Assignment 7: Life Insurance, Annuities, Qualified Plan Interests, and Bequests Flashcards
(57 cards)
1
Q
Legacy gift statistics
A
Of those with legacy gifts:
- Bequests: 68%
- Retirement plan beneficiary: 29.7%
- Insurance policy beneficiary: 18.5%
- Charitable trust: 18.5%
- DAF: 15.6%
- Charitable gift annuity: 13.8%
2
Q
Comparing Largest Gifts
A
Donor’s largest planned gift by type/mean value of gift/median value of gift
Bequest: 54.3%/$811,535 mean/$225,000 median
Retirement plan: 17.3%/$803,985 mean/$375,000 median
Charitable trust: $12%/$3,126,829 mean/$500,000 median
CGA: 8.9%/$426,250 mean/$100,000 median
Insurance policy: 5.3%/$345,000 mean/$100,000 median
Retained life estate: 2.2%/$820,000 mean/$550,000 median
3
Q
Nonqualified Deferred Annuities
A
- Commercial contract from an insurance company
- Funded with after-tax money (creates basis)
- Funds grow tax-deferred in a fixed account, or in a combination of fixed and variable accounts
- Money withdrawn comes out “worst-first”; all gain is treated as ordinary income
- Surrender charges may apply
- IRS penalities apply to early withdrawals prior to 59 1/2
4
Q
LIfetime Gifts of Deferred Annuities
A
- Annuity purchased post-April 22, 1987
- Taxable gain upon gift is value above basis
- Deduction is for total value
- Net result is a deduction for basis
If purchased BEFORE April 22, 1987, a potential tax trap exists
- Based on a private letter ruling, if the charity surrenders the contract more than one year after the donor’s gift:
- Donor gets deduction for basis in year of gift
- Donor is taxed on full gain in the year the charity surrenders the contract
Not the best asset to give during life
*Deduction is generally limited to basis
*A client or donor is likely to have more appropriate assets to give during their lifetime
Good gift at death
5
Q
“Deathtime” Transfer
A
- A deferred annuity can pass at death to a charity via the beneficiary designation
- Money goes free to income tax and free of any estate tax
- Donor gives up nothing during life
- Can be an attractive substitute for a gift that might otherwise be made by a bequest in a will
6
Q
IRAs and Qualified Plan Interests
A
- Individual Retirement Accounts (IRAs) allow an individual to save money for retirement with tax-free growth or on a tax-deferred basis
- $9.8 trillion in assets as of June 2019 (1/3 of the US retirement market of $30 trillion
- Estimated 46.4M households or 36% own IRAs
7
Q
SECURE ACT
A
Setting Every Community Up for Retirement Enhancement Act 12/20/2019
- Turn 70 1/2 in 2019 or earlier you are unaffected
- Turn 70 1/2 in 2020 or later will not need to take the RMD (required minimum distribution) until they reach 72
- RMDs increase IRA-holder’s total taxable income and can push him/her to a higher tax bracket and limit or eliminate some deductions
8
Q
SECURE ACT - 10 year rule
A
- Before passage of Secure Act, inherited retirement accounts could “stretch” the distributions and tax payments over time
- Under the new law, those who inherit IRAs from original owners who died on or after 1/1/20 must withdraw all assets from inherited IRAS within 10 years following death of original account holder
- Exceptions: Spouse, minor child, disabled or chronically ill beneficiary, beneficiaries fewer than 10 years younger than the original retirement fund holder
9
Q
CARES Act and IRAs
A
Coronovirus Aid, Relief, Economic, and Security Act
- RMDs are suspended for the calendar year 2020, allowing further income tax deferral until 2021
10
Q
Charitable IRA Rollover
A
- Donors that are 70 1/2 or older can donate up to $100,000 per year to qualified charities
- Qualified Charitable Deduction (QCDs) allows donors to fulfill their required minimum distributions (RMDs) through a direct transfer to charity from the IRA administrator
- Amount of the QCD is not included in the donor’s AGI
- Donor does not, however, receive a charitable income tax deduction
11
Q
Must go to a Public Charity
A
- Transfer must be from IRA to a public charity for charitable purposes–not to:
- DAF
- PF
- SO (supporting org)
- Charitable remainder trust
- CGA
- Donor cannot receive any benefit from the transfer–he/she cannot, for example, purchase something at a charity auction, tickets for a charity golf tournament, or use the money for charity gala sponsorship
12
Q
Best for?
