You’re a life insurance agent working in the advanced markets. You know that, after 2025, the federal estate, gift and generation-skipping tax exemptions, but not the gift tax annual exclusion, are scheduled to return to their much lower 2017 levels, indexed for inflation. You also know that the scheduled reduction may not occur, a position taken by many of your clients. With the election looming, it’s time to reach out to clients and start talking about the implications of sunset, or not, on their particular situations.
As always, you’d like to have a highly systematized approach to initiating, preparing for and conducting these discussions with clients and their advisors. Otherwise, you’ll not only risk leaving out key aspects of the discussion, but you’ll also find yourself reinventing the wheel every time you’re going to get ready to have a discussion. How should you begin that systemization?
You figure that the most logical place to start is by identifying the clients you need to reach out to for discussion. You conclude that you’ll reach out to clients who: (1) will be truly impacted by the outcome of sunset because their currently non-taxable estates will become taxable or their non-taxable estates will stay that way; and (2) hold their policies in irrevocable life insurance trusts (ILITs). The ILIT component is important because, no matter which way the sunset breaks, there’ll be gift tax considerations involved in fashioning the planning responses. And those tax considerations could require significant involvement of other advisors, whose time and attention could soon be at a premium.
The next step is to consider how to segment the clients by common fact patterns or analytical tracks so that you can, in a fashion, standardize the process that you and your team will follow as you prepare for the many individual conversations ahead. You’ll create one track for clients who are funding their ILITs with cash gifts and another for those using some sort of financing arrangement. You make a quick decision to limit the scope of “financing arrangement” to private split-dollar, thereby excluding the few cases you have that involve third-party premium financing. It’s not that those cases won’t need attention. It’s just that the clients who use that financing generally have large taxable estates, so sunset would have virtually no impact on their situations. The two-track demarcation will make it easier for you and your team to gather the necessary illustrations, information and documentation on each case, make your observations and outline the range of planning responses for consideration by the clients and their advisors.
Thinking again about the logistics of doing the analyses, you realize that, in every case, you’ll need to do a routine policy review. The condition of the policy could have a lot of bearing on the assessment of the current situation and the range of options for remediation, if needed. And, in any case that involves a split-dollar arrangement, you’ll have to update your most recent review of the plan and any recommendations you made to the client and advisors at that time.
Two other things come to mind. First, you’d better get a handle on each client’s health and insurability, as this too could have some bearing on the assessment of the present situation and the range of options for any needed remediation of the policy or the funding arrangement supporting the policy. Second, note the advisors who should be involved in the planning associated with the case.
Now that you have everything logically segmented, it’s time to get down to business. As always, the challenge is to get some pretty arcane concepts across as clearly and succinctly as possible.
Two Tracks
You envision two tracks for analysis and discussion, one for “2026 – Sunset,” meaning the exemptions are reduced. The other is for “2026 - No Sunset,” meaning they aren’t. You’ll take each client down both tracks so they and their advisors can get the full picture and begin to be ready to move (or sit tight) as the picture becomes clearer.
Under each track, you’ll address: (1) the likely impact of sunset or not on the client’s need for the insurance, (2) the economic and tax implications of continuing to support the policy and, as applicable, the funding arrangement; and (3) any pre-2026 steps in the management of the policy and/or the arrangement that may be necessary to keep everything on track if possible or back on track if that’s the case.
2026 - Sunset
The need for insurance. If the sunset occurs in full as scheduled, life insurance that was put in place to provide estate liquidity will presumably still be needed and then some. The conversation will then likely move on to supporting the policy and, if applicable, the funding arrangement.
Policy funded by cash gifts. Remember, the annual exclusion isn’t going to change. So, if your review indicates that the policy’s on track, the client will stay on board and proceed to the next station. If it’s not, the client might have some annual exclusion capacity remaining to increase the gifts and enough exemption left to transfer income-producing property to the ILIT in 2024 or 2025 so that the ILIT will be able to contribute to the premium with its own money. Clients may also be interested in exploring an exchange to a more efficient policy, perhaps one that will support the death benefit at a lower cash outlay.
Policy funded by split-dollar. If your review of the plan indicates that it’s on track, there may be no need to go beyond a quick plan summary and assessment for the benefit of the client and the advisors. If the plan isn’t on track, then the client can choose to leave it alone and hope for the best, make a gift of cash to the ILIT to shore up the policy or the plan or forgive all or part of the loan. The point is that it could soon be crunch time, meaning that the gift that it will take to get the plan back on track could involve significant out-of-pocket gift tax cost if not made before 2026. In fact, even clients whose plans are on track might consider these same options before 2026 if they could make the plan work even more efficiently. This is one of the main reasons that it’s not too early to start these conversations. You make a note to schedule calls with your favorite advanced planning attorneys to discuss this aspect of the project.
2026 - No Sunset
The need for insurance. If the sunset doesn’t happen, the conversation will almost certainly broaden out, with clients and advisors wanting to revisit the role of the insurance in a plan that may now be under less pressure for liquidity. This will be the most counseling-intensive aspect of the project from the client’s perspective and the most technically challenging aspect of the project from the advisor’s perspective. You’ll need to develop your discussion tracks accordingly.
Policy funded by cash gifts. Imagine yourself sitting across from a client who’s been funding the policy with cash gifts to the ILIT. “For some years now, you’ve been funding a policy that you bought to provide liquidity for an estate that you assumed would always be taxable. That will no longer be the case or, even if the estate will be taxable, you’ll feel the ever-increasing exemptions will allow a still “generous” tax-free transfer of wealth to your children. OK so far?” The client agrees and asks you to continue. “You have some choices, which are largely predicated on how you feel about continuing to put cash into the policy and what role, if any, you believe the policy should play in your plan. For starters, you can stay the course, meaning continue to gift the planned premium to the ILIT to fund the policy. But now, instead of funding the policy to provide liquidity, you’ll be funding it for pure income and estate tax-free wealth transfer. You’ll be able to say to the children, ‘I’m keeping that policy in place to ensure your enviable inheritance, and, with that, I’m announcing the end of any discussions about estate planning.’
“You have more choices. You might think that with the high exemptions now permanently in place (and indexed to grow), there’s no further need to put more cash into the policy. I’m not saying you want to drop the coverage. I’m just saying that you’d want to see how the policy would fare without further premiums but perhaps at a lower face amount. Or maybe you’d be interested in exploring an exchange for another policy that could fare very well for an adequate duration without any additional cash. Or maybe, if both your health and the policy are in a condition that could make the policy a candidate for a life settlement, you might conclude that selling the policy and investing the proceeds inside the ILIT, of course, could appear to be a better alternative than continuing to support it or replacing it. Given the ILIT’s status as a grantor trust, you’d have to be willing to pay any tax on the sale with your money. But you may regard that as an investment and not an expense. There’s a lot to talk about.”
Policy funded by split-dollar. This conversation will certainly be more nuanced. You can well imagine that if there’s no sunset, many clients will want to revisit the whole situation. While those conversations could take any number of twists and turns, one likely area of interest could be how to maintain the coverage while alleviating the economic, tax, and administrative burden of the supporting funding arrangement. In that scenario, you can explore some combination of forgiveness and policy restructuring or even replacement.
A Good Start
This has been a good start, especially because you now realize how much work it’s going to take to gather and synthesize all the information and build your observations and the associated talk tracks. You also feel good because you know that you’ll be meeting your professional obligation to your clients in plenty of time for them to decide how to play the ball that’ll now be in their court.
