How do the rich use life insurance to give their children tax-free stocks and yachts?

  • The richest of the rich can use life insurance to avoid estate and income taxes.
  • Private placement life insurance is perfectly legal – although Senator Ron Wyden is skeptical of its use.
  • A financial adviser tells Insider how insurance is saving the rich tens of millions of dollars.

Life insurance is probably the least sexy area of ​​financial planning. But for the richest of the rich, politicians can cut tens of millions of dollars from their tax bills.

Private placement life insurance is a little-known tax avoidance tactic. When properly structured, PPLI policies can be used to pass assets from shares to yachts to heirs without incurring inheritance tax.

“People in the United States sell life insurance as a way to structure middle-class assets,” said Michael Malloy, a wealth adviser who has specialized in PPLIs for 20 years. “But PPLI is a completely different animal.”

Being in the top 1% is not enough to make PPLI worthwhile. These offshore life insurers in jurisdictions such as the Cayman Islands and Bermuda generally require at least $5 million as an initial premium. Malloy advises that clients have at least $10 million in assets to make PPLI worthwhile. His clients typically hold at least $50 million in assets.

The PPLI is legal, although it has recently come under political scrutiny. Senator Ron Wyden opened an investigation into the industry in August.

US clients typically use the PPLI in an effort to reduce tax liability, while those in the Middle East or Latin America often seek to use trusts to conceal information about specific assets from corrupt governments, Malloy said. .

“Clients don’t want an organized crime ring to bribe an underpaid tax officer to get information about their family,” he said.

US taxpayers are required to report to the IRS only the cash value of a foreign life insurance policy, not the assets within the trust.

Here’s how it works, according to Malloy

In short, a lawyer creates a trust for a wealthy client. The trust owns the foreign-created life insurance policy.

With PPLI policies, the assets placed in the trust are treated as premiums. Assets should be diversified – usually with at least five different asset classes – and can include stocks and business interests, as well as tangible assets such as yachts and real estate.

Depending on the client’s age, nationality and other factors, the death benefit can, in theory, be as high as $100 million, Malloy said.

If structured properly, the benefits and assets of the policy are passed on to the children without incurring estate tax. A 40% federal estate tax applies to estate values ​​exceeding $12.06 million for singles and $24.1 million for married couples.

Unlike policies from US insurers, customers can cancel their policies without paying massive surrender fees. Assets also grow within the trust tax-free. The cash value of the PPLI policy assets is held in a separate account, and this cash can be paid out to the policyholder or invested. Investing in hedge funds is a common use of PPLI assets.

But there is a catch. Policyholders have limited control over investment decisions. They can’t instruct the asset manager to buy a certain number of Apple shares, for example.

It also requires a small army of professionals, including trust and estate attorneys, asset managers, custodians and tax advisers. Since the PPLI is only for the ultra-rich, few wealth management or legal specialists know about it.

“There are no questions on the CPA exam or the bar exam on the PPLI, and asset managers are pretty skeptical,” he said. “They think you’re going to take assets away. In fact, the assets get stickier and get more alpha because the client pays less tax.”

Senator Ron Wyden reviews PPLI

But PPLI draws attention to Capitol Hill. Wyden, the chairman of the Senate Finance Committee, launched an investigation into PPLI on August 15. His first target is Lombard International, a Blackstone-owned wealth manager, which Wyden described as “one of the market leaders in the PPLI industry.”

“I fear these insurance vehicles will be used without a true insurance purpose to invest in hedge funds and other investments while avoiding billions of dollars in federal taxes,” Wyden wrote in a letter to Lombard. asking for information.

Wyden said he was concerned that PPLI could be used not only as a tax shelter, but also for “various offshore tax avoidance schemes”. He pointed to Swiss Life, Switzerland’s largest insurance company, which pleaded guilty in May 2021 to using PPLI policies to help US taxpayers hide assets from the IRS to evade taxes.

Late last month, Wyden widened its investigation to include Prudential Financial, Zurich Insurance Group and the American Council of Life Insurers.

Lombard told Insider that the company and its member firms “fully comply with all applicable legal, regulatory and tax requirements in the jurisdictions where they do business.” Prudential told Insider it is reviewing Wyden’s letter. Spokespersons for Zurich and the ACLI said they were preparing a response to the investigation.

Wealthy Americans managed to dodge most of the tax reforms proposed during the Biden presidency. More recently, the Manchin-Schumer bill was revised to preserve the carried interest tax loophole that benefits private equity and hedge fund managers.


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