Chapter
2
Legally binding agreements that have been
entered into can affect the specific provisions of a will. Agreements may
control how the will is written to some degree. Agreements may have advantages
(which would be the reason they were used), but they may also bring with them
disadvantages. An example of this would be an irrevocable trust, which takes on
an undesirable finality to it. Some agreements in wills, like the irrevocable
trust, also have an undesirable finality to it. Legally binding agreements
prevent the will from being changed, except by mutual consent. This means the
will is no longer ambulatory, an expression meaning movable. When assets
can no longer be legally moved as desired by the testator, the will becomes
final.
There are many types of agreements. Often an
elderly person will stipulate in their will, by legal agreement, that a
relative or friend will receive all his or her assets if they provide physical
care during the last years of life. This is, perhaps, one of the more common
forms of legal agreements within a will.
ANTENUPTIAL
AGREEMENTS:
The average marriage lasts 7.5 years in
America today. It is this fact that seems to promote financial agreements
between spouses. Although it can be used for a first-time marriage, it is much
more likely to occur in second or third marriages. Usually it involves one or
both people who have significant financial assets. Obviously, if both enter
into the marriage poor, there is little need for such a legal agreement.
A type of agreement used more and more is Antenuptial
Agreements. So many older people are now involved in second and third
marriages where both husband and wife have grown children. It often prevents problems
and misunderstandings when Antenuptial Agreements keep the husband's and wife's
property separate. If either one dies, their property reverts to their own
children rather than to their spouse. Of course, an Antenuptial Agreement can
bequeath property to anyone, but typically, it goes to the person's direct
family as in this example. These types of agreements can be especially
important in community property states, such as Washington state.
Certainly an antenuptial agreement has little
romance to it. It is aimed solely at preserving financial acquirements for
specific people or groups of people. Even so, Americans seem to take to it
without hesitation. Usually, when such agreements are used, the desire is to
leave financial assets primarily to children from previous marriages. This is
understandable when both people have children from previous marriages and
acquired assets from previous marriages.
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Antenuptial Agreements are solely aimed at
preserving financial acquirements for specific people or
groups of people. |
There are ways to avoid hurt feelings from
children if the newly married couple want to leave assets to each other for
financial protection. A life insurance policy can be taken out to supply needed
financial support for a disabled child, for example. That would enable the
spouses to leave their assets to each other and still remember their children
in their wills.
Since a will can do, within legal limits,
whatever the testator desires, there are often special provisions included.
These might include many things, such as residuary clauses, spendthrift
clauses, life insurance agreements, and special beneficiary designations or
disbursements. There may be more provisions than what we have listed.
A tightly drawn will contains a residuary
clause. This pertains to what remains after the rest of the estate has
been distributed or paid out. Generally, a paragraph is included to direct the
distribution in the rare event that all of the family is wiped out together. In
this event, a charity is often named.
|
A residuary clause pertains to what assets
remain after the rest of the estate has been
distributed or paid out. |
Since a will is a personal document, there is
often a need for special provisions. Generally, exceptional or special
provisions fall into four groups:
1.
Personal
2.
Beneficiary arrangements
3.
Property distribution
4.
Family and public
relationships.
PERSONAL:
Under the personal category, it is easy to
understand why personal situations might affect the testator. A nurse or
housekeeper who has stayed with the family through all situations may certainly
deserve to be recognized in the will. Often it also serves to keep a person's
loyalty when they know that loyalty will be financially recognized.
Under the personal heading, many people also
like to include their funeral arrangements in their will. Sometimes, simply
their funeral wishes are stated with no actual arrangements having been made.
Frequently, however, the will is not read until days after the grave is closed.
Therefore, the testator needs to make their wishes known to family and friends.
It would also be wise to record their wishes elsewhere.
It is also, as a personal choice, becoming
increasingly popular to donate, in part or whole, one's body to medical science
or to others. With so much in the news about people who can live only with
organ transplants, it can be expected that more and more testators will make
provisions for this in their wills. As with funeral wishes, these types of
gifts need to be common knowledge among friends and family. Especially with
organ gifts where timing is so often critical. Many states now list organ
donors on their driver licenses.
