premiums or level premiums

• Whole Life

– Level premiums

– Death benefit guaranteed by Insurer

– Cash value (sometimes dividends)

• Universal Life

– Term insurance plus savings account

– Typically death benefit is not guaranteed

– New guaranteed universal life

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Types of Life Insurance (cont’d)

• Variable Life

– Term insurance plus investment account

• Second to Die

• Split dollar

– Not a type of insurance

– An arrangement where premiums and death benefit are

allocated between two parties

– Typically Employees (employee but sometimes family)

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Tax Consequences of Life Insurance

• Income tax consequences to policy owner

– Policy cash value grows tax-deferred

– Withdrawals up to basis

– Loans above basis

– Possible gain on surrender of policy

• Income tax consequences to Beneficiary

– Proceeds received income tax free

– Exception: transfer for value rule

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Tax Consequences of Life Insurance (cont’d)

• Estate tax consequences

– Subject to estate tax if: • Policy is payable to insured’s estate

• Insured owned any “incidents of ownership” at death

• Ownership of existing policy transferred within three years of insured’s death

– Not subject to estate tax if purchased by Trustee of properly structured life insurance trust

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Life Insurance Trusts

• Lifetime transfer of ownership

• Guaranteed growth on investment

• Well suited for annual exclusion trust

• Tax savings = 40% of insurance proceeds

• Single life or second-to-die

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Life Insurance Trusts: Tips, Tricks and Traps

• Defining the terms “spouse” and “descendants””

• Marital disposition savings clause for 3-year rule

• Trustee disabling clauses

• Trustee removal powers

• Grantor trust status

• Designing the Crummey clause

• GST issues

– To allocate or not to allocate GST exemption?

– Dealing with the automatic allocation rules

– Discretionary grant of general power of

appointment

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Adult and minor beneficiaries had a withdrawal right over an irrevocable trust in the amount of the annual exclusion

• Power would lapse at the end of the year if not exercised

IRS challenged the applicability of the annual exclusion for the minors’ withdrawal rights since legal guardians had not been appointed to exercise the right on behalf of the minors

Taxpayer prevailed

Crummey v. Commissioner

Crummey Powers

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Presently exercisable withdrawal power over the principal of a trust

Limited in amount

Limited in time

What is a Crummey Power?

Crummey Powers

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Give notice to the beneficiaries so that the withdrawal right is not “illusory”

Notice conveys to the beneficiary:

• That a gift has been made

• That the beneficiary has a withdrawal right over the gift

Review of Best Practices: Notice

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Knowledge versus written notice

• Powerholder needs to have a “reasonable opportunity” to

exercise the withdrawal right

• Knowledge of the gift and its associated withdrawal right is

likely sufficient, but the safer option is to provide written notice

Review of Best Practices: Notice

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Waiver of notice

• Based on the IRS’ “reasonable opportunity” position, a

beneficiary should be able to waive notice of a withdrawal right

o However, the IRS Office of the Chief Counsel has taken the

position that waiver of notice defeats the present interest

requirement, so it is probably best to continue providing

notice

Review of Best Practices: Notice

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Length of withdrawal period

• What length of time gives a beneficiary a “reasonable

opportunity” to exercise withdrawal power?

Gifts made late in the year

• Implication for gift tax

• Implication for lapsed power

Review of Best Practices: Timing

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Outline notice procedure

Give donor the power to limit withdrawal right

Drafting Considerations: What to Include

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Section 678 of the Code

• “A person other than the grantor shall be treated as the owner

of any portion of a trust with respect to which: (1) such person

has a power exercisable solely by himself to vest the corpus or

the income therefrom in himself, or (2) such person has

previously partially released or otherwise modified such a

power and after the release or modification retains such control

as would, within the principles of sections 671 to 677, inclusive,

subject to grantor of a trust to treatment as the owner thereof.”

