Thomson Reuters Estate Planning Journal, July 2024 Issue: "Wait And See" Insurance Planning - An Innovative Technique for Transitional Times
Author: Jennifer Burnham-Grubbs – Published: Thomson Reuters July 2024
While insurance and estate planning experts know that estate tax exemptions are set to drastically reduce on January 1, 2026, consumers and clients still seem hugely uninformed about the Tax Cuts and Jobs Act (TCJA) Sunset slated in less than a year and half. Americans currently enjoy an extraordinarily high estate and gift tax exemption of nearly $27.22M per married couple. This currently places many wealthy families below the threshold for advanced gift planning and has temporarily decreased demand for Irrevocable Trust planning with permanent life insurance. Yet those who believe Estate Tax exemptions will remain this extraordinarily high stand to face a rude awakening.
After all, the Sunset is already signed into law. Congress would need to:
1. achieve consensus on a viable alternative and
2. pass a bill prior to January 2026 to prevent the Sunset.
In an increasingly divided Washington, we’ve seen major struggles to achieve consensus on key issues including the Affordable Care Act, which today remains our nation’s ‘default’ healthcare plan for lack of other solutions. Given the difficulty reaching consensus on those issues, changes to the Sunset are possible but not guaranteed.
More importantly: the U.S. faces a growing debt crisis. It simply can’t afford NOT to Sunset these estate tax exemptions, political pressure aside. As a recent Bloomberg study revealed, U.S. federal debt reached 97% of GDP in 2023, and remains on trend to hit 116% by 2034 – surpassing even World War II levels. 1 Such alarming stats go beyond any single election cycle and speak to an unsustainable pattern of prolonged overspending, exacerbated (though not caused) by Covid-19 relief efforts, funding for global conflicts, and runaway inflation.
Higher net worth estates stand poised to eventually take the brunt of these economic pressures when the need for recouping revenue becomes dire. Estate taxes make an easy target. They provide large sums of money, impact a relatively small percentage of voters, and create somewhat palatable optics for taxation, especially since Irrevocable Trusts and Life insurance still provide viable workarounds to those versed in sophisticated approaches.
Hence, we need to discourage the ‘head in sand’ mindset encountered among some clients and even advisors who think ‘wishing the Sunset away’ will prove effective. As a risk management expert, it is always better to plan for the worst, even while hoping for the best in any situation.
Of course, uncertainty of any kind can have a paralytic effect – especially when it comes to finances. Most clients tend to naturally procrastinate when it comes to legacy and estate planning anyway (more for psychological reasons than rational ones). This preference for kicking things down the road then freezes advisors (accountants, business managers, estate planning attorneys) who might otherwise provide direction. Couple that with a belief – accurate or not – that estate tax exemptions will not cut in half as scheduled, and it is easy to see why many have done nothing to prepare, despite sitting only months away from potentially major tax changes.
Transitional times call
for innovative, effective
techniques, not simply
putting heads in the sand.
Some misguided advisors have told clients to ‘wait and see’ what happens in 2025 before worrying about any estate planning. This guidance not only minimizes the client’s opportunity to leverage existing exemptions (in the form of strategic gifts) effectively, but also risks resulting in a mad rush for planning as the deadline gets closer. Trusted advisors need to anticipate pragmatically and carefully prevent issues, not chase them.
Without a doubt, challenges accompany wealth transfer planning. Many clients only feel comfortable approaching the subject once they near retirement and life trajectories have somewhat crystallized. Yet from the insurance perspective, waiting until middle age or later to purchase permanent coverage for estate tax offset and liquidity means costs reach outrageous proportions. 2 Younger clients typically enjoy better health and thus lower insurance premiums, but concerns about future divorces, finances, and/or adult child behavior can paralyze their decision making. Irrevocable Trusts have all but faded from collective memory due to record-high exemptions, so it is clear why some advisors avoid the long
learning curve and uphill battle associated with a proactive approach.