BENEFICIARY
ARRANGEMENTS:
The second group, beneficiary arrangements,
often ties into the first group of personal wishes. There may be circumstance
under which a testator may want to make a lump-sum bequest to another person
who has a shorter life expectancy. It may be an older sister or brother, or
someone with severe health conditions. Then the question becomes one of good
sense. Why leave a person something they probably will not live to enjoy?
Sometimes, a better choice is to put the
money into a financial vehicle that can be used prior to the testator's death.
An annuity is often used for this purpose since the money can revert back to
the testator upon the annuitant's death.
Another problem that can come up when
designating beneficiaries arises when the beneficiary is a handicapped or
retarded child. Sometimes it is not merely a matter of willing financial
assets, but willing them in a way that will best protect that child. This is
one situation where a living trust may be called for, even if the estate is
relatively small.
|
Sometimes it is not merely a matter of willing
financial assets, but willing them in a way that will best
protect that child. |
Providing funding is often not the main
concern for the parents of a handicapped or retarded child. Their main concern
may be who will care for that child. Sometimes an estate is set up to tie a
care-giver into it. For instance, financially aiding a sibling who provides
that care for their disabled sister or brother.
When the estate is small, it can be extremely
difficult to provide for a disabled child. There simply may not be enough resources
to do any long range planning. In this situation, it is wise to investigate
state and federal programs that may be able to help the disabled child.
Some examples of providers of these programs
are:
Medicaid (medical
welfare for all ages)
The Department of
Health, Education and Welfare
The Old Age and
Survivors Disability Insurance Program under which a disabled child may be
entitled to benefits.
A federal-state program
of assistance known as Aid To The Permanently And Totally Disabled.
Benefits under GI
insurance policies and other veteran's benefit programs, such as Orphans
Educational Assistance
If either parent worked
for the railroad, The Railroad Retirement Act.
The programs listed are only some that might
be available. The various programs available are in a constant flux. Inquiries
into the programs available could result in provisions in the will that might
otherwise have been overlooked.
Still under beneficiary arrangements comes
the Spendthrift Clause. This clause is designed to prevent claims by
third parties from touching trust assets. It does not necessarily mean that the
beneficiary is not financially dependable. It is simply a protection against
those who may want to tap into the funds, such as salespeople or creditors,
while still allowing the trustee to provide for necessary living expenses.
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A spendthrift clause is designed to prevent
claims by third parties from touching trust assets. |
If a spendthrift clause is used, it should be
expressly inapplicable to those portions of the document establishing or
relating to a Marital Trust. Otherwise, tax benefits may easily be lost.
Sometimes, a testator may include a provision
in his or her will regarding the possibility of one of the beneficiaries becoming
disabled after the will was written. Generally, they direct a trustee to make
payments directly to those supplying that beneficiary with goods or services.
The trustee is then entitled to protection against the claims of other
disgruntled beneficiaries who feel that the trustee was too generous in caring
for the needs of the one beneficiary who became disabled. The trustee must
still, of course, act in good faith.
PROPERTY
DISTRIBUTION:
Under the third group, property
distribution, some types of property need special attention. This is true
of both published and unpublished manuscripts, compositions, and artwork of
writers and artists. A special literary executor with authority to handle all
matters affecting artistic property needs to be named.
Many people own art objects. This may also
include special pieces of furniture, silver, or other items which should not be
sold as simple possessions. The high cost of storage can be saved and the lives
of the beneficiaries can be brightened if such items are specifically mentioned
in the will. Generally, wills make these items available for use and enjoyment
directly by the beneficiaries.
Every person has personal items that they
hold dear. These items may or may not be valuable. Often a person's favorite
things should not be wholesaled into the residue of the estate. Say, for
example, that the wife dies and the husband remarries. There will undoubtedly
be items she would not have wanted another wife to use. Had she specified in
her will who these items should have gone to, the matter would be much simpler
for the husband to handle. The wife should not only make mention of special
items in her will, but also make it known to family members. Not only is this
wise legally, but it will also go a long way in keeping family peace in the
event of her death.
