Denman's Estate Planning Secrets

Secret Estate Planning Tools for the Very Wealthy

By: Denman Moody, J.D., Chartered Life Underwriter, Chartered Financial Consultant, former Vice President at both E. F. Hutton and Merrill Lynch, former Senior Vice President and Trust Officer of a major Houston bank and former Executive Assistant to a United States Senator.

This White Paper is for informational purposes only. I have retired from the practice of law; therefore, nothing herein shall be taken as legal advice.

There are several secret tools to assist the very wealthy with estate planning. Everyone with large amounts of wealth should be aware of these tools, but first let's review basic estate planning.

Almost everyone who has major wealth knows about trusts. In a very large estate, in which one would like to pass on his or her estate intact, the best way to do it is with a combination of gifts and trusts. The exemption from federal estate and gift taxes in 2023 is $12,920,000 per person. In January 2026, the exemption reverts to a much smaller number. And there are rumblings that the exemption could be lowered dramatically before that.

Under the current administration, the idea has already been raised to change it back sooner than 2026; therefore, anyone with a very large estate should take advantage of the current situation, assuming part of their estate plan is to pass on some of their assets without federal estate taxes. This, along with other ideas presented here, should be done with the assistance of your legal counsel, and if possible, one who is a specialist in estate planning and probate. The exemption from federal estate and gift taxes in 2024 is $13,610,000 per person. In January, 2026, the exemption reverts back to around $6,200,000 per person.

Very large estates are mandated to have an irrevocable trust funded with life insurance - I will explain further below. But first, you must understand leverage; the time value of money; creditor-proofing assets; and the confidence that a large, highly rated insurance company brings to the table.

The following example of a successful case, I orchestrated about ten years ago, will provide a foundation for the importance of a few secret tools:

A couple was worth $60 million and most of the value was in a commercial real estate company. The 67-year-old husband was the financial expert who had used leverage to build the company, and his wife was involved with the management of the real estate assets. He liked the idea of a $20 million policy on himself in an irrevocable trust to preserve the family business, to provide income for the family and to eventually provide liquidity for federal estate taxes at the wife's death. But the premiums were so high, and the exemptions were so low at the time that not only did he not want to pay the premiums, the gift taxes on top of the premiums were just too much, and gift taxes could increase dramatically in the future. Imagine for years paying not only a $400,000 annual premium, but also paying, after the exemption expired, a large gift tax to the IRS. Currently, 40% on top of each premium would go to the IRS each year. We will discuss how we solved the problem shortly.

First, let's explore exactly how the life insurance trust works. The proceeds of a life insurance policy on the grantor - purchased by the trustee of a well-drafted irrevocable trust for the surviving spouse and descendants or others - are not included in one's taxable estate because the assets in the trust are not owned by the grantor of the trust but by a trust whose beneficiaries are the wife and descendants, or other persons, or charities, etc. If funded with premiums for a life insurance policy, as in my example above, the death benefit - $20 million - will be paid at death free from all taxes to the trustee for the benefit of the trust beneficiaries.

There are many important reasons to have such a trust:

1. At least in Texas, the assets in a trust such as this are generally creditor-proof.
2. A properly drafted insurance trust avoids probate. A will can be contested and drag on for years. An insurance trust can be funded within weeks.
3. A properly drafted insurance trust can also protect the surviving spouse and family, especially if there is a corporate trustee or co-trustee. As a former trust officer, I witnessed friends, boyfriends and second spouses try to get their hands on a family's trust in which the bank was trustee or co-trustee. They were stopped. The assets were for the trust beneficiaries only, and
4. At the death of a single person, or at the second death of a married couple (when federal estate taxes are due), the trustee can loan money to or purchase assets from the estate - if given that power in the trust - to provide all or part of the money due to the IRS and preserve much or all the decedent's estate!

Now, let's get back to my example in paragraph 6, as we consider how to solve the problem of huge premiums, gift taxes on all the future premiums (after the exemption expires), and lowering the annual cash outlay dramatically, including the time value of money savings. This is where the "secret tools" come in handy. The first secret tool for the very wealthy is financed premium life insurance.

