I have been receiving the same type of question from many clients lately. In each instance, the question centers around the activities of the government in spending more money than we have (and printing what it doesn't have!) and what that means for us on an ongoing basis. Every client of mine is aware of the current opportunity to use the five million dollar ($5,000,000.00) per person exemption to do advanced estate planning if the client's situation calls for it, but often in discussions the clients are nervous about whether this high exemption will continue to be in place for the rest of this year and next (currently set to reset to the one million dollar exemption level on 1/1/2013 unless congress acts to change the law before then). In upcoming blog posts we will be looking at some opportunities that high net worth individuals have by using the high exemption for this year, but my response to these clients who are nervous generally is always the same.
That response is that while the government has told us that we have the next two years to use this high exemption, I would not recommend that they wait until the end of 2012 to use the exemption if they need to do advanced planning. This is because it would be easy for the government to change the law for 2012 anytime before that calendar year starts (so think about a "compromise" at the end of this calendar year or anytime before then). If the government does change the exemption levels then people who would otherwise need to use the higher exemptions may not be able to do so if they wait until next year (especially since we do not know if any changes to these exemptions are on the table in any of these debt ceiling discussions). My recommendation to anyone reading this post is that you work with your existing planner NOW to determine if the exemption should be used this year in order to ensure that the planning can be done. When people allow the uncertainty to prevent them from doing the planning that they otherwise need to do, that leads to inaction and ultimately a poor or bad result for one's family. Do not let the media or the politicians convince you that it is sufficient to wait for "certainty" to happen. Create your own certainty by working with competent planners who can advise you on all of the issues that people are facing in today's world.
Wednesday, July 27, 2011
Teaching in the Fall
I'll be teaching Federal Income Taxation in the Fall Semester at Trinity law School. For any students reading this, we'll be going through many of the fundamental code sections that are important in this practice area and focusing on statutory interpretation (as we'll probably spend more time in the Internal Revenue Code than in the casebook). If any Trinity Student has any questions about what will be covered in the class, I will be submitting the syllabus this week and I will be available to discuss if you have further questions.
Wednesday, February 2, 2011
Highlighted Charity for February 2011
This month's featured charity is The Foundation for Hope and Innovation. Their website and other information can be found here:
They are a 501(c)(3) organization that was formed to do cancer research. They are passionate about doing everything that they can to fight this disease and do very good work. As their website states, their mission is:
http://www.foundationofhopeandinnovation.com
"The Foundation of Hope and Innovation is dedicated to cancer research. We strive to improve treatment outcomes of those affected by the disease as well as foster awareness in the medical community and the general public. We are committed to providing hope through innovative approaches that promise to extend the lives of cancer patients and keep them cancer free longer."
As with all of the charities that I highlight in this Blog, I find them to be doing important work for society that will impact all of us (whether we get cancer in the future or a loved one or friend). If you have any questions about what they do or want to find out more, check out their website set forth above.
They are a 501(c)(3) organization that was formed to do cancer research. They are passionate about doing everything that they can to fight this disease and do very good work. As their website states, their mission is:
http://www.foundationofhopeandinnovation.com
"The Foundation of Hope and Innovation is dedicated to cancer research. We strive to improve treatment outcomes of those affected by the disease as well as foster awareness in the medical community and the general public. We are committed to providing hope through innovative approaches that promise to extend the lives of cancer patients and keep them cancer free longer."
As with all of the charities that I highlight in this Blog, I find them to be doing important work for society that will impact all of us (whether we get cancer in the future or a loved one or friend). If you have any questions about what they do or want to find out more, check out their website set forth above.
Saturday, January 29, 2011
2010 changes and how to plan in 2011 and 2012
The dust has now settled on the 2010 Tax Legislation called "The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010" which was passed in December of 2010. This act was passed just a few weeks prior to the so called "sunset" of the Bush tax cuts and has generally extended those cuts for two more years (until December 31, 2012). No matter where you are at on the political spectrum, this act has created some interesting planning opportunities that may, or may not, exist at the end of 2012 (depending on the results of that election). My goal is to place my other ongoing series of posts on hold and spend some time unpacking this tax act. There is much that needs to be discussed from the act, and I will start discussing the major areas that clients are asking about and that they should be asking about.