A dear possession to many people are their
pets. All too often, these important family members are forgotten in the will.
This is certainly understandable since wills are so often written prior to
obtaining the pets. If other family members are equally attached to the pets in
question, there may not be any problem of continued care. Unfortunately, this
is not always the case.
Care for pets must cover three time periods:
1.
Prior to the death of
the testator, when critical illness may prevent proper care of the pets,
2.
During the interim
months of postmortem management, and
3.
For the rest of the
pet's life once the will and distribution of property is completed.
|
Care for family pets
should be specifically mentioned in the will. Otherwise, there is
little attention given to them by the courts. |
Sometimes, one simple arrangement covers all
three periods; sometimes, it takes two or even three separate arrangements. If
a trust is established, the trustee will need to have specific instructions as
to the financial arrangements to assure proper care of the pets.
Of course, the difficulty of the situation is
obvious. No matter how well a person attempts to protect and provide for the
pet, that pet cannot speak up for itself. If the pet's rights are violated, the
pet has no legal recourse. The plan is really an act of faith, in many ways.
The ability to actually offer legal protection is limited since it is not
likely that any person will care about that particular pet as much as it's
original owner. The best protection for pets are friends or family who act, not
on legal grounds, but out of love for the pet and the pet's previous owner (the
testator).
Still under the third division of property,
there sometimes occurs what is called Ademption. This means that a
specific bequest of a will is no longer possible. It may be due to the fact
that the property (a car, for example) no longer exists. It could be because
the piece of property ended up being given to the beneficiary (or another
person) prior to the testator's death. Perhaps any number of happenings
prevents the specific bequest from being honored. Therefore, the will needs to
include instructions in the event that the property, for whatever reason,
cannot be transferred to the beneficiary, as stated in the will. Perhaps the
value may be given in cash instead, for instance.
Another factor to be considered is any money
owed against the property, whether it is a car or a piece of real estate. The
will needs to specify whether or not the estate is to pay off the mortgage
before transferring the title to the beneficiary. When making any specific
bequest, all factors need to be stated clearly. This is why the
"do-it-yourself" wills and living trusts often cause more problems
than they ever solve.
It is not unusual for a testator to want to
"forgive" a debt when distributing property through a will or trust.
If the testator does wish to do so, it is necessary to be very clear in the
will as to how it should be accomplished. There can be so many small technical
issues that it may have been wise to have forgiven the debt before
death. Anytime this is considered, a tax specialist should probably be
consulted for the best tax results.
FAMILY
& PUBLIC RELATIONSHIPS:
The fourth group, family and public
relationships, was originally rooted in the belief that estates begin
passing on primarily to the eldest son. Seldom was it passed on to a daughter,
eldest or not. This was done to ensure that the family and its name continued
its status through the generations. Now, estates tend to be more of an equality
issue. Still, many family owned businesses continue to be given a cash
equivalent.
|
Unfortunately, some testators still want to
make their will an occasion to denounce certain family members.
This is an outdated and foolish way to write a
will. |
Unfortunately,
some testators still want to make their will an occasion to denounce certain
family members. This is an outdated and foolish way to write a will and is
often considered more of a statement about the testator's personal
shortcomings, rather than a flaw on the beneficiary. If a testator truly wishes
to exclude family members, it needs to be well thought out and reviewed often.
Anger present today may not exist at the time of death. Often anger ends just
prior to death, when changes in the will are not possible, or difficult to
achieve.
As previously mentioned, in some
jurisdictions, children as well as the spouse, receive a statutory minimum even
if the testator tried to prevent them from receiving anything. It is true,
however, that a testator has the right to NOT bequeath. Except for spouses and,
in some states, children, the testator can simply not give anything to a family
member. If this is the desire of the testator (and he or she wishes it to hold
up if contested), then it needs to be done correctly. If all sisters and
brothers are mentioned, for example, except one, an attorney could successfully
argue that it was merely an oversight or a clerical error. Therefore, as a
legal precaution, that one excluded sibling needs to be specifically mentioned
as disinherited as a matter of record.
