Blog #159: Self-Financed Life Insurance
Meets Wealthy and Wise® (Part 1 of 2)

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(Presentations in this Blog were created using InsMark’s Wealthy and Wise® and Loan-Based Split Dollar System using the Loan-Based Private Split Dollar module.)

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Good as bank-funded premium financing is, self-funded premium financing is often a sound alternative, particularly where there are sufficient liquid assets to support the premium loans needed.

In Blog #126, we examined a client with net worth of $13,600,000, all but $4,000,000 of which was tied up in rapidly appreciating real estate.  A considerable amount of trust-owned life insurance was needed.  The premiums illustrated ($1,937,112 a year for five years) were substantial enough that the client was uncomfortable using liquid assets to fund them.  It was a perfect case for bank-funded premium financing.

In Blog #159, there are sufficient liquid assets to fund the desired premiums for a grantor trust-owned policy.  Due to this liquidity, Loan-Based Private Split Dollar (“LB-PSD”) is an irresistible companion to anchor these five components of an impressive wealth planning strategy:

  • Desired retirement cash flow;
  • Solid net worth;
  • Reduced death taxes;
  • Increased wealth to heirs;
  • Substantial charitable bequest.

Click here for illustration details of the survivor indexed universal life policy used in the LB-PSD illustration.

Click here to review the LB-PSD illustration which is one of the modules in the InsMark Loan-Based Split Dollar System.  The policy is presumed owned by an intentionally defective grantor trust.

Case Study

Tom and Donna Anthony are ages 55 and 50.  Their current net worth is summarized below:

Net Worth
Tom and Donna Anthony

blog 159 image 2 Net Worth Tom and Donna Anthony

Click here for comments regarding yields, sequence of returns, and Monte Carlo simulations.

Tom and Donna want $400,000 in after tax, retirement cash flow indexed at 3.00% beginning at their ages 65/60.  They also want to establish a $10 million Charitable Foundation at their death to fund breast cancer research in memory of Donna’s mother who passed away recently.  (This planned bequest will not restrict their access to any of their assets as it occurs only at their death based on terms of their Wills.)  Let’s see if we can accomplish their two goals (retirement cash flow and charitable bequest) without too much damage to their net worth or the wealth passing to their three children.

Wealthy and Wise® was used for the estate planning analysis which included the values developed by LB-PSD.  After accounting for the cash flow drain of their desired retirement income and loans and gifts to a grantor trust to support the LB-PSD, their net worth is projected to increase from $10 million to almost $17 million by the time they reach 95/90 (two years past their joint life expectancy).  The following graphic summarizes those results:

Image 1
Comparison of Alternatives at Ages 95/90

Comparison of Alternatives at Ages 95/90

Total wealth distributed increases by over 157% (from $24,767,659 to $39,052,776).
Wealth to heirs increases by over $125% (from $21,124,834 to $26,429,430).
Transfer taxes reduce by over 35% (from $3,642,825 to $2,382,865).
Wealth to Charity goes from $0 to $10,240,481.

Net Worth

You are likely wondering what their net worth would be if they leave their current plan as is and forget about the new strategy.  See the graphic below for the comparison.

Image 2
Net Worth Comparison

Net Worth After Providing Required Cash Flow Image

Strategy 2 produces a one-third decrease in net worth caused by the increase in cash flow for loans and gifts needed to support the LB-PSD.  That’s a lot of damage.  Let’s see what we can do to improve it.

The “Forgotten Money?”

Have we overlooked anything?  What about the cash value of the policy in the trust (net of the outstanding loan to the grantor)?  So far, the trust’s net cash value has not appeared as a component of net worth; however, it is clearly part of the family’s wealth prior to the deaths of Tom and Donna.

Image 3
Trust’s 40 Year Analysis

Trust 40 Year Analysis the cash value of the policy in the Trust Image

Using policy loans as a source of funds for the trust, many commentators believe the trust can loan money to Tom and Donna using what is known as a Wrap Trust, a term that has been copyrighted by James G. Blase, JD, LLM, of St. Louis, Missouri, as the Wealth, Retirement, and Asset Protection (WRAP) Trust.

Click here to read a report on the subject of Wrap Trusts that also includes an unusual use of limited powerholders to provide possible grantor access to funds in the trust.

Below is a reflection of Tom and Donna’s net worth in which the cash value of the trust’s policy is included in a category called “Family Net Worth”.  This is not double counting of cash values since only the policy death benefit appears in the reports and graphics for wealth to heirs.  Adding these values to Family Net Worth has no bearing on the wealth to heirs since, on the death of the second-to-die insured, this aspect of Family Net Worth disappears and is replaced by the tax free life insurance death benefit.

Image 4
Family Net Worth Comparison

Family Net Worth Cumulative Spendable Cash Flow Image

Long-range Family Net Worth in Strategy 3 now exceeds Family Net Worth in Strategy 1 by almost $4.3 million, an increase of 17.3%.  As you can see below, Wealth to Heirs has also been increased considerably.

Image 5
Wealth to Heirs Comparison

Wealth to Heirs Comparison Image

And finally, last but not least, the Anthony Family Charitable Foundation is scheduled to emerge at Tom and Donna’s death.