In no particular order, some of the topics that are of interest to my clients are: the addition of an election for decedent's estates dying in 2010 (either keeping the unlimited estate transfer with no step up in tax basis or the five million dollar exemption with the step up in tax basis), portability of a deceased spouse's unused exemption amount, the extension of income tax dividend and capital gain rates, and much more.
I will be discussing many of those topics in individual blog posts, but at this time note that if you have an estate over five million dollars (for a single individual) or over ten million dollars (for a married couple), this two year period may give you an unparalleled planning opportunity (especially if the election in 2012 creates a balance of power in the government that does not support the five million dollar exemption). Many of my high net worth clients that have taxable estates over the ten million dollar level are really looking at using the full ten million dollar gift to fund life insurance strategies, private annuity strategies, installment sale strategies, and many others. If you have been waiting to discuss proper planning until a more permanent law is passed into effect, then you may want to reconsider for this next two year period.
If you have any questions about your current estate planning or about what techniques can really work in this environment for the next two years, do not hesitate to contact me at 949-788-1819 or Mark@Zieboldlaw.com.
In no particular order, some of the topics that are of interest to my clients are: the addition of an election for decedent's estates dying in 2010 (either keeping the unlimited estate transfer with no step up in tax basis or the five million dollar exemption with the step up in tax basis), portability of a deceased spouse's unused exemption amount, the extension of income tax dividend and capital gain rates, and much more.
I will be discussing many of those topics in individual blog posts, but at this time note that if you have an estate over five million dollars (for a single individual) or over ten million dollars (for a married couple), this two year period may give you an unparalleled planning opportunity (especially if the election in 2012 creates a balance of power in the government that does not support the five million dollar exemption). Many of my high net worth clients that have taxable estates over the ten million dollar level are really looking at using the full ten million dollar gift to fund life insurance strategies, private annuity strategies, installment sale strategies, and many others. If you have been waiting to discuss proper planning until a more permanent law is passed into effect, then you may want to reconsider for this next two year period.
If you have any questions about your current estate planning or about what techniques can really work in this environment for the next two years, do not hesitate to contact me at 949-788-1819 or Mark@Zieboldlaw.com.
Sunday, November 21, 2010
Year End Planning
Many clients have contacted me and asked about the most effective planning methods and techniques during this year where the "regular" estate, gift, and generation skipping tax rules will go back in effect next year (more on that below). With regard to each person's unique situation, different planning techniques may provide you or them with some extra benefit if done before the end of the year. In general, those include large lifetime gifts (as the tax rate on gifts over the million dollar lifetime gift credit) is 35% in this year, but reverts back to a maximum rate of 55% next year without any congressional action. Based on this, if you are a client who has been thinking about making large gifts and who does not mind paying gift taxes, then this is the year to make outright, large gifts. These types of gifts can be made to trusts as well, but based on the rules regarding generation skipping taxes, I am not recommending that you make large gifts to trusts that have beneficiaries who would trigger generation skipping taxes. The reason for this is that even though there is no GST tax this year, the GST tax will be assessed against distributions from trusts in the future if the gift that funded the trust was not exempt from this type of tax. Due to this change in the law that will occur on January 1, 2010, I am suggesting to clients that if they want to make large gifts to grandchildren or more remote heirs to avoid the GST tax in the future (and to take advantage of the lower gift tax rate this year), then the gifts should be outright. If the trust is set up to benefit the children of the Donor, then the large taxable gift can be made to a trust for that person's benefit, but the trust must be set up to be included in that beneficiary's estate if you do not want it to be subject to GST taxes in the future.
In general, planning techniques involving charitable gifting (outright gifts to charities, creation and funding of private foundations, public charities, etc.) all must be done before the end of the calendar year instead of the tax due date of April 15th next year. Based on this, if you are working with your CPA to determine if you need additional charitable deductions for this tax year, make sure that you work with your attorney to provide enough time to make these gifts prior to the end of the year. Even the formation of private foundations can be done prior to year end as they can be formed and funded (giving you the tax deduction) if the entity obtains its 501(c)(3) status within a close period of time of the formation of the entity (you must generally file the 1023 form within 27 months of formation if you want the operations of the entity to be tax exempt from the date of formation).