In financed premium life insurance, the grantor of the insurance trust does not pay the premiums - a lender does. There are never gift taxes on the premiums because the grantor is not paying the premiums. The lender (usually a bank) loans the money to the trust and the trustee pays the premium. Of course, there is interest due to the lender. In the case I previously discussed, it was around $60,000 the first year. So not only no gift taxes in the first year, but also the grantor retained $340,000 of his assets instead of paying a $400,000 premium. The second year, the interest on two premium loans was $120,000, so the grantor now retained $340,000 plus another $280,000. This is called the time value of money savings. In this case, the grantor died after the second premium payment by the bank, and $20 million in cash was paid into the trust. Now, the wife was able to hire the best financial experts to handle the financials and leverage decisions. Today, her company is worth over $100 million. It is almost like the wife and her descendants have their own private bank.

Over the years, I have been personally involved in the placement of life insurance policies using financed premiums ranging from $9 million to $50 million, and I am familiar with a $100 million placement.

Financed premium life insurance is the first secret, unknown to many wealthy people, or worse, maligned by some who have had poor representation in this area. The second secret is regarding the application for the insurance. Applications for large policies always call for a physical exam, with most, or more often all, of the applicant's doctors being asked for an attending physician's statement (the written medical history). An underwriter, at the insurance company, reviews all the information and issues a rating on the individual from "super-preferred" to "preferred" to "standard" or numerous other worse ratings. A table 1 rating would be worse than standard, with an increased premium, and table 2, 3, and 4, etc., even worse with higher premiums. Financed premium life insurance works well at standard or better, but at a worse rating the policy needs to be looked at more carefully.

In most cases, the agent files the applicant's application with the life insurance company he or she works for, or if an independent agent, with the company the agent and the applicant have chosen. This is a huge mistake when applying for a large policy with a definite need for the insurance. The fact is that underwriting is not a science. If the applicant has a bad day at the medical exam, coupled with an unreasonably strict underwriter, he/she might receive a very bad offer - like a table 4, or worse, a decline. Every formal offer from an insurance company is forwarded to the Medical Information Bureau, which is then available to all insurance companies to see. A decline for life insurance on someone's record may keep them from getting any life insurance, possibly forever.

There is a simple answer that all agents should use. It's called an informal survey. If someone needs life insurance, select three or more insurance companies with the best contracts, even if one is superior. Then, send an informal survey from the applicant to each of the companies for that $10 million+ policy. Each company will then informally and privately underwrite the client and give a preliminary rating subject to a formal application. It is almost unbelievable, but I have heard of one company coming back with "uninsurable" and another company coming back with "standard" for the same person. And, I have seen cases in which three preliminary offers were different - preferred, standard and table 1.

There is no guarantee that the best informal offer will be the final offer, but since much of the underwriting has already been done, the odds are greatly in favor of the applicant that this will be the best formal offer. In my opinion, there are five or so insurance companies that are far superior in financed premium insurance. These few companies are the ones to ask for an informal survey.

Before I proceed, I'll mention again that if the first spouse dies, even in a huge estate, if he/she leaves everything to the surviving spouse, there is no federal estate tax. In my case above, the husband left the $20 million insurance trust - not for estate tax purposes - but so that the family could continue the business successfully, even though he was gone. If the business failed, they would have this large, creditor-proof "family bank" to keep them going. Because there is no estate tax at the first death, when leaving everything to a spouse or in a marital trust for a U.S. citizen spouse, there will be an estate tax at the second death (depending on all the facts); therefore, many wealthy, older couples - who have enough assets that the survivor will not need any insurance money - have their trust purchase a survivorship policy, which pays a death benefit at the second death, when the taxes are due.

Financed premium life insurance is a very complicated process and takes some time to ingest exactly how it works, but here are some nuts and bolts:

1. An insurance need is established by the individual(s) depending on the size of the estate and how much of it they want to protect.
2. An irrevocable life insurance-friendly trust is set up - for either the surviving spouse, descendants, others, or, if the insurance is in the form of a survivorship policy - to pay at the second death of the two spouses.
3. The insured(s) sign informal surveys and send them to the top three or four companies. When the informal offers are made, a formal application will be made by the trustee - usually to the company making the best informal offer. It normally takes about a month or more for medical exams to be completed and the doctor's attending physician statements sent to the insurance company.
4. The agent will begin the process of finding the bank or other lender with the best long-term guarantee of rates for the loan. The cash value of the insurance policy will be the collateral for the loans. Because commissions and insurance costs are highest the first year, the bank will generally want some additional collateral from the insured(s) for several years - until the cash value reaches the level of the loan. In cases I'm familiar with, there has been no personal liability and the bank starts releasing the collateral, if any, after several years. In one recent case, the insureds already had a $1.5 million whole life policy with $800,000 of cash value in an insurance trust that had been established about 30 years earlier. The bank had no need for additional collateral. Another way to bypass collateral, if still gift tax exempt, is to make a nice gift to the trust. If the exemption has already been used up, then a loan to the trust can be made, which would not require gift taxes.
5. There are two primary types of policies that work best for financed premium life insurance - limited pay whole life and index universal life. The policies must be a special type of insurance, because the insurance company must pay the death benefit to the trustee and pay the lender.
6. There will be a lengthy discussion about how the cash value of the collateral is managed by the insurance company or by the owner of the insurance policy, in the case of index universal life. Briefly, the whole life company pays dividends, which buy paid up additional insurance. This also increases the cash value each year. The index universal life company invests in an index - one example being the S&P 500. The cash value goes up each year when the market is up, subject to a cap. In both instances, the cash value does not go down in a bad year. The cash value of a life insurance policy with a highly rated insurance company is among the top assets for collateral for a lender.

As I mentioned, whole life and index universal life are very different animals. Here, an in-depth discussion with an extremely knowledgeable agent must take place before deciding on the exact amount of insurance to purchase and which type of insurance to obtain. To touch the tip of the iceberg, index universal life contains things like cap rates, participation rates, index funds like the S&P 500 with different time frames and different types of participation, while whole life is much less complex. However, for the same amount of premium, one can get significantly more insurance with index universal life, but with more risk. An understanding of the risks associated with each must be explained by a professional who is extremely knowledgeable about financed premium life insurance; the different types of policies; the different types of life insurance companies; and the top five or so companies providing this product.

This brings up a third secret - unknown to many outside the insurance business - stock companies vs. mutual companies. A stock company is owned by shareholders of the insurance company. If the company pays dividends, it pays the shareholders. A mutual company is basically owned by the policy owners, so any dividends are paid to them because there are no outside shareholders. I only use large, mutual companies with very high S&P ratings.

Financed premium life insurance is on a larger scale and has so many more variables that the agent who helps a client put together such a policy must be an expert, especially if it is index universal life. I have identified and know several agents whose experience and knowledge of these products and insurance companies are unrivaled. In my opinion, they would give you the best chance of getting excellent representation in leading you to the insurance company and type of policy that will best fit your needs.

In one case I know of, the client wanted $10 million in insurance, and said, "Why don't I hedge my bet and get $5 million of limited pay whole life and $5 million of index universal life." Good question. He ended up getting $10 million with the one that gave him the better rating!

There is another very important secret that is normally not discussed during most estate planning sessions. Life insurance and life insurance trusts can be used for beneficiaries who the insured does not want anyone to know about. How do I know? Because I have been personally involved as the agent on more than one occasion. Some examples: Most people want to leave their estate in equal shares to their children. But a business owner may want to set up one of the children privately with enough extra money to succeed in managing the business or have seed money to start a new business; A very wealthy man or woman may want to leave a large amount to a lover, a former dedicated employee or a charity privately; or it could be a private gift for other reasons.

A wealthy non-U.S. citizen might want to leave a large, professionally managed, creditor-proof life insurance trust in the United States in U.S. dollars that his/her family could call upon for generations.

One of the problems with this is that in his or her probate in the U.S, or death proceedings in a foreign country, someone would most likely uncover records of years of premium payments to a life insurance company and discover what had transpired. This is where financed premium life insurance "saves the day." There are no premiums paid to a life insurance company by the insured. A lender pays the premiums. Also, with a few oddball exceptions, life insurance proceeds (payable to an individual or a properly drafted life insurance trust) are not only non-taxable but also are non-probate assets - the perfect solution.

To explore these important subjects further, please call, email or write for a complimentary and confidential meeting.

Denman Moody
661 Bering Drive #409, Houston, Texas 77057
713-202-5229
[email protected]