Wealth to Charity Image

All this has been accomplished with no additional out-of-pocket cost for Tom and Donna as all cash flow requirements have been funded by asset allocation producing what is known as a Cash Flow Neutral evaluation.

Click here to view the 70-page Wealthy and Wise evaluation.

That’s a lot of reports; however, with a Wealthy and Wise presentation, I recommend that you have all the reports for a given analysis with you when you are visiting with a client or client’s attorney or CPA.  The system backs up every number shown, and you never know which report you’ll need to have handy to answer the inevitable question, “Where did this number come from?”

Most Wealthy and Wise users select a few key illustrations for the main report and put the balance in supplemental sections or an Appendix.  More elaborate report organization can be accomplished (Table of Contents and Section pages) through use of the following prompt which I used for this Blog — located on the bottom right of the Main Workbook Window:

preview or print client presentation

Conclusion

It would be difficult to present LB-PSD as an effective tool for Tom and Donna without integrating its data within a “do it vs. don’t do it” Wealthy and Wise evaluation as the stand-alone numbers of LB-PSD need an overall wealth context to make the most sense.  This is true of almost any premium financing arrangement as well as executive benefit plans (as discussed in Blog #158: Integrating Executive Benefit Plans with Retirement Planning).

Some Details

Wealthy and Wise has special receptors that recognize data from our LB-PSD illustrations.  Click here to learn how to export data from LB-PSD to Wealthy and Wise.

It is important to use loans – not gifts – from the grantor to fund the trust as gifts are limited by the lifetime gift exemption and available annual exclusions.  Loans are not bound by such rules.

The trust associated with LB-PSD is an irrevocable grantor trust.  Gifts are made to the trust to cover the cost of the loan interest due to the grantor; however, the grantor owes no income tax on the interest payments received from the trust.  Under grantor trust rules, the trust and the grantor are a single income tax entity, and income tax consequences on transactions between them are ignored.  (IRC Secs. 671 and 675, IRS Reg. 1.671-2(c), and Rev. Rul. 85-13.)

Can LB-PSD can be funded with a one-time premium?  Yes, but that will produce a modified endowment contract (“MEC”) – usually not the best course of action.  It can be funded with a one-time loan and avoid MEC status by using our Premium Reserve Account (“PRA”) logic that gradually feeds out premiums that avoid producing a MEC.  In Blog #160 (scheduled for May 1), I will illustrate that technique using Tom and Donna’s data.

InsMark’s Digital Workbook Files

If you would like some help creating customized versions of the presentations in this Blog for your clients, watch the video below on how to download and use InsMark’s Digital Workbook Files.

New Zip File Downloaders
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Digital Workbook Files For This Blog

Blog159.zip

Download all workbook files for all blogs

Experienced Zip File Downloaders Download the zip file, open it, and double click the Workbook file name to open it in your InsMark System.

Note:  If you are viewing this on a cell phone or tablet, the downloaded Workbook file won’t launch in your InsMark System.  Please forward the Workbook where you can launch it on your PC where your InsMark System(s) are installed.

If you obtain the digital workbook for Blog #159, click here for a guide to its content.

Documents On A Disk imageSpecial plan documentation is required to support Loan-Based Private Split Dollar.  InsMark’s Cloud-Based Documents On A Disk™ (“DOD”) contains a comprehensive set of specimen documents for it in the Wealth Transfer Plans section of documents.  Look for Loan Regime Private Collateral Assignment Split Dollar in the Private Split Dollar Plans section of documents.  If you are not licensed for DOD and would like more information, go to www.documentsonadisk.com.  If you are licensed for DOD, you can access the document sets by signing in at www.insmark.com.

Licensing InsMark Systems

To license any of the InsMark software products, visit our Product Center online or contact Julie Nayeri at Julien@insmark.com or 888-InsMark (467-6275).  Institutional inquiries should be directed to David Grant, Senior Vice President — Sales, at dag@insmark.com or (925) 543-0513.

For help on how to use InsMark software, go to The Quickest Way To Learn InsMark.

InsMark’s Referral Resources
(Put our Illustration Experts to Work for Your Practice)

We created the Referral Resources listed below to deliver a “do-it-for-me” illustration service in a way that makes sense for your practice.  All are IMOs and InsMark Agency Platinum Power Producers®, and they are highly skilled at running InsMark software.  They will utilize your choice of insurance company, and they do not require a commission split.

Mention my name when you talk to our Referral Resources as they have promised to take special care of my readers.  My only request is this: if a Referral Resource helps you get the sale, place at least that case through them; otherwise, you will be taking unfair advantage of their generous offer to InsMark licensees.

Save time and get results with any InsMark illustration!

