Spring 2004

Is it for You or Your Family?


Brad Mueller, Vice President of Insurance Services for Clifton Gunderson Financial Services, shares the following personal account of how a capital transfer strategy positively affected his father-in-law's estate. It may be a strategy that you or a member of your family should consider.

Do you have assets invested in CDs, municipal bonds, corporate bonds or annuities that you hope to pass on to your children, grandchildren or to a charity? If so, you may be able to take advantage of a strategy my father-in-law recently implemented.

Al is a 70-year-old retired school administrator and Korean War veteran who receives annual pension payments that exceed his living expenses. He has more than he needs, and wants to leave a legacy (or at least a nice nest egg) for his children and grandchildren.

Last fall, he asked me for advice on a handful of annuities he'd purchased over the years, now worth about $80,000. The first question I asked was "Whose money do you want it to be? Is it for you, or your daughters, or grandchildren?" His answer wasn't surprising; he didn't need the assets and wanted to pass them on to his grandchildren.

Because he is in good health, Al is a great candidate for a strategy called "capital transfer." In his case, the strategy resulted in turning his $80,000 of annuity holdings into a $220,000 tax-free death benefit for his grandchildren, guaranteed regardless of changes in market conditions or interest rates. You might be a candidate for the same strategy.

Here's how "capital transfer" using insurance can work:

1.    The invested assets you wish to pass on - in my father-in-law's case, the $80,000 of annuities - are used to purchase a "single premium immediate annuity," a monthly or annual income guaranteed for life by an insurance company. With an annuity, the older you are, the larger the annual payment, because the insurance company is projecting that it will pay the benefit over a shorter period of time.

2.    The guaranteed annual income you receive from the annuity is used to purchase a life insurance contract with a death benefit guaranteed for life at a certain annual premium payment. For my father-in-law, the annual income of $7,000 from the annuity benefit purchases a guaranteed death benefit of $240,000 after a small portion of annuity benefit pays the taxes due each year on the annuity.

3.    Once both policies are set up and you begin to receive annuity benefits, you gift the payments to your benefactors each year. As owners of the life insurance policy, the benefactors use the gifts to pay the annual premium.

4.    Upon your death, the annuity benefit ceases, and your benefactors receive the life insurance death benefit as an income and estate tax-free lump sum payment.

One of the keys to a successful "capital transfer" strategy is "arbitrage" on the annuity and life insurance products. Clifton Gunderson Financial Services can work with you to shop the market for the largest possible annuity benefit - looking for the insurance company that expects you to live for the shortest period of time; and the smallest life insurance premium rate - the insurance company that expects you to live for the longest period of time. This "arbitrage" maximizes the size of the benefit passed on to your benefactors.

In addition to a larger gross benefit passed on at death, the "capital transfer" strategy can have positive tax consequences, resulting in an even larger net benefit. The gains on some investments such as annuities and CDs may be taxable as "income in respect of decedent" at death. Further, if your estate is large enough, most investments you own will be subject to state and federal estate taxes. In contrast, a life insurance death benefit is always income tax-free, and it can also be estate tax-free if properly structured.

How do you know if "capital transfer" is a viable strategy for you? If the following checklist describes you, the strategy might make sense:

  • You have invested assets you want to pass on to family or to charity. If you need some of the income to live on, that can be accomplished easily with this strategy. But you may not want to pass on less than the principal.
  • You qualify for life insurance coverage. Most life insurance companies will issue coverage to applicants who take medication to control high blood pressure or cholesterol. However, they are likely to decline applicants with a history of serious illness such as malignant cancer or heart disease.
  • Your primary investment objective is preservation of principal. If you are generally a risk-averse investor and seek to ensure the money you pass on won't erode by market losses, the "capital transfer" strategy may be consistent with your investment objectives.

Your Clifton Gunderson Financial Services advisor can help you determine if "capital transfer" is a strategy that could work for you. Your advisor will guide you through the entire process, and because he or she is not an agent of, or paid commission by, any insurance company, you will benefit from our "arbitrage" objectivity and expertise.