In addition to all of the above, Congress is going to modify the GRAT rules sometime next year, so if you would benefit from a two year GRAT, then that may be another planning technique to consider. Life Insurance is also another great option that people sometimes consider too late (based on developing health issues). The earlier you get a life insurance plan in place, the better your costs will be (and you will often be able to get more coverage).
If you have questions about what any of the above means, do not hesitate to contact me by phone or email and we can discuss your questions in greater detail.
In general, planning techniques involving charitable gifting (outright gifts to charities, creation and funding of private foundations, public charities, etc.) all must be done before the end of the calendar year instead of the tax due date of April 15th next year. Based on this, if you are working with your CPA to determine if you need additional charitable deductions for this tax year, make sure that you work with your attorney to provide enough time to make these gifts prior to the end of the year. Even the formation of private foundations can be done prior to year end as they can be formed and funded (giving you the tax deduction) if the entity obtains its 501(c)(3) status within a close period of time of the formation of the entity (you must generally file the 1023 form within 27 months of formation if you want the operations of the entity to be tax exempt from the date of formation).
In addition to all of the above, Congress is going to modify the GRAT rules sometime next year, so if you would benefit from a two year GRAT, then that may be another planning technique to consider. Life Insurance is also another great option that people sometimes consider too late (based on developing health issues). The earlier you get a life insurance plan in place, the better your costs will be (and you will often be able to get more coverage).
If you have questions about what any of the above means, do not hesitate to contact me by phone or email and we can discuss your questions in greater detail.
Friday, November 5, 2010
New Firm and Services Offered
It has been a while since I last posted on this blog, but that should change from this point forward as I have left my prior Firm and have opened up my own office. My new contact information is as follows:
Ziebold Law Group
9870 Research Drive, Suite 105
Irvine, CA 92618
949-788-1819 x 129 (phone)
949-788-1869 (fax)
Mark@Zieboldlaw.com
In addition to this, two others and myself are planning on offering Christian Fiduciary Services (Trustee services from a Christian Worldview) in the near future (outside of my law practice). Please update your contact information for me with the information above and have a great day.
Ziebold Law Group
9870 Research Drive, Suite 105
Irvine, CA 92618
949-788-1819 x 129 (phone)
949-788-1869 (fax)
Mark@Zieboldlaw.com
In addition to this, two others and myself are planning on offering Christian Fiduciary Services (Trustee services from a Christian Worldview) in the near future (outside of my law practice). Please update your contact information for me with the information above and have a great day.
Wednesday, June 30, 2010
Content on Avvo website
I have started providing legal answers and legal guides on Avvo (www.avvo.com). Take a look at the following:
Friday, June 25, 2010
Next Asset Protection Society Meeting
The next meeting of the Asset Protection Society in Orange County will be held on Tuesday, July 20, at 7:00 PM at our offices located at 3737 Birch Street, Suite 400, Newport Beach, California 92660. Todd Rustman of GR Capital Asset Management (www.gr-cam.com) will be speaking about absolute return investing and market alternatives in the current economic environment. He will also be highlighting several methods in these strategies to protect your investments from market downturns and other factors. If you would like to attend this meeting, please contact me to RSVP at mziebold@ferruzzo.com or call me at 949-608-6900.
Thursday, June 10, 2010
Highlighted Charity for June
From time to time I will highlight some of the charities that I learn about and/or work with in my practice. At this time, I want to highlight blood:water mission for the work that they are doing in Africa.
Blood:Water Mission is a grassroots organization that empowers communities to work together against the HIV/AIDS and water crisis. They work to provide clinics and clean water to communities in Africa, in order to combat the ongoing problem (instead of just dealing with the symptoms of the overall problem). You can see more about their organization and what they are doing on their website at:
www.bloodwatermission.com
I highly recommend what they are doing and will be supporting their ministry on an ongoing basis in the future.