Testimonials

“InsMark has created without question the best suite of software for our industry that has ever existed.  I personally have been using their software for almost 30 years, and it changed my career.  This unique and user friendly software will add many thousands to your income for as long as you’re in business.  InsMark makes me look good, and it will you as well.”
Simon Singer, CFP®, CAP®, RFC®, Past President International Forum, InsMark Platinum Power Producer®, Encino, CA

“If you don’t get the client to distinguish cash flow from net worth, you won’t make the case sale.  In my experience, Wealthy and Wise is the only system that recognizes this important estate planning component.”
Stephen Rothschild, CLU, ChFC, CRC, RFC, International Forum Member, Saint Louis, MO

“The InsMark software is indispensable to my entire planning process because it enables me to show my clients that inaction has a price tag.  I can’t afford to go without it!”
David McKnight, Author of The Power of Zero, InsMark Gold Power Producer®, Grafton, WI

“I am writing to give you a ringing endorsement for the Wealthy and Wise System.  As you know, I am a LEAP practitioner.  The Wealthy and Wise software has helped me supplement my LEAP skills in the over age 60 client base.  I have been paid for many cases using Wealthy and Wise as support, the smallest of which was $27,000, the largest was $363,000.  With those type of commissions, you would have to be nuts not to buy it.”
Vincent M. D’Addona, CLU, ChFC, MSFS, AEP, InsMark Platinum Power Producer®, New York City, NY

“Major cases we are developing have all moved along successfully because of the sublime simplicity and communication capability of Wealthy and Wise.  I guarantee that the proper use of this tool will dramatically raise the professional and personal self-image of any associate who dares to take the time to understand it . . .”
Phillip Barnhill, CLU, InsMark Gold Power Producer®, Minneapolis, MN

 

Important Note #1:  The hypothetical life insurance illustration associated with this Blog assumes the nonguaranteed values shown continue in all years.  This is not likely, and actual results may be more or less favorable.  Actual illustrations are not valid unless accompanied by a basic illustration from the issuing life insurance company.

Important Note #2:  Many of you are rightly concerned about the potential tax bomb in life insurance that can accidentally be triggered by a careless policyowner.  Click here to read Blog #51: Avoiding the Tax Bomb in Life Insurance.

Important Note #3:  The information in this Blog is for educational purposes only.  In all cases, the approval of a client’s legal and tax advisers must be secured regarding the implementation or modification of any planning technique as well as the applicability and consequences of new cases, rulings, or legislation upon existing or impending plans.

“InsMark” and “Wealthy and Wise” are registered trademarks of InsMark, Inc.
“Documents On A Disk” is a trademark of InsMark, Inc.

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More Recent Blogs:

Blog #158: Integrating Executive Benefit Plans with Retirement Planning

Blog #157: Another Good News / Bad News Benefit Plan™ (Part 2 of 2)

Blog #156: Good News / Bad News Executive Benefit Plan™ (Part 1 of 2)

Blog #155: Marketing Magnification (Using Online Video)

Blog #154: Smart Alternatives to Traditional Retirement Plans (Part 4 of 5)

Blog #153: Smart Alternatives to Traditional Retirement Plans (Part 3 of 5)

 

3 Reasons Why It’s Profitable For You To Share These
Blog Posts With Your Business Associates and
Professional Study Groups (i.e. “LinkedIn”)

 

Robert B. Ritter, Jr. Blog Archive

 

Blog #158: Integrating Executive Benefit Plans with Retirement Planning

(Click here for Blog Archive)
(Click here for Blog Index)

(Presentations in this blog were created using InsMark’s Wealthy and Wise® and the InsMark Illustration System.)

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Participating policy loans on max-funded Indexed universal life (“IUL”) policies can provide serious supplements to retirement cash flow (see Blog #58).  The same can be said for executive benefits funded with IUL.

A life insurance illustration needs to be intelligently integrated within an overall retirement plan in order to communicate its use effectively.  It is not enough to have a comprehensive retirement plan where the life insurance illustration is shown separately and disconnected.  Nor is it enough to just show the life insurance illustration and say, “Look at this great retirement cash flow.  Isn’t this a wonderful addition to your retirement?”

If a client has a formal retirement plan, the life insurance needs to be a part of it – regardless of its funding.  This means integration with full-pay policies, executive benefit policies, premium financed policies, trust-owned policies, etc.  If a client doesn’t have a formal retirement evaluation, you are well-advised to get one underway as it will make your life insurance presentations significantly more dramatic as you will see below.

We designed Wealthy and Wise® to perform this evaluation where we typically compare “do it vs. don’t do it” and include the life insurance in one of a “do it” scenarios. We can also direct Wealthy and Wise to fund premium costs, income tax costs of bonus benefit plans, and loan interest costs of premium financing and split dollar arrangements via asset allocation rather than out-of-pocket expenditures.  For an example, I’ll use one of the Controlled Executive Bonus Plans described in Blog #156 for Alan Westbrook, age 45, Senior Vice President, Sales, for Midland Oil Supply, Inc.

Alan is a serious rainmaker for the Midland Oil and a non-shareholder, and the company wants to keep him employed.  As a result, he has been offered a bonus plan funding an IUL policy that, provided he remains employed for the next ten years, will reward him with annual, after tax, retirement cash flow of $235,000 a year starting at age 65 (totaling over $7 million for the years illustrated).  Due to his employer paying him a deductible gross-up bonus to cover the policy premium and the tax on the bonus, Alan has no out-of-pocket cost for the plan if, again, he remains employed for at least ten years.  During those first ten years, he risks some serious repayment of bonuses should he voluntarily resign or is terminated for cause.  (In this example, the ten-year repayment obligation is waived if he dies during the first ten years.)