Some wills include a clause or two providing
that if anyone contests the will, he or she will receive a trivial amount or
perhaps be cut out entirely. Due to state laws governing wills, such a
no-contest clause must be very carefully thought out. Often a kind, well
thought-out will can prevent someone from contesting the will in the first
place. If the testator avoids excessive eccentricity in his or her will, it
will also make a will more difficult to contest. A testator who makes extremely
unusual bequests may make himself or herself look senile and invite a will to
be contested.
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"Property" is anything
capable of being owned. |
The types of property owned will play a key
role in the will or trust. Property is anything capable of being owned.
This may include material objects held in outright ownership or the right to
possess, enjoy, use or transfer something.
There are two classes of property:
Real Property
and
Personal Property.
Real property is land and all things that are
permanently attached to that property, such as a home, garage, trees, shrubs,
growing crops, and so forth. It does not include a mobile home, unless it has
been put on a permanent foundation.
Personal property may be either tangible or
intangible. Both types include any property that is not "real"
property. Tangible property can be touched, felt, and seen. This would include
motor vehicles, furniture, clothing, etc. Intangible property has no intrinsic
value. This would include bonds, mortgages, and stocks.
In most states, there are assets which speak
for themselves regarding who is to be their new owners. These items pass
outside of a will or trust because they have a named beneficiary. Only if the
beneficiary stated is the "estate" will they pass through the probate
procedure. Insurance policies come under this situation. Also included are
joint bank accounts with the right-of-survivorship.
Estates generally involve ownership interests
in real property. Items that list beneficiaries pass outside of living trusts
and wills. This would include insurance contracts where beneficiaries are
stated. There are three main types of estates:
1.
Fee Simple Estates,
2.
Life Estates, and
3.
Estates for a Term of
Specific Years.
TYPES
OF ESTATES:
Fee-Simple Estates mean that there is an interest in the property (real
property) that belongs to an individual, then to the heirs forever. For
example, Sam Jones dies. In his will he leaves his home to his son, Howard
Jones. When Howard dies, his will leaves the house to his daughter, Jane Jones.
This might continue through generations.
In a Life Estate, an individual has
absolute right to possession, enjoyment, and profit from the property for the
duration of his or her life. The person's legal interest in the property ends
at their death. For example, when estate owner Sam Jones dies, his will states
that his home goes to his son, Howard Jones. When Howard dies, however,
ownership goes to a person specified in Sam's will, not to a
person named in Howard's will. Howard never had a legal right to pass on the
home according to the terms of Sam's will (the original owner). The owner of a Life
Estate has no interest in the transfer of the asset upon his or her own
death. A life estate can be measured by the tenant's life or by the life of
another person; whatever the will designates.
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The owner of a Life Estate has no interest in
the transfer of the asset upon his or her own death. |
An estate for a term of specific years sets the interest in the property for a set amount of
time. If a tenant dies before the end of the specified period of time, the
right to possess the property for the rest of the term will be determined by
the will. Of course, the tenant has no right to transfer the property either
during his or her term or at the close of the term. The will states what is to
become of the property at the end of the term.
For example: estate owner, Sam Jones,
specifies in his will that his son, Howard Jones, may have possession of the
home for five years. At the end of that five years, Sam specifies that the home
reverts to Sam's grandson who turns 21 years old at that point in time.
Sam's grandson would be called a Remainderman.
He received ownership of the home only when the five years were up. Sam's
grandson had a vested interest because his right to receive property at
a specified time was fixed and absolute.
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A remainderman receives property after the rights of the prior beneficiary have
ended. |
Some wills may put a condition upon receiving
property at a specified time. This is called a Contingent Interest. For
Example: suppose Sam Jones said his grandson could have the house in five years
ONLY if he were married. Remember that a contingent interest may or may
not materialize. If Sam's grandson had not married by that specified period,
most wills would then state another person to receive the property or it would
remain with Howard himself.