Blood:Water Mission is a grassroots organization that empowers communities to work together against the HIV/AIDS and water crisis. They work to provide clinics and clean water to communities in Africa, in order to combat the ongoing problem (instead of just dealing with the symptoms of the overall problem). You can see more about their organization and what they are doing on their website at:
www.bloodwatermission.com
I highly recommend what they are doing and will be supporting their ministry on an ongoing basis in the future.
Thursday, June 3, 2010
State Certification
The State Bar has approved my application and now I have received the certification as a specialist in Estate Planning, Trust, and Probate Law:
http://members.calbar.ca.gov/search/member_detail.aspx?x=227950
You can read more about the specialization designation here:
http://www.calbar.ca.gov/state/calbar/calbar_generic.jsp?cid=11584&id=9161
Many thanks to my Firm, Ferruzzo and Ferruzzo, who has supported me through the process of receiving this designation.
http://members.calbar.ca.gov/search/member_detail.aspx?x=227950
You can read more about the specialization designation here:
http://www.calbar.ca.gov/state/calbar/calbar_generic.jsp?cid=11584&id=9161
Many thanks to my Firm, Ferruzzo and Ferruzzo, who has supported me through the process of receiving this designation.
Tuesday, May 4, 2010
Next Asset Protection Society Meeting
The next meeting of the Asset Protection Society in Orange County will be held on Tuesday, May 18, at 7:00 PM at our offices located at 3737 Birch Street, Suite 400, Newport Beach, California 92660. I will be speaking about the changes to the estate tax laws in 2010 and about effective planning techniques that will aid clients in 2010 or in later years. If you would like to attend this meeting, please contact me to RSVP at mziebold@ferruzzo.com.
Tuesday, April 13, 2010
Speaking at Signature Resources on 4/29
I will be speaking at Signature Resources on Thursday, April 29, at 7:00 PM. There will be a time for wine tasting, Hors d'oeuveres, and an art display beginning at 6:00 PM. If you are interested in attending, please contact myself ( mziebold@ferruzzo.com or 949-608-6900 ) or the host, Wil Smith of Signature Resources (contact information below).
The topic for the evening will be Important Planning Issues for 2010 and Beyond.
Date: Thursday, April 29,2010
Time: Wine tasting, Art display and Hors d’oeuveres, 6:00 pm
Presentation, 7:00 pm
RSVP 949 794-0184 or wsmith@SRIFS.com
The topic for the evening will be Important Planning Issues for 2010 and Beyond.
Date: Thursday, April 29,2010
Time: Wine tasting, Art display and Hors d’oeuveres, 6:00 pm
Presentation, 7:00 pm
RSVP 949 794-0184 or wsmith@SRIFS.com
New Franchise Tax Board News Release
It looks like California, even with the debt issues that it has, has decided to help people who have lost their homes with this release.
Beginning of Release:
April 13, 2010
Subject: California Enacts Mortgage Forgiveness Debt Relief
Sacramento –A new state law allows taxpayers to immediately exclude from their income the amount of mortgage debt on their home loan that has been forgiven by their lender. The law largely brings California statutes into conformity with current federal law. Previously, California conformed to federal debt relief only for 2007 and 2008, according to the Franchise Tax Board (FTB).
“California has been particularly hard hit by the housing crisis,” said State Controller and FTB Chair John Chiang. “This is a critical tax change that will help people in our state who already are suffering the loss of their homes.”
The new law, SB 401 (Wolk), allows most taxpayers to exclude canceled mortgage debt income of up to $500,000 on their principal residence. The limit is $250,000 for married/registered domestic partner (RDP) individuals filing separately. It applies to debt forgiveness in 2009 through 2012 resulting from a foreclosure, “short sale,” or loan modification of a taxpayer’s qualified personal residence.
Prior to the law’s passage, these amounts were taxable to California. If you owe a debt to someone else and they cancel or forgive that debt, the canceled amount often is taxable. These amounts are generally reported on a 1099-C and are provided to both the taxpayer and the government. Debt forgiveness on other types of debt, such as a second home or business property, does not qualify for exclusion under the new law.