Unfortunately, this delay technique has a fatal flaw. It banks on future insurability. The idea that one can ‘buy’ life insurance whenever one chooses haunts seasoned producers, who consistently see applicants declined for coverage, despite attempts to persuade underwriters otherwise. Insurance products are financial tools, yes, but not ‘off the shelf’ products like other purchases. As an independent broker working with every “A” rated carrier in the world, the author knows what it means to see a team of advisors stunted in their best laid plans for a high-net-worth client’s legacy. Not even reinsurance or Lloyds of London takes unwanted risk these days. The times of loose underwriting have long passed, especially as technology improves and medical history data becomes ever more precisely accessible with AI.
A far better “Wait and See” technique exists, one that protects both clients and advisors from the unwanted consequences of procrastination.
Since certain insurance carriers can offer attractive guaranteed conversion features (without requiring any additional underwriting) on simple term policies, clients can now bank their future insurability without having to finalize more complex estate plans until further down the road. This allows for lower-commitment decisions, at highly advantageous terms, while clients remain healthiest and cheapest to insure, until a full decision curve on wealth transfer planning can take its due course.
As an example: a wealthy 45-year-old can procure 20-year term coverage with an A+ rated carrier such as Midland National (A+ rating AM Best; top 10% Comdex across all carriers) for less than $2,000 per $1MM of death benefit, assuming average good health. This policy can then convert at any point in the ensuing 15 years to a well-priced, permanent life insurance policy, without further evidence of insurability. The client retains the favorable health rating he or she earned at age 45 through this process, even if subsequent unforeseen health developments have rendered him or her a less favorable risk as time has passed.
With this strategic move, the client and advisory team have ample time to carefully discuss plans for an Irrevocable Trust, perhaps set up a charitable component, select a Trustee, and eventually procure a Permanent Death Benefit (Trust-owned, hence avoiding lookback) using the existing policy’s attractive conversion features. During the lengthy Trust planning process, client insurability never comes into question, and costs for permanent coverage are clear at outset since underwriting questions disappear. This, in turn, allows for easy calculation of total insurance expenses and helps illustrate the financial advantages of wealth transfer planning from a taxation perspective, since in the meantime, we have all learned what the future holds as far as post-Sunset exemptions.
As a risk management
expert, it is always better
to plan for the worst, even
while hoping for the best
in any situation.
All guesswork gets taken out of this equation; all risk that a client’s health status could change, rendering him/her uninsurable, gets eliminated; and advisors gain the opportunity to work logically, in a structured way, for best outcome.
Consider this converse real-life scenario: an upwardly mobile 45-year-old with $20MM net worth gets $2MM of 20-year term insurance with Lincoln National. He delays all discussions about strategic wealth transfer with his business manager (despite recommendations) until the birth of his third child, then decides he wants to set up an ILIT. Unfortunately, since procuring his initial term coverage, a chemical dependency has come to light for which he has sought care. Despite his paying cash for treatments, the Medical Information Bureau finds record of the rehabilitation. His application for permanent coverage thus results in decline from all US carriers, including reinsurance; underwriters state they need to see 7 years free and clear of any signs, symptoms, or treatments for dependency before they will reconsider. Client must now pay $32K/year to convert his Lincoln National term, though a similar product with more competitive carriers would cost less than half that price, or wait seven years, hope his health improves, and re-apply for coverage – but costs will have doubled at that point due to age. He faces a catch-22 of hoping to become insurable later (an unlikely scenario given his medical issues) or locking in overpaid rates at younger age.
Advisors who tell their clients
to 'wait and see' how the
Sunset goes in 2026 not only
put people at risk of losing
insurability altogether for
unforeseen health reasons;
they also cost their clients
significant money.
In fact, every 5 years after the age of 45, insurance rates rise dramatically – even if health remains good. The chart and graph in Exhibits 1 and 2 illustrate just how exponentially rates rise with procrastination, especially in permanent insurance. Advisors who tell their clients to ‘wait and see’ how the Sunset goes in 2026 not only put people at risk of losing insurability altogether for unforeseen health reasons; they also cost their clients significant money. To avoid opportunity loss and financial detriment, advisors should instead adopt one of the strategies recommended herein.
