The newer tax evasion trick might not suit you

There is an insurance trick that the wealthy are already using to avoid paying the higher taxes Democrats are proposing to fund their spending plans. Of course, the moderately rich are also interested. But it will not work with them.

The product is called Private Life Insurance, or PPLI, and like some other types of life insurance policies, a portion of the premiums paid by the policyholder are invested. Ordinary life insurance plans invest in underlying stocks or bond funds, but PPLI puts money into riskier instruments such as hedge funds.

The potential tax benefits are threefold: the insured person does not pay taxes on investment gains, the beneficiary may avoid taxes when death benefit is paid, and if structured in a certain way, the insured’s property may not have to pay taxes.

Without a PPLI, hedge fund investors are usually taxed on earnings at ordinary income tax rates. That’s because these gains are often short-term, or made on investments held for less than 12 months. So the tax savings, especially for those in high-tax states like New York and California where state taxes above federal taxes hover around 50%, can be significant.

But such a great tax deal usually comes with costs, and this deal is no exception.

First, PPLI is not just something for the wealthy who worry about an increased capital gains tax rate. (President Joe Biden has suggested doubling the rate paid on gains on assets such as stocks or bonds for those earning at least $1 million.)

Policies typically require at least $1 million (generally closer to $5 million) in an upfront premium. This is a significant amount of money to put into alternative investments, which often have more risks, making PPLI most suitable for those with at least $20 million in net worth.

Even if someone has reached this level of wealth, there are other reasons why PPLI is not perfect. Many investors are initially attracted to PPLI because if it is set up in a certain way, they can still access the money they put in without incurring taxes; They can either withdraw the premium contributions they have made or borrow against the account. But there is a limit to how much an insured person can withdraw or borrow, so not everyone looking to take advantage of it will be happy.

There is also a risk if the policyholder takes in too much money and the underlying investments start to underperform. This could cause the policy to fall, which could result in ordinary income tax being paid on any increase in the account since the policy began.

For those who aren’t interested in being able to tap the money and just want to maximize the death benefits for their heirs, there are other types of insurance policies that may be more attractive, said John Rebschek, wealth strategist at Goldman Sachs Ayco Personal Financial Management, which offers financial planning for executives. for companies.

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