How to Take Advantage of Low AFRsHow to Take Advantage of Low AFRs
Clients may need to change their split-dollar loan arrangements.
April 17, 2020
While I’m sure you’re advising your clients to use the current low applicable federal rates (AFRs) and making changes to existing loans, there are other opportunities to help your clients take advantage of those low rates.
Recast Split-Dollar Loans
If you have any clients with split-dollar loan arrangements, it may be time to recast the loans already made using the current AFR. Under Treasury Regulations Section 1.7872-15, loans can be made for the life of the insured. Life expectancy is derived from the appropriate table in Treas. Regs. Section 1.72-9. If life expectancy is greater than nine years, the long-term AFR is used. For May, that rate is 1.15%. If life expectancy under the table is nine years or less, even better. Your client can use the mid-term rate of .58% or the short-term rate of .25%, whichever is applicable. If clients were making annual loans, they may want to consolidate those loans for record-keeping purposes. And the long-term rate is lower than the short-term rate for any month in 2019. Better still, if your client does a loan for life, the rate for the new loan will never change. Even if you anticipate the receivable will be paid off in the relative near-term, it still may make sense
Economic Benefit Split-Dollar Plans
If you have any clients with economic benefit split-dollar plans that use an annual renewable term rate to measure the value of the benefit, it may be better for your client to switch to a loan arrangement described above. I’ve found that for clients of most ages, if the receivable is turned into a loan, the loan interest will be less than the taxable term cost. This can be a substantial savings to your clients.
Equity Split-Dollar Arrangement
If any of those old arrangements are equity split-dollar (that is, the premium funder gets back the lesser of: (1) the premiums paid or cash surrender value, (2) or only the premiums) if the client hasn’t reached the equity point, there are no tax consequences to making this change. Even if your client has equity, the savings may still make it worthwhile to pay the tax on the equity and convert to the loan. (Clients may be able to use cash from the policy to pay the taxes.)