There were two Controlled Executive Bonus arrangements in Blog #156Click here to review the second one — the main illustration for the plan is on Pages 2 and 3, and you can see the repayment obligations on Page 4.

Note:  A Controlled Executive Bonus somewhat resembles a split dollar plan, but it is not governed by the new split dollar regulations issued in 2003.  Click here to review the differences.

Retirement Case Study

Alan and his wife, Jordan, are both age 45.  Between them, their gross income is $450,000.  Their state and federal marginal income tax bracket is 40%.  After all taxes, their net income is $325,000.  Their current net worth is $730,000, and below are the details:

Net Worth
Alan and Jordan Westbrook

blog 158 image 2 retirement case study net worth

Click here for comments regarding yields, sequence of returns, and Monte Carlo simulations.

The Westbrooks want to duplicate their current after tax income of $325,000 beginning at age 65 and index it by 3.00% a year for an inflation offset.  This should be reevaluated yearly and adjusted accordingly as their after tax income increases (or decreases).

Note:  This need for ongoing evaluation is why you should charge ongoing monitoring fees for Wealthy and Wise analyses (assuming you have no compliance prohibitions against it).  See Blog #98 for an analysis that compares charging or not charging such fees.

The Westbrook’s projected net worth (including the additional contributions to their retirement plan and equity account) is not sufficient to support their desired retirement cash flow.  As shown by the red arrow in graphic Image 1 below (from Wealthy and Wise), this begins at age 77, and all they are left with is their Social Security income and their home.

Image #1

blog 158 image 1 comparison of annual cash flow required vs provided

Click here to review the year-by-year bad news starting at age 76.

This inevitably leads them to this question: “What should we do?”

They have several options:

  • Reduce their retirement cash flow goal considerably;
  • Eliminate the indexing on retirement cash flow;
  • Delay retirement;
  • Manage liquid assets for more aggressive yield;
  • Transfer a portion of conservatively invested liquid assets into more aggressive investments;
  • Sell their home at retirement and downsize to a smaller home and transfer the freed-up funds to liquid assets.
Assuming their home has grown at 5.00% a year (their assumption) to a little over $1.3 million, downsizing to, say, a $600,000 replacement home helps by providing a little over $500,000 of additional cash to add to liquid assets.  Click here to review that data.  Unfortunately, it only adds four years to their desired cash flow.
Image 2 below (from Wealthy and Wise) reflects this reduction in cash flow.  Image 2 may look exactly like Image 1, but a careful look shows the red arrow in Image 2 has moved slightly to the right to begin at age 79, and all they are left with is their Social Security income and their downsized home.
Image #2

blog 158 image 2 comparison of annual cash flow required vs provided

Alan and Jordan are fortunate recipients of the Controlled Executive Bonus plan provided by Alan’s employer, Midland Oil Supply, Inc. To demonstrate this to them, I’ll integrate its $235,000 in annual, after tax, retirement cash flow along with its cash value and death benefit into their overall Wealthy and Wise analysis.

Click here for directions on how to import case-specific executive bonus data calculated in the InsMark Illustration System into Wealthy and Wise.

The problem is solved — as you can see below in the Wealthy and Wise graphic comparing all three Strategies:

Image #3
Strategy 1 vs. Strategy 2 vs. Strategy 3
Net Worth

blog 158 image 3 Wealthy and Wise comparison of net worth cumulative spendable cash flow plus excutive bonus plan

The results of the bonus plan provided to Alan by Midland Oil Supply, Inc. are extraordinary, and you don’t want a graphic like this shown to your clients by anyone other than you.  When integrated within their retirement plan, the cash flow realized not only meets their goals, it is more than double what their current plan provides.  In addition, it does so with long-range net worth exceeding $12.5 million – which again is more than double what their current plan provides.

Click here to view all the reports in the analysis.  (We illustrated all three scenarios to age 95, five years past their joint life expectancy.)

There are 99 pages of reports from this InsMark Wealthy and Wise evaluation including 9 different graphics and 51 different numerical reports, many of which extend to two pages.  That’s a lot of reports; however, with a Wealthy and Wise presentation, I recommend that you have all the reports for a given analysis with you when you are visiting with a client or client’s attorney or CPA.  The system backs up every number shown, and you never know which report you’ll need to have handy to answer the inevitable question, “Where did this number come from?” That’s why I provided all of them to you in this Blog.

Most Wealthy and Wise users select a few key illustrations for the main report and put the balance in supplemental sections or an Appendix.  More elaborate report organization can be accomplished (Table of Contents and Section pages) through use of the following prompt which I used for this Blog — located on the bottom right of the Main Workbook Window:

preview or print client presentation image

Conclusion

At this point, there has been sufficient analysis that likely causes Alan and Jordan to 1) value their Controlled Executive Bonus Plan as a very generous retirement supplement and 2) welcome the golden handcuffs that go with it.  If Alan declines to participate, it provides a valuable warning to Midland Oil Supply that he is likely thinking of other employment opportunities — an unfortunate discovery, perhaps, but certainly a valuable one, and a collateral benefit for an employer not normally associated with executive fringe benefits.

