How to Leverage Life Insurance for Estate Planning Purposes

June 23, 2020

Life Insurance can often be the ideal solution to address taxes payable by the estate of someone who has passed away and provide estate liquidity. However, accessing this insurance later in life, can come at significant costs and individuals may prefer to have their money invested in assets other than an insurance policy.

The Immediate Financing Arrangement (IFA) may be the ideal solution to address estate maximization at a low net cost. The IFA uses an exempt life insurance policy for estate purposes and assigns it to a lender as collateral for a third-party investment loan. The individual now has permanent insurance coverage for estate maximization purposes, and the invested loan proceeds to further enhance the estate.

Although this strategy appears too good to be true, we need to be mindful of two consequences:           

  • the cash flow required to support the structure during the lifetime.
  • the repayment of the loan at the death of the individual.

Perhaps it is easiest to demonstrate how the strategy works with an example:

Assume we have a business owner, aged 60, who has recently restructured his business affairs to ensure his children could continue with the successful business he started. His accountant helped him reorganize his shareholdings using a partial estate freeze. As a result, the accountant suggests that his estate will require at least  $5M to redeem and cancel the preferred shares created by the estate freeze - to pay the taxes due upon his death, plus additional funds for some future growth.

After considering the options (borrow, sell assets, sinking fund, etc.), the business owner decides that life insurance is the ideal solution to address the estate concerns. He would like to keep as much money in the company as possible, which leads to a discussion about front-end leveraging of life insurance and the benefits of the IFA strategy.

Using the IFA strategy the company would make premium deposits of $400,000 for the next 10 years, and fund an exempt participating life insurance policy.

Immediately after the policy is issued the company assigns it to a lender as collateral security and borrows back the $400,000 premium each year for the next 10 years.

The company pays interest on the loan, but gets to deduct the interest the loan proceeds are invested to produce income from business or property. Additionally, the company gets to deduct some of the insurance costs each year.

After 10 years the company owes the bank $4M, and has $4M+ of invested loan proceeds. Assuming they borrow at, say, 3% and can deduct the interest against taxable investment income in the company, and after deducting some of the insurance costs, the company has a net cash outlay of approx. $50,000/yr. The IFA structure has reduced the net cash outlay to create the $5M of estate benefit by 60%.

At death of the insured, the bank is repaid under the collateral assignment. The balance of the proceeds, $5M+, is paid tax free to the company! The total death benefit proceeds less the adjusted cost basis (ACB) create a credit to the capital dividend account. There are always sufficient insurance proceeds to repay the loan and meet the objective of at least $5M of estate proceeds.

Rick Green headshot

“This structure gives the business owner the best of both worlds; a growing death benefit for estate objectives, and the ability to invest the loan proceeds back in the business. With the tax deductions the strategy creates, combined with the CDA credit at death, the ability to efficiently create estate value at a low net cost is unparalleled.”

Rick Green, Wealth Strategist of Sagium Corp.

When considering the suitability of the IFA solution to a business owner’s needs it is of the utmost importance that one receives qualified professional advice, and that the risks associated with leveraging are disclosed and discussed. Likewise, the IFA strategy is best suited to high net worth clients who are subject to taxes at the highest rates, sophisticated investors who are not risk averse, and those who have worked with their professional team to establish clear estate objectives. Even with all of its advantages it is not a “one size fits all” solution and suitability requires sound professional advice. At Sagium we have the expertise to determine if this strategy is right for you, and the capability to work with all the partners necessary to implement it efficiently – reach out to your Wealth Strategist if you want to talk further about an IFA.

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