Paul L. Caron

Thursday, October 7, 2021

Democrats’ Tax Plan Upends Estate Planning Using Trusts With Life Insurance

Lynnley Browning (Financial Planning), Democrats’ Tax Plan Upends Estate Planning Using Trusts With Life Insurance:

The tax plan taking shape in Congress would strangle a strategy widely used by the wealthy to shield their estates from taxes and pass on major wealth to heirs. Specifically, it would erase the long-standing benefit of keeping life insurance in certain trusts, by making its value subject to the 40% estate tax when the policy owner dies. That’s a huge change: Currently, the trusts and their assets aren’t subject to the levy.

With that prospect, why pour money into a policy now? Because, the thinking goes, pre-paying a lifetime’s worth of annual premiums by Jan. 1, before the new curb would go into effect if approved, could preserve the trust’s lucrative tax benefits. ...

The legislative proposal has upset financial advisors and estate lawyers because it’s common for life insurance to be held in a widely used type of trust called a grantor trust. ... A grantor trust is a type of trust over which the owner, meaning the grantor, retains control and pays income tax on its gains. It comes in many flavors, including intentionally defective grantor trusts, or IDGTs, and grantor retained annuity trusts, or GRATs — all alphabet soup names well known to estate planners for the rich. Advisors say that most irrevocable life insurance trusts, or ILITs, are set up as grantor trusts, so they’d be hit by the curb, too.

The proposal says, in obscure language, that any assets contributed to grantor trusts come 2022 would become part of the grantor’s estate for estate tax purposes. The issue is that under the plan, a policyholder who pays her annual premiums for a policy that’s held in a trust would be “contributing assets,” thus making the trust subject to the 40% estate levy.

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