Almost all non-shareholder executives are concerned about their retirement.  I believe exporting values of an executive benefit like a Controlled Executive Bonus to Wealthy and Wise makes that benefit virtually irresistible to the covered executive.  I also believe employers will be much more inclined to reward such plans to top, non-shareholder executives due to this enhanced perception of the benefits.  That means both the benefit plan and its impact on retirement planning should be emphasized to employers.  You might start prospecting by asking key owners to read this Blog (assuming they have key non-shareholders they would like to pin closer to the firm.)

InsMark’s Digital Workbook Files

If you would like some help creating customized versions of the presentations in this Blog for your clients, watch the video below on how to download and use InsMark’s Digital Workbook Files.

New Zip File Downloaders
Watch the video.

Digital Workbook Files For This Blog

Blog158.zip

Download all workbook files for all blogs

Experienced Zip File Downloaders Download the zip file, open it, and double click the Workbook file name to open it in your InsMark System.

Note:  If you are viewing this on a cell phone or tablet, the downloaded Workbook file won’t launch in your InsMark System.  Please forward the Workbook where you can launch it on your PC where your InsMark System(s) are installed.

If you obtain the digital workbook for Blog #158, Click here for a guide to its content.

Note:  You can retrieve the digital workbook for the InsMark Illustration System containing the Controlled Executive Bonus illustration and the guide to its content from this same location in Blog #156.

Note:  Special plan documentation is required to support a Controlled Executive Bonus Plan.  InsMark’s Cloud-Based Documents On A Disk™ (“DOD”) contains comprehensive sets of specimen documents for the Controlled Executive Bonus Plan in the Key Employee Benefit Plans section of documents.  If you are not licensed for DOD and would like more information, go to www.documentsonadisk.com.  If you are licensed for DOD, you can access the document sets by signing in at www.insmark.com.

Licensing InsMark Systems

To license any of the InsMark software products, visit our Product Center online or contact Julie Nayeri at Julien@insmark.com or 888-InsMark (467-6275).  Institutional inquiries should be directed to David Grant, Senior Vice President — Sales, at dag@insmark.com or (925) 543-0513.

For help on how to use InsMark software, go to The Quickest Way To Learn InsMark.

InsMark’s Referral Resources
(Put our Illustration Experts to Work for Your Practice)

We created the Referral Resources listed below to deliver a “do-it-for-me” illustration service in a way that makes sense for your practice.  All are IMOs and InsMark Agency Platinum Power Producers®, and they are highly skilled at running InsMark software.  They will utilize your choice of insurance company, and they do not require a commission split.

Mention my name when you talk to our Referral Resources as they have promised to take special care of my readers.  My only request is this: if a Referral Resource helps you get the sale, place at least that case through them; otherwise, you will be taking unfair advantage of their generous offer to InsMark licensees.

Save time and get results with any InsMark illustration!

Testimonials

“InsMark has created without question the best suite of software for our industry that has ever existed.  I personally have been using their software for almost 30 years, and it changed my career.  This unique and user friendly software will add many thousands to your income for as long as you’re in business.  InsMark makes me look good, and it will you as well.”
Simon Singer, CFP®, CAP®, RFC®, Past President International Forum, InsMark Platinum Power Producer®, Encino, CA

“If you don’t get the client to distinguish cash flow from net worth, you won’t make the case sale.  In my experience, Wealthy and Wise is the only system that recognizes this important estate planning component.”
Stephen Rothschild, CLU, ChFC, CRC, RFC, International Forum Member, Saint Louis, MO

“I am writing to give you a ringing endorsement for the Wealthy and Wise System.  As you know, I am a LEAP practitioner.  The Wealthy and Wise software has helped me supplement my LEAP skills in the over age 60 client base.  I have been paid for many cases using Wealthy and Wise as support, the smallest of which was $27,000, the largest was $363,000.  With those type of commissions, you would have to be nuts not to buy it.”
Vincent M. D’Addona, CLU, ChFC, MSFS, AEP, InsMark Platinum Power Producer®, New York City, NY

“InsMark helps us help our clients understand their money and their choices.  I always learn something new that changes what we do and how we can do it more efficiently.  That translates to a better bottom line for us and for our clients.  It’s making more money for everyone — just by pushing InsMark buttons on the computer.”
Kay Corbin, CLU, ChFC, InsMark Platinum Power Producer®, Phoenix, AZ

“Major cases we are developing have all moved along successfully because of the sublime simplicity and communication capability of Wealthy and Wise.  I guarantee that the proper use of this tool will dramatically raise the professional and personal self-image of any associate who dares to take the time to understand it . . .”
Phillip Barnhill, CLU, InsMark Gold Power Producer®, Minneapolis, MN

 

Important Note #1:  The hypothetical life insurance illustrations associated with this Blog assume the nonguaranteed values shown continue in all years.  This is not likely, and actual results may be more or less favorable.  Actual illustrations are not valid unless accompanied by a basic illustration from the issuing life insurance company.

