Estate Planning Blog

Tuesday, June 16, 2009

FLORIDA ASSET PROTECTION EXEMPTIONS FOR LIFE INSURANCE AND ANNUITY CONTRACTS MAY NOT BE WHAT THEY APPEAR

Thoughtful Planning is Essential in Order to Protect the Life Insurance Exemption.

Insured’s Death Benefit Generally Protected under Exemption. As a general rule under Section 222.13, Florida Statutes, the beneficiary of a life insurance contract insuring the life of a Florida resident receives the death benefit free of the reach of the insured's creditors, unless, of course, the policy is intended to benefit a creditor.

Planning Caution.  However, a creditor could reach the life insurance proceeds if care is not taken to ensure that none of the proceeds of an insurance policy become subject to administration in the decedent's estate. See Section 222.13, Florida Statutes.

Additional Planning is required in order to protect a Beneficiary’s Life Insurance Proceeds.  Under some circumstances, protecting a beneficiary from creditors may also be a planning goal.  Thus, a careful review and application of Section 222.13, Florida Statutes, is required because the statute does not protect insurance proceeds from a beneficiary's creditors.

Planning Idea.  Through the use of an irrevocable trust for the benefit of the beneficiary, the provisions of the trust could provide significant protection of the insurance proceeds from the claims of a beneficiary's creditors, as well as the insured's creditors.

Planning Caution.  Florida Asset Protection Exemption of Cash Surrender Value Protects the Insured only.  Section 222.14, Florida Statutes, protects the cash surrender value of an insurance policy from a creditor of the insured, but not others who may have an ownership interest in the insurance policy (including an insured or others holding collateral rights in an insurance policy). 

Limited Protection for Life Insurance Policy Withdrawals and Loans.  There appears to be some uncertainty under the provisions of Section 222.14, Florida Statutes, as to whether withdrawals from a life insurance policy or amounts received as a loan are protected from creditor’s of the owner or insured.  Florida case law interpreting Section 222.14 appears to protect certain withdrawals from a policy from creditor’s reach.  Even so, planners should proceed with caution and careful analysis in that the protection of withdrawals or loans obtained by an insured could be problematic, and expose the insured to a creditor’s attempts to reach the withdrawals or loans.  While the case law appears to provide protection, a significant concern which should be addressed related to what appears to be an ambiguity in the statute, which may create an opportunity for a creditor to attempt to reach to such funds. 

Planning Idea - Thoughtful planning may provide a benefit under such circumstances by transferring the insured’s insurance policies (1) to a spouse or child who is not a debtor, or possibly to (2) a self settled asset protection trust established in a jurisdiction outside of Florida that permits self-settled trusts, such as Alaska, Delaware, Missouri, Nevada, Rhode Island, South Dakota, Tennessee, Utah, Wyoming, Belize, the Commonwealth of the Bahamas, the Cook Islands and Nevis.   Either proposal (1) or (2), above, should suffice in retaining the exemption, since the statute does not require the insured to own the insurance policy directly.  Under the circumstances, it seems there may be less risk in terms of creditor attachment where a spouse or child, who is not a debtor, or a trustee of an asset protection trust withdraws funds from an insurance policy and applies them to the insured indirectly, in the form of a discretionary distribution or a payment on behalf of the insured rather than the insured personally and directly withdrawing funds from an insurance policy.  

Safe Harbor for Transfers of Life Insurance Policies under Florida's Fraudulent Transfer Provisions.   A further benefit under Florida's asset protection for life insurance policies owned by the insured is that such policies are not assets subject to the fraudulent transfer rules of Section 222.30, Florida Statutes. 

Planning Idea.  Under the Appropriate Circumstances, and with thoughtful planning, a double layer of asset protection may be achieved through the use of the Private Placement Life Insurance ("PPLI") exception provided under Section 222.14, Florida Statutes.