A
- Donors who are required to take an RMD but do not need the funds, and who would have higher tax liabilities if they did take the distribution
- Make annual gifts already and prefer to use RMD instead of cash
- Reduce balance in IRA–lower future RMDs
13
Q
IRD–Income in Respect of a Decedent
A
- A person acquiring decedent’s property normally takes a basis in the property equal to the FMV at the date of death (stepped-up basis)
- Exception: INCOME IN RESPECT OF A DECEDENT
- IRD is income that would have been taxable to the decedent, had the individual lived to receive it
- IRD assets are generally subject to income and estate tax
- In illustration–donor has $100,000 CD and $100,000 IRA: which is best to give to charity and which is best to leave heirs? CD to charity–>IRA to heirs ($100,000 received by charity, $100,000 received by heirs with no income tax due) IRA is taxed as IRD; CD not taxed as IRD because tax wouldn’t be due during their life
14
Q
Retirement Accounts
A
- Gain inside an IRA, 401(k), or other qualified plan interest or deferred annuity received by an estate or other beneficiary is taxable as IRD
- income tax on distribution
- estate tax–plan’s value is included in decedent’s taxable estate
15
Q
Life Insurance and IRA
A
- Designate a charity as the beneficiary of the IRA
- Use the income from the IRA to fund life insurance payable to heirs (or a trust)
- Money withdrawn from the IRA is taxable
- At death, the heirs receive tax-free death benefits, and the balance of the qualified plan passes to the charity tax-free as well
16
Q
CRUT and IRA
A
- Create a testamentary CRUT
- Designate the CRUT as the beneficiary of the IRA; CRUT is not subject to tax, income tax generated by IRD is eliminated
- Heirs as income beneficiaries of CRUT–allows children to receive funds beyond the 10-year rule (life or term or years) Similar to a stretch IRA+
17
Q
Life Insurance Basics
A
- Death benefit is income-tax free
- Any cash value grows tax-deferred
- Primary purpose is to protect against loss–the loss of the human life and its earning (and giving) power
- Creates liquidity when needed most–to pay taxes, retire debts, make gifts, or replace gifted assets
18
Q
Factors in Insurance
A
- Premiums
- Expenses (commissions/administration)
- Mortality cost (rise every year/can be managed, in part, through underwriting)
- Investment return (policies can be written to have cash value)
19
Q
Parties to the contract
A
- Insured (or two insureds, with a second-to-die policy)
- Applicant
- Owner
- Premium payer
- Beneficiary or beneficiaries
20
Q
Insurable Interest
A
- Can a mobster buy insurance on a homeless person, who soon turns up dead?
- Insurable interest: exists when a person derives a significant benefit–personal or financial–from the continued existence of an individual or an entity
- Laws in each state regulate what counts as an insurable interest (love–spouse/parent; financial interest–partners in business; bank with debtor, or charities with donors in most states)
21
Q
Extent of Insurable Interest
A
“We don’t want you worth more dead than alive” is the general rule of financial underwriting
- Each company decides how much insurance it is willing to offer
- Each company checks to see how much total insurance is in force on any life they’re considering to insure
- Companies differ on how much insurance they will issue, when a charity applies for a policy of which the charity will be both the owner and the beneficiary
22
Q
Best prospects when soliciting gift of insurance
A
- Tend to be 25-55
- Faithful givers, but not huge givers
- Want to make a big, ultimate gift from relatively small annual premiums (1-4 premiums–or not more than 5)
- Keep the program very simple (honor those who complete their premium schedule–Legacy Society)
23
Q
Logistics w/ gift of insurance program
A
- a good agent is not going to want to travel all over town on random calls
- consider how you can peg the solicitation to an event (i.e. class reunion) where prospects can be educated, motivated and solicited efficiently
24
Q
Guaranteed Issue
A
- Some carriers offer guaranteed issue (no underwriting, simplified issue with very little underwriting)
- Trade-off is that the cost is higher for such a policy than for a policy in which client goes successfully through the underwriting process
25
License
- to "ask" for cash and an application requires an insurance license
- how far an unlicensed gift planner can go is not clear--safest to do no more than determine the donor's interest in making a gift and in talking to a life insurance professional
26
Gift of Insurance--the Process
- One agent? Many? From how many companies? How will you vet them?