Important Note #2:  Many of you are rightly concerned about the potential tax bomb in life insurance that can accidentally be triggered by a careless policyowner.  Click here to read Blog #51: Avoiding the Tax Bomb in Life Insurance.

Important Note #3:  The information in this Blog is for educational purposes only.  In all cases, the approval of a client’s legal and tax advisers must be secured regarding the implementation or modification of any planning technique as well as the applicability and consequences of new cases, rulings, or legislation upon existing or impending plans.

“InsMark” and “Wealthy and Wise” are registered trademarks of InsMark, Inc.
“Documents On A Disk” is a trademark of InsMark, Inc.

 

seperator bar

More Recent Blogs:

Blog #157: Another Good News / Bad News Benefit Plan™ (Part 2 of 2)

Blog #156: Good News / Bad News Executive Benefit Plan™ (Part 1 of 2)

Blog #155: Marketing Magnification (Using Online Video)

Blog #154: Smart Alternatives to Traditional Retirement Plans (Part 4 of 5)

Blog #153: Smart Alternatives to Traditional Retirement Plans (Part 3 of 5)

 

3 Reasons Why It’s Profitable For You To Share These
Blog Posts With Your Business Associates and
Professional Study Groups (i.e. “LinkedIn”)

 

Robert B. Ritter, Jr. Blog Archive

 

Blog #157: Another Good News / Bad News Benefit Plan™ (Part 2 of 2)

(Click here for Blog Archive)
(Click here for Blog Index)

(Presentations in this Blog were created using the InsMark Loan-Based Split Dollar System)

Getting Started with InsMark Training Video

Bob Ritter's Blog #157: Another Good News / Bad News Benefit Plan™ (Part 2 of 2)

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Blog #157 will stress-test Loan-Based Split Dollar (LB-SD) as an alternative to the Controlled Executive Bonus Plan described in Blog #156.

Some Background

In Blog #156, we examined the use of a personally-owned Indexed Universal Life (“IUL”) policy funded with an executive bonus for Alan Westbrook, age 45, Senior Vice President, Sales, for Midland Oil Supply, Inc., an S corporation.  Alan is a serious rainmaker for the firm, but he is not a stockholder.  Midland’s President, Jennifer Hunt, wants to provide him with a significant retirement plan in addition to the company’s 401(k) plan in order to ensure he stays with the firm.

Jennifer is in a 40% income tax bracket counting the pass-through of the company’s taxable income.  Alan is in a 35% income tax bracket.

Blog #156 featured a Controlled Executive Bonus arrangement that was used to fund the IUL policy owned by Alan.  The “Control” feature is a written agreement with Alan that he must repay a portion of the bonuses should he voluntarily leave the firm (or be terminated for cause) during a prescribed number of years.  With Plan 1, the bonus repayment obligation terminates in five years.  An alternate Plan 2 terminates the repayment obligation in ten years.

Click here to review the tax consequences of the executive repaying any of the bonuses and the employer receiving such repayment.

Alan’s IUL has five annual premiums of $65,000 that are funded with a yearly gross-up bonus of $100,000 which includes the tax on the bonus.  The plan has a cumulative bonus repayment requirement of 60% during the five years (see Image 1 below).  This eliminates any repayment by the beginning of year 6, at which point the retirement benefit is fully funded.  Plan 1 is illustrated to produce annual, after tax, retirement cash flow of $75,000 a year starting at age 65 — all for no out-of-pocket cost for Alan assuming he remains employed for five years.  After tax, retirement, cash flow benefits total $2.25 million for the years illustrated.

Below are the repayment requirements of Plan 1.

Controlled Executive Bonus Plan 1
Image #1

Blog 157 image 1 Controlled Executive Bonus Plan 1

The ten-year premium for Plan 2 is $65,000 a year for five years increasing to $130,000 in years six through ten and is subject to a cumulative bonus repayment requirement of 60% during the first five years reducing by 10% a year in years six through ten (see Image 2 below).  This eliminates any repayment by the beginning of year 11, at which point the increased retirement benefit is fully funded.  Plan 2 is illustrated to produce annual, after tax, retirement cash flow of $235,000 a year starting at age 65 — all for no out-of-pocket cost for Alan assuming he remains employed for ten years.  After tax, retirement, cash flow benefits total over $7 million for the years illustrated.

Below are the repayment requirements of Plan 2.

Controlled Executive Bonus Plan 2
Image #2

Blog 157 image 2 Controlled Executive Bonus Plan 2

Click here to review the illustration for the Controlled Executive Bonus (Plan 2).

The repayment obligations of a Controlled Executive Bonus Plan may remind you of split dollar in many ways, but it is essentially quite different particularly in that the funding bonuses are tax deductible by the employer, and the premium loans in split dollar are not.  Click here to review a report entitled “Controlled Bonus Plan vs. Split Dollar Plan”.

Note:  If you missed reading Blog #156, you may want to review it for complete details of both Controlled Executive Bonus Plans.

Loan-Based Split Dollar

LB-SD automatically has a “Control” feature due to the premium loans made by the employer to fund the plan.  Split dollar loans are due in full until repaid unlike the plans in Blog #156 described above in which the employer establishes the percent of the cumulative bonuses due for repayment if the executive terminates voluntarily or is let go for cause.