Dual Planning Benefits.  Private placement life insurance with careful planning may provide both asset protection, under the Florida exemption, and income tax benefits.  PPLI policies are usually issued by life insurance companies conducting business in certain foreign jurisdictions such as the Cayman Islands, Bermuda and the Commonwealth of the Bahamas, which have developed the legal and commercial structure for PPLI products.

Income Tax Planning.  From an income tax standpoint, PPLI transforms taxable ordinary income and capital gains into tax-free income (with no income tax reporting required under current U.S. Law). A PPLI is variable in nature, which allows the insurance company to invest the majority of the premium(s) in a legally separate, segregated account to be managed by either an investment manager of the client's choosing or the insurance company.  Of course, performance is not guaranteed, and the death benefit varies.   IRS audit risks are minimized since assets held under a qualifying life insurance policy are neither subject to income tax, nor is there any required income tax reporting (under IRC §72(e)(5)).  In addition to the substantive tax and reporting benefits, for audit purposes there would be no presumed IRS tax avoidance, due to the fact that life insurance has been granted an exception as an IRS approved transaction.  Moreover, policy lifetime withdrawals may be tax-free and not subject to tax reporting.

Planning Idea.  To take advantage of the Florida PPLI exception and estate planning benefits, an insured will need to establish one or more trusts in an appropriate foreign jurisdiction, such as one of those referenced above.  By using the trust structure and the PPLI Florida exemption under Section 222.14, a Florida resident could achieve a double layer of protection in terms of asset protection.

Using Annuity Contracts can offer Significant Asset Protection for the Owner and Beneficiaries.
Unlike in the case of the cash surrender value of a life insurance policy, Section 222.14 appears to offer greater protection to the proceeds of an annuity contract, in that this exemption protects not only the party who originally obtained the annuity contract but also a successor beneficiary under the contract;

Careful Planning is Essential in the Case of Private Annuities, and Each Transaction should be Carefully Structured and Reviewed by Legal Counsel. 
Under relevant Florida cases, it appears that a commercial annuity is protected under Section 222.14, Florida Statutes. However, careful planning and thoughtful analysis is required particularly in the case of a private annuity.  It could be somewhat problematic in that Section 222.14, itself, does not contain an adequate definition of either an "annuity contract" or the "proceeds" of an annuity contract.  Fortunately, case law provides some guidance on this issue. Thus, it is essential for legal counsel to review the intended transaction and to apply careful legal analysis in light of the statute and relevant court cases in order to insure that the proposed annuity contract will in fact be found to be an "annuity contract", and provide the asset protection desired, through the Florida exemption.

Planners Must Proceed with Caution When Extending the Florida Exemption to Private Annuities.
Although Florida case law has extended the application of Section 222.14 to private annuities, the legislative history under Section 222.14 indicates that the definition of the term "annuity" under the statute was never intended to include a private annuity.  Consequently, another court could rule that the exemption does not apply to a private annuity.  In terms of structuring a private annuity, the design and control is generally determined by the debtor or his or her family, and the debtor may not be an owner or beneficiary of the private annuity.  In a court's review, the absence of a third party insurance company, as in the case of a commercial annuity, may be sufficient to give rise to further analysis by the Court as to whether the private annuity is a creditor avoidance vehicle that does not fall within the exception – leaving the possibility that no exception will be found.  

Proceeds of an Annuity Contract Appear Applicable to Deferred Annuities under Florida's Asset Protection Law.  
Although, Section 222.14 does not provide a definition of "proceeds," Florida case law has been favorable to debtors and has upheld the exemption for the proceeds of an annuity, indicating that the form of payment or the timing before or after maturity is not relevant for purposes of having the exemption apply.

Beware of Self-Settled Trust Arrangements in that the Exemption for Proceeds of an Annuity Contract may not apply to exempt a Donor's Interest.
The statutory language of Section 222.14 appears to eliminate the possibility of the exemption for the proceeds of an annuity contract issued to a citizen or resident of Florida to apply to a settlor-donor's interest in a charitable remainder trust.  The statute uses the term "issued," and under such circumstances its does not appear that a debtor could cause an annuity contract to be "issued" to himself in such a trust arrangement.  Under this type of trust arrangements, there is no act whereby one party "issues" anything of value to another party. 