- Do not assume that a life insurance policy is a "set it and forget it" product
- Recognize that servicing an insurance policy is like servicing your furnace: it should be done every year or just about
- Relationships with one or more reliable agents can be a critical success factor
27
Ways life insurance can be given
| Own the insurance--Charity beneficiary
1. Donor owns the insurance, designates charity the beneficiary
- charity receives face amount at death
- donor can make significant contributions without substantial out of pocket costs
- policy proceeds are not part of probate process
- death benefit paid to the charity will not be subject to taxation
- cash value, if any, grows inside the policy, tax-deferred
- This is not a completed transfer; no current tax deduction will be allowed
- Donor still controls the policy and has access to its cash value
- Can name one or more charities; these can be the beneficiaries for all or some of the death benefit
- Can change beneficiaries at any time
- Still no charitable deduction if donor owns policy and charity is named as irrevocable beneficiary
28
Group Term Life Insurance
- Group term life insurance paid for by an employer is not taxable to the employee up to a face amount up to $50,000
- Above $50,000, the employee must pay tax on what the IRS considers is the implicit premium
- By assigning the excess death benefit to charity, the donor can eliminate the federal income tax liability on the amount otherwise taxable
29
Policy in Premium-Paying Mode
Valuation: The gift value is the lesser of the interpolated terminal reserve (cash value + unearned premiums - loans) or the donor's adjusted basis
Example:
- Donor pays $5,000 a year for three years. Cash value is $10,000. Value for the gift is the lower number, i.e. the cash value of $10,000
- Donor pays $5,000 a year for 10 years. Cash value is $65,000. Deduction is the lower number, the basis ($5,000 x 10 years) of $50,000
30
Paid-up policy
Valuation: Deduction is the lesser of the adjusted cost basis or the policy's replacement cost
Example:
- Donor pays $5,000 annually for an insurance policy for 20 years. Basis is $100,000. Replacement cost is, say, $125,000. Deduction is for the lesser amount, $100,000.
31
Policy with Loan
- If the policy has a loan against it, it will produce income to the client as a "bargain sale"
- Worse, the loan may entirely eliminate the deduction because it may be considered a private benefit transaction under the charitable reverse split dollar legislation
32
Appraisal
- If a policy's value is greater than $5,000, then a qualified appraisal from a qualified appraiser is required on Form 8283
- The Pension Protection Act of 2006 specifically excludes the following from being a qualified appraiser: the donor, the donee, any related party of party to the transaction, e.g. the insurance agent/broker and the insurance company that will hold the policy
33
New Policy for Charity
- the donor writes a check to the charity
- the charity purchases the policy, naming itself the beneficiary
- all initial payments and subsequent premium payments by the donor to the policy owned by the charity should qualify for an income tax charitable deduction
Planning tip: When a donor wishes to contribute to a policy owned by a charity instead of giving cash to pay the premium, consider using long-term capital gain property for the gift...allows the donor to get the deduction for the FMV of the property given, and avoid tax on the capital gain
34
Gift Acceptance Policies
- charity should have a section in its gift acceptance policies for gifts of insurance
- charity should bear in mind that not all insurance companies are equally strong
- agent can provide company ratings
- which level of company is acceptable?
35
Using Up Donor's Insurable Interest
- Charities accepting policies, or otherwise becoming beneficiaries, should recognize that a given donor can buy only so much insurance
- Before using up his or her insurance capacity, the donor should also consider his/her own total insurance needs for both personal and business purposes
36
Gift counting
- Should the donor receive credit by the charity for the face amount of the policy, or for only the value of the policy today?
- Charities differ on this
- Refer to guide on how to count deferred gifts, including insurance in Partnership for Philanthropic Planning: Guidelines for Reporting and Counting Charitable Gifts
37
Recommended Gift Counting
Three buckets:
- Cash and equivalents reported
- Deferred contingent gifts
- Deferred irrevocable gifts
Life insurance face amount would be credited to deferred contingent (unless all premiums paid up)
- $1M new policy in premium-paying mode would count as a $1M gift for the campaign, but would not be lumped together with gifts of cash and cash equivalents
- Same reporting bucket as bequests
38
Policy Management: A Long-Term Proposition
- Permanent insurance may take 5-10 years to "break event" (i.e. cash value to be larger than the total cost of the premiums paid)
- A policy is a poor investment if it lapses within the first few years
- For charities, it is important that the donor be committed to paying future premiums if these are required
- If donor does not or cannot pay the premiums, then will the charity pay?
39
Policy Review
- policy illustrations for permanent products are not to be relied on as predictions; poor guide to ultimate cost
- Insurance company will guarantee certain factors; other factors will vary, often dramatically
- policies should be accepted and managed with care
- annual policy reviews are recommended
- get up-to-date, "in force" illustrations periodically. Is the policy performing as anticipated?
If policy is not performing as anticipated...recognize that policy replacement may not be the answer. Illustrations are not the product
- New policy may illustrate well
- New policy will generate a new commission for the agent
- But will it outperform the old one? No one knows for sure--it's a gamble
40
Cash in?
