Saving Estate Taxes with Trust and Life Insurance Policy
Posted June 25, 2012on:
A business owner came to me for help in untangling a “dynasty trust” he has regretted setting up.
I sat down with him for a discovery meeting.
Now I am no expert in trust law and estate tax matters.
Still, after asking a few pointed questions, I found the trust arrangement problematic.
Here is a record of the question and answer session I held with him.
Q: Why did you want to set up this “dynasty trust”?
A: The attorney (referred by an insurance agent) told me I don’t have to pay estate taxes, my children won’t pay estate taxes, and their children also won’t pay estate taxes.
Q: What is your total net worth?
A: About $4 million.
Q: How will you fund the trust?
A: I will fund the trust with a permanent life insurance policy. First-year premium of the insurance policy is $250k, so I am taking out a home equity line of credit to pay for that. After that, it’s about $25k a year.
Let me explain why I think this is problematic: The current federal estate tax exemption is $5mm, well over the $4mm net worth this business owner has. Why set up a complicated irrevocable trust to save a tax from which you are exempt anyway?!
Granted the state estate tax exemption is lower. Using a much simpler A/B trust and annual gifting to heirs, this businessman could substantially reduce his state estate tax liability.
Why worry about your children’s and grandchildren’s estate taxes? Tax law changes every other year; who knows what the tax law will look like when they die. Why create a document that will be defunct anyway?
Note that this simpler and more sensible approach to estate planning does not involve an expensive life insurance policy. No wonder he was not even told such an option existed.
Boston Law School Professor Ray Madoff recently commented about dynasty trusts: “Bankers are using these trusts as a decoy to line their own pockets.” In this businessman’s case, those who benefit from his trust will not be his heirs, but the insurance agent, the lawyer, and the mortgage banker.
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