Caution Regarding the Self Settled Trust Doctrine.  A grantor retained interest trust is a form of a "self-settled trust." Thus the grantor runs afoul of the Self Settled Trust Doctrine.  Under the Self-Settled Trust Doctrine, when a settlor creates "for his own benefit, a trust for support or a discretionary trust, his transferee or creditors can reach the maximum amount which the trustee under the terms of the trust could pay to him or apply for his benefit."  Restatement (Third) of Trusts Section 25.  The Florida Legislature has codified the Self-Settled Trust Doctrine in Section 736.0505, Florida Statutes. 

Under this doctrine, the maximum amount the assets of a self-settled irrevocable trust that can be distributed to or for the benefit of the settlor may be reached by a creditor or assignee of a settlor.  Thus, an exemption for the proceeds for the proceeds of an annuity contract under a grantor retained interest trust would directly conflict with the Self-settled Trust Doctrine, and not be available. 

Planning Idea.  If asset protection of a retained interest in a grantor retained interest trust is a planning goal, legal counsel might advise his or her client to consider establishing such a trust in Alaska, Delaware, Rhode Island or South Dakota, which are jurisdictions that allegedly provide creditor protection for self-settled trusts.

No Exemption for Proceeds of Annuity Contracts that fall outside the definition of Life Insurance.
The legislative history under Section 222.14 indicates that the asset protection exemption afforded to annuities is intended to apply to a commercial annuity that is within the definition of life insurance.  Consequently, the annuity exemption would not be available to a third party who did not own an interest as a settlor in a charitable remainder trust or any other third party trust that grants a beneficiary an annuity interest in the trust.

Careful and thoughtful planning is required when structuring a life insurance or annuity transaction to meet the Florida asset protection exceptions. Limitations exist, and without proper professional planning, disappointing and costly results may occur.
 
For a comprehensive treatment of the exemptions for life insurance and annuities, see Unraveling the Mysteries of the Florida Exemptions for Life Insurance and Annuity Contracts, Part One by Jonathan E. Gopman, Matthew N. Turko, and Howard M. Hujsa, Florida Bar Journal, December 2008, Volume 82, Number 11; and Unraveling the Mysteries of the Florida Exemptions for Life Insurance and Annuity Contracts, Part Two, by Jonathan E. Gopman and Matthew N. Turko and Howard Hujsa, Florida Bar Journal, January 2009, Volume 83, No. 1.
 
 

Wednesday, June 10, 2009

2010-What's Up? Congress and The Estate Tax Legislation

Protecting Clients and their Family’s Inheritance has been the Goal.
For months and even years estate planners have been speculating on what will happen to the federal estate tax in 2010.  Some even have half hardily advised that 2010 is the year to die if you want to avoid estate taxes.  Most estate planning attorneys who have drafted or modified trusts since the adoption by Congress of the Economic Growth and Tax Reconciliation Act of 2001, relating to estate and gift tax, have included alternative provisions depending on the state of the legislation at the time: (1) if there is no estate tax, and (2) if there is an estate tax.  Even with all this drafting and legal discussions, uncertainty nevertheless remains as to whether there will be additional legislation from Congress prior to 2010, and if so, how will the people fair, in terms of the estate tax  rate and, most importantly, the exemption amount (sometimes referred to as the “exemption equivalent”)?

 
A Bright Spot for the Family.
Over the years there has been much discussion about estate tax reform, and of late even a vote in the United States Senate that would keep the exemption amount at $3,500,00, and the tax rate at 45%, both of which are applicable in 2009.  This seemed to be a bright spot on the horizon for those concerned about estate taxes, and even left a hearty smile on the usual somber faces of estate planning attorneys, and a sigh of relief to their clients.  However, this provision never passed both houses, and in the meantime we have been faced with hard economic times and “bailout”. 