To recap, a vested interest is absolute. A Contingent Interest is
dependent upon a set occurrence (or even nonoccurrence) and is therefore,
tentative - not absolute.
If the grandson must be married at a specific
time to inherit the house that would make him a contingent remainderman.
Some wills may have Reversionary Interests.
This means the property owner transfers the property while still living, but
reserves the right to have all or part of the property returned. Reversionary
Interests may be either vested or contingent.
One point to keep in mind regarding remainder
and reversionary interests - they must be carefully structured to avoid the tax
liability of incomplete transfers. The property may be taxed to the original
grantor as if the grantor were still in possession of the property.
Life insurance is considered a vital part of
wise estate planning. Without adequate coverage, there is often no estate to
work with because there are no assets yet acquired or the assets have been used
up prior to death. When using life insurance to establish an estate, it is
important to name a beneficiary so that probate may be avoided or bypassed.
|
Without adequate life insurance, there is
often no estate to work with because there are no assets yet
acquired or the assets have been used up prior to the
insured's death. |
POLICY
OWNERSHIP:
One aspect that is often either misunderstood
or ignored in life policies is how ownership will affect proceeds at death. It
has become common to use a child as the insured and the parent as the owner of
a policy or annuity. There is often the impression that life insurance policies
and annuities are taxed less than they actually are. The Federal Code and the
Internal Revenue Service (IRS) regulations include in a decedents' estate all
those proceeds of life insurance and annuities which are:
Payable to the estate or
Payable to any other
beneficiary.
This means if the person who dies has any
ownership in the policy, it is part of the taxable estate.
In order for the policy to escape this, all
ownership must be given up. Gifts of life insurance will not escape taxation if
given within three years of the owner's death. It must given three years or
more before death has occurred. As with all things related to taxes, it
is important to seek out specialized advice. Tax laws change. What is true at
this printing may not be true tomorrow.
The IRS term "Incidents of
Ownership" is not limited to meaning ownership in the technical sense.
It refers to rights of the insured to any economic benefits from the
policy. Those include the right to change the beneficiary, surrender or cancel
the policy, to take a policy loan, or otherwise benefit in any way. Therefore,
when estate planning, if a person wishes to remove life insurance from taxation
in the estate, the insured must REALLY part with the policy, whether by
sale or by gift.
|
The IRS term "Incidents of
Ownership" is not limited to meaning ownership in the technical sense. It
refers to rights of the insured to any economic benefits
from the policy. |
The uses of life insurance are varied and
numerous. It creates an immediate estate for those who otherwise would not own
an estate. It can protect other investments, such as a home. It can be used to
create an educational fund or retirement benefits.
LIFE POLICY BENEFICIARIES:
The decision regarding who the beneficiary
should be and how the life insurance ought to be paid out, is just as important
as the determination of the amount of insurance that is needed. Often the
insured realizes that his or her beneficiary would not be financially
responsible. In that case, they may elect to have the proceeds paid in monthly
or quarterly installments.
|
Often the insured realizes that his or her
beneficiary would not be financially responsible, so they may elect
to have the proceeds paid in monthly or quarterly
installments. |
If a person decides to have a life insurance
trust, it needs to be tailored to the needs of the family it is intended to
protect. The insurance funds may be poured into the testator's Residuary Trust
so that there is only one trust, reducing trust fees. Or, the assets of the
estate may be channeled into an already set-up insurance trust which contains
instructions from the insured (now deceased) that are the equivalent of those
found in a Testamentary Trust.
The determination of how much insurance and
how it is paid is extremely important to the planning of an estate. A payment
mode selected years before death can be very wrong at the time death actually
occurs. Therefore, decisions regarding life insurance and annuities need to be
reviewed periodically. Legal agreements can also affect how policies are
handled.
There can be two types of property owners.
The Legal Owner is the most common type. As implied, the legal owner has
legal title to the property. They have absolute ownership with all the related
responsibilities of ownership.
An Equitable or Beneficial Owner is a
person entitled to all the benefits of the property. This might be through a
trust where the trustee is vested with legal title, but the income from the
trust goes to someone who has Equitable Title.