The law largely brings California into conformity with the federal Mortgage Forgiveness Debt Relief Act for discharges that occurred in tax years 2007 through 2012. However, California’s limits of qualifying principal residence indebtedness differ from federal limits.
Qualifying taxpayers who have already filed their 2009 tax returns should file Form 540X, Amended Individual Income Tax Return, to subtract the amount of debt relief from income. To expedite processing, write “Mortgage Debt Relief” in red across the top of the amended tax return. Taxpayers must attach a copy of their federal return, including Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment), with their state tax return.
Like federal law, the new state law allows individuals and businesses to exempt energy grants that are provided in lieu of federal energy credits from their gross income and alternative minimum taxable income. It also conforms California law to many other federal provisions.
According to FTB estimates, approximately 100,000 people may benefit from mortgage debt relief for tax years 2009-2012. For more information, taxpayers are urged to visit FTB’s website at www.ftb.ca.gov.
End of Release.
Beginning of Release:
April 13, 2010
Subject: California Enacts Mortgage Forgiveness Debt Relief
Sacramento –A new state law allows taxpayers to immediately exclude from their income the amount of mortgage debt on their home loan that has been forgiven by their lender. The law largely brings California statutes into conformity with current federal law. Previously, California conformed to federal debt relief only for 2007 and 2008, according to the Franchise Tax Board (FTB).
“California has been particularly hard hit by the housing crisis,” said State Controller and FTB Chair John Chiang. “This is a critical tax change that will help people in our state who already are suffering the loss of their homes.”
The new law, SB 401 (Wolk), allows most taxpayers to exclude canceled mortgage debt income of up to $500,000 on their principal residence. The limit is $250,000 for married/registered domestic partner (RDP) individuals filing separately. It applies to debt forgiveness in 2009 through 2012 resulting from a foreclosure, “short sale,” or loan modification of a taxpayer’s qualified personal residence.
Prior to the law’s passage, these amounts were taxable to California. If you owe a debt to someone else and they cancel or forgive that debt, the canceled amount often is taxable. These amounts are generally reported on a 1099-C and are provided to both the taxpayer and the government. Debt forgiveness on other types of debt, such as a second home or business property, does not qualify for exclusion under the new law.
The law largely brings California into conformity with the federal Mortgage Forgiveness Debt Relief Act for discharges that occurred in tax years 2007 through 2012. However, California’s limits of qualifying principal residence indebtedness differ from federal limits.
Qualifying taxpayers who have already filed their 2009 tax returns should file Form 540X, Amended Individual Income Tax Return, to subtract the amount of debt relief from income. To expedite processing, write “Mortgage Debt Relief” in red across the top of the amended tax return. Taxpayers must attach a copy of their federal return, including Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment), with their state tax return.
Like federal law, the new state law allows individuals and businesses to exempt energy grants that are provided in lieu of federal energy credits from their gross income and alternative minimum taxable income. It also conforms California law to many other federal provisions.
According to FTB estimates, approximately 100,000 people may benefit from mortgage debt relief for tax years 2009-2012. For more information, taxpayers are urged to visit FTB’s website at www.ftb.ca.gov.
End of Release.
Friday, January 22, 2010
Speaking at Signature Resources on 2/18
I will be speaking at Signature Resources ( www.signatureresources.net ) on February 18, 2010, at 5:30 PM. The topic for this presentation is the changes to the estate tax laws, along with planning recommendations during this year that will benefit your estate no matter what changes ultimately occur in the future. If you are interested in attending this presentation, contact Wil Smith at Signature Resources at 949-794-1006 or wsmith@srifs.com . You may also contact me at mziebold@ferruzzo.com and I can give you additional information about the presentation.
The Next Business Killers Presentation on 2/18
The next Business Killers presentation will be held on Thursday, February 18 from 11:30 AM to 1:00 PM. This presentation covers important topics for business owners that I regularly see in my practice. Some of these topics are buy/sell agreements, key person insurance, valuations of businesses, business succession planning, and many others. If you are interested in learning more, then you can read about the presentation here: ( http://www.businesskillers.com ). If I can answer any questions about these topics or if you would like to attend this presentation, feel free to email me at mziebold@ferruzzo.com.
