By Bill Boersma
What if I told you the tax code relative to estate taxes doesn’t read like you thought it did, and estate taxes were voluntary? That’s ridiculous and clearly the opening to a sales ploy like “The one thing doctors don’t want you to know about.”
But there is a different way of looking at it for some taxpayers. If your net worth is $100 million and $80 million of it is your privately owned company, you’re going to be hard pressed to get out of paying the government a portion of your estate for transfer taxes. You can do lots of planning and have trusts with insurance for liquidity, but you’ll probably end up paying tax.
What if you’re worth the same $100 million but it’s not a company or specific assets you want to get to your heirs? What if it’s simply about asset value? Then a world of opportunity opens up to you.
Assuming no other estate planning, if a couple with a $100 million estate dies, under current law they can protect $30 million. 40% tax on the balance is $28 million leaving $72 million to heirs. Not too shabby and maybe they’re fine with that. If they wanted to cover that tax bill with life insurance, the present value of life insurance premiums for $28 million of guaranteed coverage would be about $5 million to $10 million, depending on ages and present value discount factor. End score… $100 million to heirs and $28 million to IRS.
The next question is what’s going to happen to that $28 million. With a 2025 national budget of $4.663 trillion and 31,536,000 seconds in a year, the government spends $147,863 per second. Every million bucks you leave them funds Washington for less than 7 seconds. The $28 million in this example keep them going for just over three minutes. That’s your contribution.
Looking at things differently
Going back to my opening line, what if I reiterated that the tax code doesn’t say you have to give the government 40% of your taxable estate? What if I told you that what it really says is you have to use 40% of your taxable estate to support the social infrastructure of the country? Hmmm…
What if you left $30 million to heirs and $70 million to charity? Now the government doesn’t get a dollar, but, of course, the heirs get a lot less. First of all, there a plenty of people who are fine with that. After all, “No one gave me a dollar. I built this on my own. $10 million each for the kids is $10 million more than I got.”
In my example, you don’t get to keep all your money, but what if you could control all of it? The charity could be a family foundation. Now the language you put in the foundation allows you to call the shots through your heirs and/or foundation manager. You get to use all of the charitable donation to support the social infrastructure of the country that you feel strongly about.
While allocating $70 million to charity/family foundation may not be appealing to everyone, it presents unique opportunities. The heirs can still get more than the $30 million in the form of income for managing the foundation; steady income derived from managing philanthropic efforts. Not only does this structure foster continued family involvement in charitable activities, but it can also cultivate values of stewardship and responsibility among future generations.
What if I want my cake and eat it to?
Let’s take it one more step. We’ll leave the $30 million to heirs, the rest to charity and replace to the heirs the amount of the charitable contribution. Even for someone worth $100 million, the premiums for $70 million of life insurance is a bit but can make sense. Now I’ll get really “Buzzfeedy” and say, “But we’ll make the government pay for it!”
Here’s what I mean. If we’re talking about an estate where Mom & Dad aren’t dependent on all of it for standard of living, and we know the IRS is going to swoop in at death with their hand out for a good chunk of it, we’re really just paying for the insurance with money the government had a call on anyway, right? Do nothing and they get $28 million. Buy the insurance and they get nothing. The insurance only cost a portion of what they were going to get anyway. Isn’t that a way of saying we got the government to pay for the insurance? We’re spotting the money up front to cut them out on the back end.
Disclaimer: I’m oversimplifying this for purposes of discussion. In reality there are time value of money and opportunity costs to consider and calculations to come up with real numbers. I’m choosing to ignore them today.
Nothing magic about life insurance
Life insurance is a dollars in, dollars out financial transaction with some unique tax characteristics and a specific call option. I’ll tell anyone they can always outperform life insurance, but you have to assure me of a couple things. First, guarantee you’ll live to or beyond life expectancy, and second, that you can ensure a growth rate of return over time. If so, you’ll beat life insurance. However, the face value call option and the tax-free nature of the death benefit make it an attractive part of a diversified portfolio. This piece (Death Benefit as an Asset Class) expands on what I’m saying. While you can beat life insurance as a financial transaction, you can’t duplicate it. On a risk adjusted and tax adjusted basis, life insurance is an unduplicable financial transaction.
In reality, gifting the premium will reduce the ultimate value of your estate by tens of millions, resulting in less estate tax and less insurance need for the plan. The indexing of the estate tax exclusion will help even more. That being said, are you willing to bet a significant portion of your estate on tax laws 30 years from now being what they are today. See this article. (OBBB Flip)
The point is, you can get the kids whatever you want, fund your family foundation for heirs or designated managers to fulfill your vision of social and infrastructure support and leave the IRS out in the cold.
Mexico didn’t pay for the border wall, but you can get the US government to fund their own disinheritment.
Either way, incorporating charity can be very powerful. Let’s say $70 million was left to a family foundation, assets grew at 8% over time and the foundation distributed the required 5%. The foundation would be worth close to $140 million in 25 years, over $265 million in 50 years and about $1 billion in 100 years with $1.75 billion of distributions to what you care about.
Reimagining distribution
In this example, roughly a quarter of the estate is destined for estate taxes, but only a portion of that lost capital is needed to trigger a plan leaving everything to heirs, funding charity at ridiculous levels over time and cutting out the government.
In this example, the “Different Way of Looking at Estate Taxes” is to look at not paying them at all. If you can front some of the money the IRS is going to confiscate anyway, you can disinherit them in favor of heirs and charity. The only thing better than win/win/win is win/win/lose and you can make that happen.
Bill Boersma is a CLU, AEP and LIC and the founder and owner of OC Consulting Group. More information can be found at www.OC-LIC.com, www.BillBoersmaOnLifeInsurance.info or email at bill@oc-lic.com or call at 616-456-1000.
Securities offered through Valmark Securities, Inc. Member FINRA, SIPC. Investment Advisory Services offered through Valmark Advisers, Inc. a SEC Registered InvestmentAdvisor.
OC Consulting Group and its affiliates are separate entities from Valmark Securities, Inc. and Valmark Advisers, Inc.
The information provided has been derived from sources believed to be reliable but is not guaranteed as to accuracy and does not purport to be complete analysis of the material discussed.
This material is for informational purposes only and is not intended to provide specific advice or recommendations for any individual. The information is not intended for use as tax advice. Persons should consult with their own tax advisors for specific tax advice.
