While annuities can be used to provide supplemental income for your clients, we also use annuities in our clients' estate planning, which has developed into one of our specialties.
How do we incorporate variable annuities into our plan, Eight Steps to Zero Estate Taxes and Asset Protection? Step 1 is "maximize your living trust."
By that we mean to make the most of the A-B trust arrangement that has become common in estate planning. That is, a B trust, sometimes called a family trust or bypass trust or credit shelter trust, is created to receive the unified exemption amount at the client's death. In 2000 and 2001, up to $675,000 worth of assets can pass to the next generation through this B trust, free of estate tax.
This trust becomes irrevocable when it's funded. Subsequently, no matter how big this trust grows–to $2 million, $3 million, $6 million or more–it will continue to be exempt from estate tax.
Therefore, your clients will want this B trust to be a growth trust, funded with the most outstanding growth assets available in America.
Assets left in this B trust receive a stepped-up cost basis at the owner's death. That is, these assets can be sold and no capital gains tax will be due. Then the full proceeds can be reinvested in equities, for future growth.
In the meantime, the surviving spouse can live off the A trust, or marital trust, which also escapes estate tax. We call the A trust the shrinking trust because the family will be well served if the surviving spouse spends down this trust while allowing the B trust to grow.
Now, here is where variable annuities come into play. Because our plan calls for the B trust to grow, untouched, we want to make sure the A trust provides a source of income that the surviving spouse can never outlive. This, of course, is the variable annuity, either in its growth stage or the annuitization stage.
Therefore, when we start estate planning for a client, we look for assets we can use to buy variable annuities: mutual funds, securities, money market funds, CDs, etc. We aim to place anywhere from $100,000 to $500,000 in two to four of the annuities in our portfolio, with the idea that those annuities eventually will go into the A trust, where they will remain.
In addition, we sometimes will recommend a variable annuity for a portion of a client's IRA. We do so because of the principal guarantees at death for both spouses and perhaps for living benefits as well, depending upon current market conditions and the client's risk tolerance.
Our entire practice is based upon estate planning. In fact, we charge new clients an up-front fee for an estate plan.
With this emphasis on estate planning, annuities are very important to our firm. Variable annuities held in the A trust, as described above, can give the surviving spouse an immediate source of income. As you all know, an estate planning case may take as long as six months from the scheduled date of the medical exam to the date the trust documents are finished and the life insurance is finally placed.
With the surviving spouse provided for by the annuities in the A trust, we can focus our efforts on "super-charging" the B trust, maximizing the amount that can be passed on to succeeding generations, tax-free.
It's true that annuities might pose estate planning problems because they don't receive a stepped-up basis at death. We may plan around this by having clients select the guaranteed income option for their children, which is irrevocable. Thus, the deferred income tax will not be due at the client's death, but will be spread out over the child's life expectancy.