Next Asset Protection Society Meeting on 3/16
The next meeting of the Asset Protection Society in Orange County will be held on Tuesday, March 16, at 7:00 PM at our offices located at 3737 Birch Street, Suite 400, Newport Beach, California 92660. Our speakers will be Hilary Schneider and Marc Nelson of ESOP Corporate Resources and they will be speaking about various uses of ESOPs for employee compensation planning, asset protection, tax planning, and much more. If you would like to attend this meeting, please contact me to RSVP at mziebold@ferruzzo.com.
Wednesday, January 20, 2010
The Next Business Killers presentation on 1/21
The next Business Killers presentation will be on January 21 from noon to 1:30. This presentation covers important topics for business owners that I regularly see in my practice. Some of these topics are buy/sell agreements, key person insurance, valuations of businesses, business succession planning, and many others. If you are interested in learning more, then you can read about the presentation here: ( http://www.businesskillers.com ). If I can answer any questions about these topics or if you would like to attend this presentation, feel free to email me at mziebold@ferruzzo.com.
Thursday, January 14, 2010
Upcoming Asset Protection Society Meeting
The next meeting of the Orange County chapter of the Asset Protection Society will occur on Tuesday, January 19 at 7:00 PM at our office in Newport Beach, California. The speaker will be Jason Forsyth of FFG Valuations. He will be speaking on a variety of topics including business valuations and discounts. If you would like to attend, feel free to contact me by phone or email to RSVP.
Changes to 2010 Estate Tax Law and Client/Advisor Teleconferences
Most of the practitioners who work with me in the area of tax and estate planning would not have gambled on the estate tax being repealed in 2010. However, this is where we sit at this time with no guidance as to what Congress will do in the future. Ultimately, each and every client has to decide what they will do with the changes that have occurred (whether to amend their current planning or to wait until Congress acts). The problem is though that many clients do not understand what the issues are as the only thing that the news focuses on is the repeal of the actual estate tax. Unfortunately no one is talking about the negative aspects of the transfer tax law in 2010, and especially for our California clients there are new developments with the California Probate code which will require amendments to your existing plan as well. Based on the above, our Firm is hosting teleconferences for existing clients of the firm and for other professionals who are friends of the Firm. For those who would like to attend one of our teleconferences, call our Firm's general line (949-608-6900) and ask for Deanna who will provide you with the information.
Friday, November 6, 2009
The taxation of life insurance policies – part 1
Many clients come into my office and indicate that they have life insurance coverage and that they were told by their insurance agent that they would be protected from all taxes by the life insurance death benefit. They are also told that they can access the cash value of their life insurance policies on an income tax free basis during their life for retirement, or other purposes (paying for children’s college expenses, medical needs, etc.). While all of these statements are generally correct, I often meet with people who have misunderstood their life insurance agent or who really do not understand the different ways that a life insurance policy can be subject to taxation. My goal in this multiple part series of posts is to identify some of the common misconceptions regarding the taxation of life insurance and educate you on what you should look for when you are reviewing your own planning to identify potential problems that need to be fixed.
Initially, we must deal with the income and estate taxation of the death benefit of the life insurance policy. Under section 101(a) of the Internal Revenue Code (26 USC §101(a)), the general rule is that, “gross income does not include amounts received (whether in a single sum or otherwise) under a life insurance contract, if such amounts are paid by reason of the death of the insured.” Based on this statute, the death benefit of life insurance is generally exempt from income taxation. We will see some situations in future posts where this may even be incorrect, but the general rule is that there are no income taxes payable due to the receipt of a death benefit under a life insurance policy.
Unfortunately for many people they do not understand that just because the proceeds are not subject to income taxation, this does not mean that they are not subject to some other tax that is set forth in the internal revenue code. If the owner of the policy is the insured under the policy and they continue to have the power to change the beneficiary of the policy throughout their lifetime, then the death benefit will still be income tax free when it pays out, but under section 2042 of the Internal Revenue Code the proceeds of the life insurance policy will be subject to estate taxes. This means that while income tax will be avoided, estate taxes will not.