Permanent insurance can be cashed in, but
- Be aware of surrender charges
- Be aware of violating donor intent
- Be aware that insurance gets better as it goes along; the payoff is long-term
41
Selling Insurance Policies
"Life settlements" or "viaticals"--an emerging and growing market for selling in-force policies for older insureds who are in poor health, but not on the verge of death
This may be a good deal for the charity but can seem macabre
42
Filing Death Claims
- Insurance companies do not automatically send the check when someone dies
- The beneficiary must file a death claim
- To determine whether a donor has died, you maybe have to query the Social Security death index, or use a service that does so
43
Life Insurance as an Asset Class
- Life insurance has certain unique characteristics and can be considered as an asset class for diversification, i.e. endowments purchasing insurance
44
Insurance as gift in a capital transfer plan
Consider the Wallace's gift of an endowed chair to the American College...
Funded CRT with a beach house--> use the cash flow from the CRT plus insurance to seal the deal with the college-->gift agreement was rewritten often to meet the changing financial needs of the Wallace's, but the vision and ultimate price tag remained the same. **Insurance owned by the donor is a flexible asset. Wallace's eventually paid their obligation to the college early and could use life insurance for heirs
45
Bequests--Largest Part of Planned Gifts
Simple gift
| 80% of planned gifts come in the form of bequests
46
Family Status Greatest Predictor (Russell James)
Of those saying they have an estate plan:
Married, no children--50% report having a bequest
Unmarried, no children--27%
Children--14%
Grandchildren--7%
47
Education also a predictor (Russell James)
As of 2012, donors age 55+ who have a trust or will and who say they have a charitable bequest in place, reflected these levels of education:
- Grad school 14%
- College graduates 8%
- Some college 5%
- High school 3%
- No high school 2%
48
Wealth Predicts Bequest Planning (Russell James)
Higher level of wealth = higher likelihood of planned gift
Donors are less likely to name a nonprofit beneficiary if their total assets were less than $250,000 (Giving USA Leaving a Legacy study)
49
Age and Stage (Russell James)
- Majority of all charitable bequest dollars came from donors dying at 80 or older
- Most realized charitable planning is completed near death
- This demographic are not being stewarded as they should
50
Mind of the Bequest Donor (Russell James)
(2006 data) Only 9.4% of people over 50 have any charitable element in their estate plan
- donors tend to set up or make bequests at older ages, but may change them several times before death
- donors may not tell the charities they plan to help about the initial bequest intention, may not follow through with their lawyer, or may not tell a charity the will is changed
- Only at death, is it sometimes discovered that the will was never done or no will is found and that assets are all gone
51
Bequests Increase Annual Giving
When donor adds a bequest, annual giving goes up almost 80% (Russell James)
52
Bequests and beneficiary designations
Although 80% of planned gifts are bequests, life insurance or IRA beneficiary designations in the age of metrics is very hard to know when and how a gift planner should "take credit" for a testamentary arrangement--those coming in now were "booked" years ago and those you "book now" may not materialize
53
Bequest language
Examples of basic recommended language:
Specific: "I hereby give, devise and bequeath _____ and no/100 dollars to ____, a nonprofit organization located at _______. Federal Tax ID # ______ for ______'s general use and purpose."
Percentage: "I hereby give, devise and bequeath _______ percent (__%) of my total estate, determined as of the date of my death, to _____, a nonprofit organization located at _______. Federal Tax ID # ______ for ______'s general use and purpose."
54
Bequests: Residual & Contingent
Residual: "I hereby give, devise and bequeath to ____, a nonprofit organization located at _______. Federal Tax ID #, ALL OR A PERCENTAGE of the rest, residue and remainder of my estate to be used for ______'s general use and purpose."
Contingent: "If (primary beneficiary) does not survive me, then I hereby give, devise and bequeath to ____, a nonprofit organization located at _______. Federal Tax ID # ______, DESCRIPTION OF PROPERTY to be used for ______'s general use and purpose."
55
Unrestricted vs. Restricted Gifts
Unrestricted: Allows charity to determine how the funds will be used to help achieve their charitable purpose--e.g. for overhead or for programs
Restricted: Donor restricts how funds are used; perhaps in perpetuity. Be sure to consult with the charity to align donor and charity's objectives and goals
56
What if charity will not accept?
- Don't surprise the charity at death with a gift they cannot accept or use for the charity's intended purpose
- Have donors negotiate gift agreements, or at least a memo of understanding; then the will can direct that the money be used as the gift agreement or memo states
57
Impossible or Impractical
Cy pres doctrine: "as near as possible"
- If it becomes unlawful, impossible or impracticable to carry out the purpose
- Things change; perpetual restrictions are for a long time
- Charities generally want language in the gift agreement to allow for flexibility