 
A Sensible Estate Tax – Is that Possible?
Some light at the end of the tunnel appeared in April of this year, when HR 2023 was introduced in the House of Representatives (April 22, 2009) “to amend the Internal Revenue Code of 1986 to reform the estate and gift tax.” The Short Title of the Act is “Sensible Estate Tax Act of 2009”.  This title makes one feel good just to hear it.  On first blush, hearing the title makes one think it will provide even more relief than the present 2009 tax rates and the 2009 exclusion amount.  Unfortunately, everything is not as it seems.

 

Summary of Sensible Estate Tax Act of 2009

• Repeals provisions of the Economic Growth and Tax Reconciliation Act of 2001 relating to the estate and gift tax.
• Amends the Internal Revenue Code to: (1) allow an estate tax exclusion of $2 million adjusted for inflation in calendar years after 2010; (2) revise the estate tax rates for larger estates; (3) restore the estate tax credit for state estate, inheritance, legacy, or succession taxes; (4) restore the unified credit against the gift tax; and (5) allow a surviving spouse an increase in the unified estate tax credit by the amount of any unused credit of a deceased spouse.  Note, that the Generation Skipping Tax exclusion amount would also be $2,000,000.

The status of this legislation is that it has been referred to committees in the House, and no apparent action has been taken since April 22, 2009.

 
A Smaller Exemption – but Hold Your Breath!
Speculation is an interesting sport to say the least.  When it comes to Congress, particularly in recent months, it is difficult to make what used to be called an “educated guess.” Can one make sense out of the proposed “Sensible Tax Act”, and if so, will Congress take it up among the many, many competing concerns.  It seems clear – if anything is clear – that Congress will be searching for revenue, and so if one were to speculate, it would not be any surprise that the exemption amount might be less, and the tax rate for larger estates would be higher than the 2009 levels.  Everyone is secretly holding their breath that the rates and exemption amounts do not go back to 2000, and 2001 levels.

 
Not at the Top of President Obama’s “to do” List.
The Obama Administration appears to be taking little or no immediate action regarding reform of the estate tax.  Professor Jeff Pennell, the Richard H. Clark Professor of Law at Emory University, who recently spoke before a group of estate planning professionals in Orlando, referencing what has happened in President Obama’s first 100 days, predicted that the 111th Congress will "do the least possible and at the latest moment."   With the overwhelming competing interests, of which American’s receive a steady diet from their favorite commentator each night, Congress will be busy with many other – perhaps too many – more pressing – issues, and the estate tax legislation may well not occur until the end of this year, or possibly 2010, which might create some confusion for estates and trusts where decedents died after December 31, 2009.  Presumably Congress could make any estate tax legislation effective to the beginning of 2010.

 
A Permanent Estate Tax may be Years Coming.
If Professor Pennell is correct, and Congress and the Obama Administration intends to do “the least possible at the latest moment”, we may see an effort on the part of Congress and the Obama Administration to push the decision on the estate tax out sev­eral years, providing a temporary measure to keep the estate tax intact, with possibly a lower exclusion amount, with the goal to reassess the situation after the economy im­proves."  Lowering the exclusion amount is more likely to occur given the need for significant additional revenues.

Estate Planning Continues to be Essential and Should not be Delayed.
Even in light of the uncertainty, estate planning related to estate and gift taxes and generation-skipping taxes is a must, particularly for persons whose estates are valued above the exclusion amount.  Opportunities continue to exist for generation-skipping tax planning, and for passing significant assets to children through GST non-exempt trusts, and even to grandchildren and more remote beneficiaries through GST exempt trusts, or through life time gifts, using the applicable GST exemption.

 
A thoughtful estate plan can ensure that you leave your loved ones a legacy worthy of the life you have spent working and saving.  Do not fail to plan, and you will not “plan to fail.”

Saturday, November 01, 2008

SOMETHING TO THINK ABOUT: AVOID THE BLUNDERS