With the right guidance, it costs little to procure advantageous convertible low-cost term coverage in sufficient amounts to ‘place hold’ future insurability and adequate death benefit for wealth transfer purposes. Procrastination, however, costs a fortune even if health remains good… which is statistically unlikely.
Not all conversion features have equal merit, so using highly competitive insurance products plays a critical role in this approach. Enlist guidance from a truly independent insurance broker/consultant, as opposed to an agent tied to one specific carrier (e.g., Northwestern, Mass Mutual, NY Life) that has limited products and underwriting.
Another, more advanced, option avoids Term conversion completely. Instead, clients set up permanent coverage with an extremely low initial death benefit for now, and keep it minimally funded until the post-Sunset estate tax laws and/or their personal affairs crystallize. Once calculations show that creating an ILIT will prove beneficial, clients can ‘super charge’ their existing permanent policy using additional premiums to increase the Death Benefit sufficiently for estate tax offset needs. This ensures that clients only fund permanent policies with money they will otherwise ‘waste’ on taxes, and still come out ahead. The key to this approach lies in obtaining a small, permanent, non-MEC policy set up with an Increasing Death Benefit trigger. In so doing, clients utilize low minimum premiums on a few hundred thousand dollars of initial permanent death benefit, but still lock in their good health rating, age rating, and insurability. This, again, makes sure clients do not get burned by ‘kicking the can down the road’ and finding themselves too expensive to insure, or even completely uninsurable, by the time they stop procrastinating.
Advisors who help their clients take more proactive steps with insurance ‘placeholders’, as described above, benefit twofold. First, they build the relationship by shepherding clients through a Living Trust planning process, since even a basic Term policy will ideally trigger the need for a Durable Power of Attorney, Guardianship, Will and Advanced Healthcare Directive, in addition to naming non-minor beneficiaries. Second, these advisors set up an opportunity for addressing Irrevocable Trust planning as ‘Phase Two’ of the initial Living Trust work.
Those who cavalierly bank on ‘future insurability’ truly do so at their peril. Common conditions that can result
• Use of Ozempic, Mounjaro, Weygovy; • Gastric concerns (GERD, Crohn’s, Chronic Colitis):
• Cancer;
• Anxiety/Depression/Dysthymia – starting or changing Rx;
• Recent surgery; and/or
• Physical Therapy
Many people fail to realize the true role of insurance in an advisory capacity. It functions at a high level as a tool for protection and tax mitigation. Used by experts, in a cost-effective manner, term and permanent death benefit products have nothing to do with the stereotype of ‘cheesy’ sales. Advanced wealth transfer planning of this kind requires a team of surgical specialists who work well together across silos – attorneys, accountants, and broker consultants. Attorneys and accountants should NOT handle the insurance themselves, due to conflict of interest and the complexity of matters. Instead, having multiple experts cooperating and coordinating for a client’s benefit ensures ethical work and optimal outcomes for the true ‘win-win.’ Often, insurance experts can serve as excellent referral sources to attorneys, accountants, and business managers, since the education curve involved with wealth transfer techniques requires reciprocal guidance on a wide scope of matters.
Ultimately, whether as insurance, legal or financial service providers, wealth transfer experts should help clients see the gaps in their planning and prepare for whatever comes down the taxation pipeline. Transitional times call for innovative, effective techniques, not simply putting heads in the sand. We must lead people through uncertainty in ways the ensure their well-being regardless of what Congress does or does not do. Those of us who do so stand ahead of the pack, and fully earn our reputation as Trusted Advisors.
Exhibit 1: Graph Showing Rate Changes Over Time
Exhibit 2: Chart of Relative 20 Year Term Rates Proportional to Applicant Age
1 – https://www.bloomberg.com/news/articles/2024-04-01/us-government-debt-risk-a-million-simulations-show-danger-ahe
2 – Many older clients cannot qualify at all for coverage once they realize they need it. Mortality and morbidity risks essentially triple every 5 years from age 40 onward, and insurance rates depend on underwriting for both.
