The Dangers And Opportunities Of The New Split-Dollar Regulations

Non-Equity Collateral Assignment Plan Applications:

Cross-Purchase BuyoutA non-equity collateral assignment (NECA) plan can use corporate dollars, preferably those subject to accumulated earnings taxation, to fund a cross-purchase buyout between two business owners. The buyout agreement can be made more tax efficient than a standard or trusteed cross purchase plan by having each owner create his or her own family business disposition trust, which would then own the buyout insurance on his or her partner. The irrevocable trust and not the surviving owner is then obligated to purchase the deceased owners stock for the ultimate benefit of family member trust beneficiaries.

This removes the purchased stock from the surviving owners estate and may make him eligible for a minority interest discount if the trust ends up owning 50% or more of the business. The designated trust purchases an increasing death benefit insurance plan and uses the corporate assignee under a non-equity collateral assignment split-dollar plan to pay the premiums. The surviving owner could continue to maintain fiduciary control over the business by being the trustee of his or her respective trust.

Gift tax leveraging occurs since the gift becomes the economic benefit charged as compensation to each owner and not the premium paid by the corporation. If using an increasing death benefit option, the trustee may eventually have sufficient tax-free funds to both fulfill its stock purchase obligation as well as to reimburse the corporation for its assigned collateral, the policy cash surrender values. Non-equity split-dollar plans continue to be taxed only as an economic benefit. The corporation could recycle its interest back to the deceased owners estate as a taxable spousal death benefit.

Another advantage of trust ownership of the deceased owners stock is that the surviving owner retains only a discounted minority interest of 50% or less for estate planning purposes.

Dynasty TrustNECA can create a multimillion-dollar family dynasty trust using corporate accumulated earnings in a way that precludes gift and estate tax consequences.

For example, a $50 million second-to-die legacy life insurance plan for a 50-year-old closely held corporate owner and his 50-year-old spouse could be owned by an irrevocable trust. The trustee may assign the life insurance policys cash values as collateral to the owners corporation. Annual corporate premiums of approximately $316,434 may avoid any accrued accumulated earnings taxation and the premium payments are not taxable income to the insured owner.

Instead, an economic benefit of $270 as calculated using IRS Notice 2001-10 single life mortality tables is charged as W-2 income to the corporate owner. Also, the $270 is the only gift transfer that the insured makes to the family dynasty trust for gift and generation skipping exemption purposes. The insured owner can insulate the trust from any future generation skipping tax (GST) consequences by allocating a portion of his 2004 $1.5 million GST exemption to each years realized economic benefit on a 709 gift tax return.

There is still a lot of life in properly designed split-dollar applications that have not been affected by tax law changes. Problem solving is the name of the gameits the value you provide your clients. Under the new split-dollar regulations, you can best help your clients by steering them clear of the dangers and pointing out the opportunities.

John S. Budihas, CLU, ChFC, CFP, is a business, estate and trust planning consultant for Hartford Life in Sarasota, Fla. He can be reached at: [email protected].

Reproduced from National Underwriter Life & Health/Financial Services Edition, February 13, 2004. Copyright 2004 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.