Legal agreements often control how a will is
written. An agreement may be supplying college funds for a grandchild in return
for care during their last years, for example. Also, several types of ownership
are so well aimed at estate planning that they require special attention in a
will. A legally binding agreement regarding mandatory provisions of a will are
useful to both parties involved. The disadvantage is that the will takes on an
undesirable finality. To make any changes requires a mutual consent.
LIFE INSURANCE:
Agreements can affect, at least in part, what
a will says. Some agreements may make promises or create contracts that need to
be reflected. For example, a testator may make financial promises to a care
giver in exchange for his or her final care before death. Such promises often
involve life insurance beneficiary designations.
Some assets may not be governed by the will,
as is often the case with life insurance proceeds. These assets can, if
properly written, speak for themselves when it comes to beneficiary
designations.
In many estates, life insurance policies
account for much of the estate's worth. This may especially be true in young
families. Some life insurance policies are purchased because a will is written.
The testator wishes to leave certain people financial security and find, as the
will is drafted, that there are inadequate assets to do so. Therefore, they
purchase a life insurance policy.
In a sense, a life insurance policy is a form
of gambling. Of course, we all know that life will end at some point, but the
gamble is determining when death will occur. This is true of all forms
of insurance, although other forms do not gamble on death. For example,
automobile insurance gambles on whether or not an accident will occur.
Homeowners insurance gambles on whether or not something will happen to the
policyowner's home. Life insurance gambles on the moment of death. It should be
noted that life insurance does not gamble on whether or not death will occur.
We all know that it will at some specific time. What we do not know is when
that time will come.
Some odds are pretty easy to see. Airports
that sell flight insurance know that few airplanes actually crash. The odds are
greatly in favor of the insurance company when it comes to flight insurance. On
the other hand, dental insurance is relatively hard to purchase because
insurance companies know that most people receive dental work. Insurance
companies are really information gatherers. They know more about risk than
probably any other type of business. Policies are written based on their risk
statistics.
Getting back to life insurance policies, a
young family man of 25 buys a policy for $100,000 to insure his earnings. He
is, of course, actually insuring his life, but the true purpose is to insure
his earnings. If he should die, he wants his spouse and children
to have a means of financial support. Therefore, although it is his life the
policy is gambling on, his purpose is to insure his earnings. Because he is
only 25 years old, the insurance company knows that statistically, he will probably
live. If he buys a 5-year policy, the company that underwrites the policy is
betting that he will survive the next five year period. The young man is
betting that he will die during the next five year period. Few insurance agents
would successfully sell the policy using this point of view. Instead, security
for the family is discussed. This is exactly how it should be. Agents would not
do anyone any favor by discouraging the security afforded by life insurance
products. Even so, it is important for the agent to understand the probability
of death that insurance rates are based upon. For young men, such as the one in
this example, it is actually more likely that he will become disabled.
Statistics show that many more young people are likely to become disabled (and
live) than they are to die. If agents truly want to provide security to young
families by protecting the family income, then disability insurance should
certainly be sold.
When insurance companies determine rates, all
factors are considered. Besides the possibility of death payment, overhead
expenses are also involved. Overall, insurance is just that: insurance. It is
not an avenue for saving money (although some policies add that aspect). The
policy itself is a means of covering an event that is not welcome and probably
not expected. Whatever else may be attached to the policy, its first and
foremost goal is financial protection in the event of premature death.
|
Whatever
else may be attached to a life insurance policy, its first and foremost goal is financial
protection in the event of premature death. |
The types of life insurance may seem endless,
although they are all based upon a few basic types. Whatever type of insurance
is bought, it is important to understand the need upon which the purchase is
based. It is easy to understand why a man or woman with small children would
want insurance. They need to protect their children financially in the event of
their death, and their loss of income or care. As children grow older, many
people need less insurance. Of course, this is not always true. Sometimes as
people get older, they actually end up needing more insurance because their
financial obligations have grown in other areas. Life insurance is often bought
as a protection from death taxes and related death expenses. It may be bought
as a form of business protection (often protecting his loss to the business and
other business partners).