The IUL illustration used with the LB-SD benefit plan is also the same one I used with Plan 2 of the Controlled Executive Bonus plan, i.e., five annual premiums of $65,000 followed by five annual premiums of $130,000, all funded by loans from Midland Oil Supply to Alan.

Dealing with the outstanding loans at the beginning of year 11 can be accomplished in several ways, all of which can be illustrated in the InsMark Loan-Based Split Dollar System:

1.     
Continue the loans.
This is not effective as it merely continues the “Control” period limiting Alan’s ability to leave the firm without any loan repayment obligations.
2.     
The executive repays the loans with personal funds.
This is obviously not an effective part of an executive benefit plan.
I can’t imagine using this for owner-executives.
3.     
The executive borrows from the policy to repay the loans.
This reduces Alan’s annual, after tax, retirement cash flow considerably.  (If a policy loan of $975,000 is taken in year 11 to repay the employer, the annual, after tax, retirement cash flow drops from $235,000 a year to $97,500.)
This variation is usually not efficient for owner-executives unless there is a different reason involved — like the sale of the business.
4.     
Pay Alan a one-time gross-up bonus sufficient for the tax on the bonus plus repayment of the premium loans.
This is not effective since a lump sum bonus of the size necessary to repay $975,000 of loans will increase Alan’s income tax bracket which, when applied to the bonus, will require an even bigger bonus to cover the repayment of the premium loans and the tax on the increased bonus.
5.     
Schedule equal annual bonuses that gradually repay all the premium loans over the remaining years until normal retirement (10 years in Alan’s case).
This is not effective as the “Control” of the outstanding premium loans now stretches until retirement, not an attractive result for today’s mobile executives.
This variation is often effective with owner-executives who have no interest in maintaining a “Control” feature for themselves.

Today’s non-owner executives are seriously mobile.  The more effective they are, the more mobile they become.  This is the reason that Jennifer Hunt, Midland Oil’s President, wants to provide Alan with a “get-out-of-jail” card with no obligation to remain employed past 10 years (in the case of Plan 2).  Is this thoughtless on her part?  Shouldn’t she want to retain Alan longer than 10 years?  If he is still a rainmaker, assuredly yes, and Jennifer is certainly free to include him in a new Controlled Executive Bonus Plan plan starting in year 11 in order to induce him to stay on board (likely with higher funding than Plan 2).

Each of the five exit strategies noted above is not particularly effective in this case which leads to the conclusion that LB-SD is not an appropriate executive benefit for a non-owner like Alan.  The Controlled Executive Bonus Plan is clearly the new split dollar alternative for those companies with important non-owner executives that want a powerful benefit plan for key executives, current tax deduction for funding, design flexibility, and serious financial penalties for top executives who depart early.

If I had to pick one of the split dollar exit options for Alan, I would select the one that schedules equal bonuses in years 11 - 20 that gradually repays all the premium loans over the remaining pre-retirement years.  (This is an easy option in the software.)

Click here to view this particular split dollar variation prepared in the InsMark Loan-Based Split Dollar System.  Due to its extended years of premium loans, the illustration reflects use of the long-term Applicable Federal Rate (“AFR”) to establish the loan interest rate for the premium loans.

Below in Column (1) is the “Control” feature of LB-SD in pre-retirement years.  By the beginning of year 11, $877,500 of the policy cash value is tied up with premium loans.  In the case of the Controlled Executive Bonus, all policy values are free and clear at this same point.

Blog 157 image 4 Excutives Net Cash Value Calculation

For comparison purposes, Click here to review the illustration for the Controlled Executive Bonus (Plan 2) in Blog #156 which far better suits Alan’s situation as well as the company’s.

Conclusion

So, is there a general rule when to use Controlled Bonus and LB-SD?

It depends on whether the covered executive is an owner or non-owner of the business.  My personal preference used to be LB-SD for either group, but with the development of the Controlled Executive Bonus, that arrangement has become my recommended plan for non-owner executives employed by any business entity (including C or S corporation, LLC, Partnership, Sole Proprietorship, and Tax Exempt Organization).

I think the decision as to Controlled Bonus or LB-SD for owner-executives depends on the relative tax brackets of the company and the owner-executive and the format of the business.  First, owners of companies that are not corporations can’t make much use of either personally-owned bonus or split dollar plans.  Even with a C corporation, a bonus paid to an owner who is in a higher tax bracket than the company may not make much sense either; LB-SD would likely be better.  When the owner of a C corporation is in a lower tax bracket than the company (you won’t find many such prospects), a bonus plan without the “Control” feature could be appropriate.

The company’s perspective is critical in the selection of which plan to use as they both offer a superb benefit for a non-owner executive.  If you are the CEO making the decision, which would you rather have: Controlled Executive Bonus with a funding tax deduction each year for ten years or LB-SD with non-deductible premium loans each year for the first ten years followed by ten years of tax deductions as the exit strategy of bonus rollouts occur?  I believe the Controlled Executive Bonus would be selected in most cases.