To illustrate this, an example may be of some help. Let’s say a single individual has a 1.0 million estate and has a life insurance policy of 5.0 million dollars on him or herself. Let’s also say that this insured has one child who is the beneficiary of the life insurance policy. When this person dies, the death benefit of the insurance (the 5.0 million) is paid to the child who receives the death benefit income tax free. However, since the insured owned the policy and had the ability to change the beneficiary through his or her lifetime (what the Internal Revenue Code refers to as the “incidents of ownership”), that death benefit will be added to the decedent’s other property and be subject to estate taxes. Based on that, the gross estate for estate tax purposes will be 6.0 million. By doing a rough calculation of the estate taxes payable in 2009 on such an estate, we would take the 6.0 million, reduce it by the individual’s estate tax exemption (currently 3.5 million) and then take the net result (2.5 million) and multiply that by the highest marginal estate tax rate of 45%. This would mean that while the child received 5.0 million income tax free, 1.125 million would have to be paid for the taxes on the estate based on the inclusion of the death benefit in the taxable estate (and would be due within nine months of the date of death of the insured). This is a rough estimate which could change with other planning or variables, but it shows the initial issue that the owner of a life insurance policy should not always be the insured. In the next post we will look at some ways to deal with life insurance policies that are owned outright in your own name and some other planning techniques that can both keep the death benefit income tax free but also estate tax free. If you have any questions about this or anything else on this blog, do not hesitate to contact me at mziebold@ferruzzo.com.
Initially, we must deal with the income and estate taxation of the death benefit of the life insurance policy. Under section 101(a) of the Internal Revenue Code (26 USC §101(a)), the general rule is that, “gross income does not include amounts received (whether in a single sum or otherwise) under a life insurance contract, if such amounts are paid by reason of the death of the insured.” Based on this statute, the death benefit of life insurance is generally exempt from income taxation. We will see some situations in future posts where this may even be incorrect, but the general rule is that there are no income taxes payable due to the receipt of a death benefit under a life insurance policy.
Unfortunately for many people they do not understand that just because the proceeds are not subject to income taxation, this does not mean that they are not subject to some other tax that is set forth in the internal revenue code. If the owner of the policy is the insured under the policy and they continue to have the power to change the beneficiary of the policy throughout their lifetime, then the death benefit will still be income tax free when it pays out, but under section 2042 of the Internal Revenue Code the proceeds of the life insurance policy will be subject to estate taxes. This means that while income tax will be avoided, estate taxes will not.
To illustrate this, an example may be of some help. Let’s say a single individual has a 1.0 million estate and has a life insurance policy of 5.0 million dollars on him or herself. Let’s also say that this insured has one child who is the beneficiary of the life insurance policy. When this person dies, the death benefit of the insurance (the 5.0 million) is paid to the child who receives the death benefit income tax free. However, since the insured owned the policy and had the ability to change the beneficiary through his or her lifetime (what the Internal Revenue Code refers to as the “incidents of ownership”), that death benefit will be added to the decedent’s other property and be subject to estate taxes. Based on that, the gross estate for estate tax purposes will be 6.0 million. By doing a rough calculation of the estate taxes payable in 2009 on such an estate, we would take the 6.0 million, reduce it by the individual’s estate tax exemption (currently 3.5 million) and then take the net result (2.5 million) and multiply that by the highest marginal estate tax rate of 45%. This would mean that while the child received 5.0 million income tax free, 1.125 million would have to be paid for the taxes on the estate based on the inclusion of the death benefit in the taxable estate (and would be due within nine months of the date of death of the insured). This is a rough estimate which could change with other planning or variables, but it shows the initial issue that the owner of a life insurance policy should not always be the insured. In the next post we will look at some ways to deal with life insurance policies that are owned outright in your own name and some other planning techniques that can both keep the death benefit income tax free but also estate tax free. If you have any questions about this or anything else on this blog, do not hesitate to contact me at mziebold@ferruzzo.com.
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