An insurance agent who has made this his or
her career (versus a sideline) can advise clients regarding their options.
Obviously, it is in the client's best interest to deal with an agent who is
knowledgeable and experienced. Insurance agents have begun to specialize in
much the same way other professions have. It is more likely these days to have
one agent for life insurance, one agent for auto and home insurance, and
another agent for health related products. Even within these groups there may
be subspecialties. For example, many agents exclusively market disability
insurance or long-term care products (nursing home insurance).
Agents often hear clients advised to
"shop around." The same is actually true for agents as well. Agents
are sold as much as their clients are. Brokerage houses and insurance companies
must sell the agents on the products they want marketed. Field agents need to
comparison shop for the best products from the best rated companies.
There may be a general assumption that life
insurance products are taxed less than actually are. We always hesitate to get
into any taxation laws or generalities. There is always someone willing to
disagree with our statements. In many cases, there is ample reason to disagree.
Even IRS employees disagree among themselves on many of the points. Experts on
taxation often disagree. We certainly do not intend to make any stand on
taxation. Therefore, we will simply make the broad statement that life
insurance proceeds are not as tax-free or as low-taxed as many people might
believe. Of course, everything depends upon many factors that existed in the
policy and in the will.
The federal code and IRS regulations will
include:
1.
Life insurance
policies that are payable to the estate.
Most life insurance policies do not list the estate as the beneficiary unless
there is a specific reason for doing so. Primarily they tend to list people or
organizations as beneficiaries.
2.
Life insurance
policies that are payable to any other beneficiary which, at the time of death,
possessed any incident of ownership.
This would include ownership which was exercisable alone or in conjunction with
any other person. If the insured possessed no incidents of ownership at the
time of death, the proceeds of the life policy do not become a part of the
taxable estate. As with all IRS rules, change is always possible. Therefore, a
tax specialist should always be consulted.
It is not unusual for gifts to be made of
life insurance policies. Gifts of life insurance must be made carefully. The
time involved following the gift and other aspects will determine taxation.
Again, it is necessary (or at least wise) to consult a tax specialist.
The term "incidents of ownership"
have confused people continually. Previously we discussed this as it related to
taxation. It also has reference to the rights of the insured and the insured's
estate. These rights include the power to change beneficiaries, to surrender or
cancel out the policy, to assign the policy to someone else, or to revoke a
previously given assignment, to pledge the policy when a loan is taken out (as
collateral), or to benefit in some other way from policy ownership. Sometimes
"incidents of ownership" are used in a legal manner and other times
it may be used in a broader sense. In order to fully remove the policy proceeds
from taxation, the insured must totally part with it in some way or other.
There is the basic consensus that, since 1954, mere payment of premiums by the
insured is not an incident of ownership. Even so, because questions can arise
which cause problems, the conservative approach would be to have premium
payments made by someone other than the insured. This might include the
beneficiaries or a third party, who does so as a gift. They might even be made
by the business itself, although this, too, has tax consequences which need to
be discussed with a tax specialist. This might be by sale or gift. As before,
since IRS rules are subject to change, the insured would be wise to consult
with a tax expert. We make no effort to advise on tax matters.
The ownership of policies between spouses is
generally not a federal death tax issue. In 1981 the federal tax laws changed
the taxation of property passing between legally married spouses. Unless
special circumstances exist, insurance proceeds passing from one spouse to the
other are not federally taxed. State taxation must be determined on a
state-by-state basis. Some states tax ALL life insurance proceeds, in a few
states proceeds paid to a named beneficiary (a person, not an
institution) in the policy are not taxed at all. Some states simply state that
proceeds payable to anything other than the estate bypass taxation. Any excess
is taxed. As we have said repeatedly, a tax consultant is necessary to
determine individual situations.
VIATICALS:
It seems that more and more people want to do
their own investing outside of professional counsel. While some are able to do
so successfully, many do so poorly. An example of this is something relatively
new: viaticals. Many investors are finding these offers through their computers
by visiting Web sites. According to Jane Bryant Quinn, financial expert, the ads
on the Web sites are not just misleading; some come close to fraud. One ad on
the Internet is brags of a 75 percent return.