Income Tax Consequences for the Crummey

Powerholder

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Even though the Crummey powerholder is treated as the owner of a proportionate share of the trust under Section 678, that ownership will be disregarded if the grantor holds a power under Sections 673-677 over that same income

• If that is the case, the grantor will be taxed on all trust income

Income Tax Consequences for the Crummey

Powerholder

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Any property subject to a decedent’s unlapsed power will be includible in her gross estate for estate tax purposes

Creation of a retained interest for any taxable lapse

• Results in partial inclusion of the trust property in the

decedent’s gross estate

Estate Tax Consequences for the Crummey

Powerholder

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Crummey power is a general power of appointment

Letting the power lapse would be a transfer to the other beneficiaries of the trust

• Since the other beneficiaries have no withdrawal power of

lapsed amount, it is a future interest gift, so it does not qualify

for the annual exclusion

Gift Tax Consequences on the Crummey

Powerholder

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Section 2514(e) of the Code creates a carve-out:

• The lapse of a Crummey power is not deemed to be the

release of a general power of appointment if the property

subject to the power does not exceed the greater of:

o $5,000

o 5% of the aggregate value of the trust corpus

Gift Tax Consequences on the Crummey

Powerholder: 5 and 5 Carve Out

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Arises when the annual exclusion amount exceeds the 5 and 5 amount

• Withdrawal right is equal to the annual exclusion amount

• The amount that lapses each year is equal to the 5 and 5

amount

• Creates a “hanging” right of withdraw with respect to amounts

in excess of the 5 and 5 amount

Gift Tax Consequences on the Crummey

Powerholder: Hanging Crummey

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How hanging powers go away

• 5 and 5 amount will eventually be exhausted if the donor does

not continue making gifts to the trust

• If the trust corpus continues to grow, 5% of its aggregate value

will eventually wipe away the hanging power

Gift Tax Consequences on the Crummey

Powerholder: Hanging Crummey

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Gift Tax Consequences on the Crummey

Powerholder: Hanging Crummey

Crummey Powers

Year Gift Withdrawal

Right

5 and 5

Amount

Hanging

Power

2017 $75,000 $14,000 $5,000 $9,000

2018 $75,000 $14,000 $7,500 $15,500

2019 $75,000 $14,000 $11,250 $18,250

2020 $75,000 $14,000 $15,000 $17,250

2021 $75,000 $14,000 $18,750 $12,500

2022 $75,000 $14,000 $22,500 $4,000

2023 $75,000 $14,000 $26,250

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Fixing improperly drafted or administered Crummey trusts

Gifts to multiple trusts

Payment of life insurance premiums

Transfers of illiquid assets

Common Issues and Questions

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Section 2642: the GST annual exclusion only applies to transfers in trust if the trust is structured so that:

– Only the skip person for whom the transfer is made is

permitted to receive distributions from the trust during his

or her lifetime

– The trust will be includable in the skip person’s estate if it

does not terminate prior to the time her or she dies

Generation Skipping Transfer Tax

Considerations

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Daniel L. Daniels is a partner in Wiggin and Dana's Private Client Services Department. He focuses his practice representing entrepreneurs, private equity and hedge fund founders, family offices, corporate executives and other wealthy individuals and their families. He is a Fellow of the American College of Trust and Estate Counsel and listed in the Best Lawyers in America. Dan received his B.A., summa cum laude from Dartmouth and his J.D. cum laude from Harvard Law School. ddaniels@wiggin.com 203-363-7665

Daniel L. Daniels

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Wiggin and Dana LLP is a full-service law firm of approximately 140 lawyers with offices in Connecticut, New York, Philadelphia, Washington, DC and Palm Beach. Since its founding in 1934, the Firm has served the legal needs of entrepreneurs, corporate executives and other wealthy individuals and their families, as well as charitable and educational institutions, emerging companies, middle market business organizations and Fortune 500 corporations.

Wiggin and Dana

Crummey Powers