Note:  One concept that works well for owners and non-owners of any entity (C or S corporation, LLC, Partnership, Sole Proprietorship, and Tax Exempt Organization1) is Executive Trifecta®, an InsMark-developed concept.

1There are no individual “owners” of a Tax Exempt Organization, so this comment applies only to executives of such organizations.

If you would like to review how Executive Trifecta works, go to Blog #136: Taking Care of a Rainmaker or, for an advanced version that uses data from our Key Executive Calculator to mathematically determine the loss of a key executive’s services, go to Blog #44: Alternate Golden Handcuffs for Tom Hamilton (Part 4 of “Valuing the Business”).  Blog #44 is the concluding episode of a 4-part series involving strategies for deciding to sell a closely held business.  If this overall analysis is of interest to you, go to my Blog Archives and review Blogs #41, #42, #43, and #44.

Prospecting

One sure way to ramp up activity regarding executive benefits is to ask business owners this question:

“Do you have any non-owner executives who are so valuable to your business that you want to do whatever is economically feasible to induce them to stay with you?”

If the answer is “Yes,” say:

“Retirement planning concerns are on the minds of most -- maybe all -- of your executives.  I’d like to show you a selective, cost-efficient way your company can provide a serious retirement enhancement to important executives.  Would you like to see how it works?”

If you do this, you should get many favorable responses.

Plan Documentation

Documents On A Disk imageVariations of Loan-Based Split Dollar and Controlled Executive Bonus are available in InsMark’s Cloud-Based Documents On A Disk™ (“DOD”) in the Key Employee Benefit Plans section of documents.  If you are not licensed for DOD and would like more information, go to www.documentsonadisk.com.  Those licensed for DOD can access DOD and those document sets by signing in at www.insmark.com.  (Specimen documents for Executive Trifecta are also available in this same location.)

InsMark’s Digital Workbook Files

If you would like some help creating customized versions of the presentations in this Blog for your clients, watch the video below on how to download and use InsMark’s Digital Workbook Files.

New Zip File Downloaders
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Digital Workbook Files For This Blog

Blog157.zip

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Experienced Zip File Downloaders Download the zip file, open it, and double click the Workbook file name to open it in your InsMark System.

Note:  If you are viewing this on a cell phone or tablet, the downloaded Workbook file won’t launch in your InsMark System.  Please forward the Workbook where you can launch it on your PC where your InsMark System(s) are installed.

Click here for the Guide to Digital Workbook File for Blog #157 that summarizes its contents of the Workbook.

Licensing InsMark Systems

To license any of the InsMark software products, visit our Product Center online or contact Julie Nayeri at Julien@insmark.com or 888-InsMark (467-6275).  Institutional inquiries should be directed to David Grant, Senior Vice President — Sales, at dag@insmark.com or (925) 543-0513.

For help on how to use InsMark software, go to The Quickest Way To Learn InsMark.

 

InsMark’s Referral Resources —- Global short code goes here for Regular Blog subscribers only—-

 

Testimonials

“InsMark has increased my production by 10 fold.  It clearly communicates to the client the best financial scenario to take.”
Gary Sipos, M.B.A., A.I.F.® InsMark Platinum Power Producer®, Sipos Insurance Services, Freehold, NJ

“The reason I use InsMark products is because they are so good at explaining financial concepts to all three parties: 1) the producer trying to explain the idea; 2) the computer technician trying to illustrate it; 3) the customer trying to understand it.”
Rich Linsday, CLU, AEP, ChFC, InsMark Power Producer®, Top of the Table, International Forum, Pasadena, CA

“My experience with InsMark’s Executive Trifecta is career changing.  Showing this idea to a business owner is a win-win-win!  The business owner wins by protecting and retaining one of his most valuable assets (a key executive).  The executive wins by being recognized and rewarded for efforts, results, and loyalty.  The financial professional wins by gaining the confidence and business of a new client.  This concept can revolutionize a financial services career.”
Kerry L. Walker CLU, ChFC, InsMark Platinum Power Producer®, The Walker Firm, Inc., Aurora, CO

 

Important Note #1:  The hypothetical life insurance illustrations associated with this Blog assume the nonguaranteed values shown continue in all years.  This is not likely, and actual results may be more or less favorable.  Actual illustrations are not valid unless accompanied by a basic illustration from the issuing life insurance company.

Important Note #2:  Many of you are rightly concerned about the potential tax bomb in life insurance that can accidentally be triggered by a careless policyowner.  Click here to read Blog #51: Avoiding the Tax Bomb in Life Insurance.

Important Note #3:  The information in this Blog is for educational purposes only.  In all cases, the approval of a client’s legal and tax advisers must be secured regarding the implementation or modification of any planning technique as well as the applicability and consequences of new cases, rulings, or legislation upon existing or impending plans.

“InsMark” is a registered trademark of InsMark, Inc.
“Executive Trifecta” is a registered trademark of InsMark, Inc.
“Documents On A Disk” is a trademark of InsMark, Inc.
“Good News / Bad News Benefit Plan” is a trademark of InsMark, Inc.

 

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Blog #156: Good News / Bad News Executive Benefit Plan™ (Part 1 of 2)

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