What exactly is a Viatical? In a basic sense,
it is the investment in the pending death of another. The investor purchases a
share in a life insurance policy from someone who is terminally ill. The sick
person gets money to use while they are alive and the investor receives their
portion of the policy upon the person's death. Of course, the investor is to
receive more than they gave because they paid a discounted amount.
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Basically,
viaticals ask investors to purchase a share of a life policy, with returns based upon the pending
death of another. |
Although Life Plan's Web site has stated that
"The supreme court has ruled viatical settlements to be a safe investment
. . ." the US supreme court has ruled no such thing. Life Plan has stated
that they will discontinue that statement; that their source was apparently
wrong.
It is true that viatical's annualized return
can be great, though probably never approaching the 75 percent mark. What is
not stated in these ads are the risks involved. Investors must always remember
that higher potential returns also mean higher potential risks. The US Securities
and Exchange Commission cannot compel full disclosure, because, as ruled in
1996, they lack jurisdiction. No other state or federal agency has stepped in
to seek jurisdiction, although that may happen as consumers begin to yell
louder.
Some of the problems with the ads involves
the wording used. They allow (even encourage) the consumer to assume too much.
For example, that ad stating a 75 percent return is actually referring to the
lump sum that an investor would eventually receive when the insured dies. It
does not disclose the annual yield. If death occurs at the end of five years,
the investor's annual compounded yield would be somewhere around 11.5 percent.
Still a sound return but certainly not 75 percent. If the insured dies sooner
than expected the investor may get a higher annualized yield, but if he or she
dies later than anticipated, a lower yield will result. Most companies see no
reason to give the explanation of annualized yields because they say the exact
time of death cannot be determined.
In most cases, the investor will never own
the policy they have invested in. The viatical company or a trust company owns
the policy. The investor merely has a lien against it. It is not clear how long
the insurance proceeds could be tied up if the company owning it goes out of
business. Since this is a new concept, it is likely that at least some of these
viatical companies could experience financial difficulty in the future.
Some of the viatical investments do begin to
pay monthly income within 30 days. The investor, in these cases, usually must
put up money for two years. The payments come from the profits on previous
viatical contracts. However, if the viatical company's profits dry up, so will
the monthly income payments. The lien would still exist on the policy and would
probably be paid, but there is no guarantee of that.
It is interesting to note that viatical
companies often use banking language in their advertisements. The investment is
referred to as a "deposit"; the insured's (the sick person) life
expectancy is call the investment's "maturity." Perhaps the intent is
to imply security, but that certainly is not the case.
Most of the viatical companies and
advertisements state that there is no commissions paid. That is not exactly
true. Any time a salesperson is involved in these investments there is a
commission paid, usually 5 percent to 9 percent of the policy's face value. In
fact, the ad for Accelerated Benefits did not even write the ad that stated no
commissions were paid. A Tampa, Florida agent (who gets commissions) did. The
agent, Peter Moller, stands by his advertisement because he says the investor
does not pay the commission. Rather, it is paid by the viatical company. While
this may be true, commissions are an overhead expense and ultimately are paid
by the consumer.
Some of the ads state that no further money
will ever be due. If the sick person lives longer than expected, however, some
companies have said that the investors may be required to pay the policy
premiums. This potential cost has not be disclosed.
There is an additional risk that is not
mentioned. If an older person uses their Individual Retirement Account to
invest, if the insured has not died by the investors withdrawal requirement
time (age 70 1/5), there is likely to be a big tax penalty. This would happen
because the person whose life is insured is still alive, so no income is
possible even though withdrawal is mandated on the IRA investment.
Viaticals can yield good returns. The problem
faced by potential investors, however, is the lack of full disclosure. Because
so little information is given, investors are literally investing blindly.
Perhaps this will not be a consideration for those who have money to put into
risk ventures.
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Although viaticals are sometimes promoted as a
use for IRA money, this is very risky if the investor is
older. |