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Advisers dust off insurance strategies

With taxes poised to rise, cash-value products may come back in vogue

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By Darla Mercado

March 8, 2009 6:01 am ET

Financial advisers are looking at some insurance strategies to help clients cope with the nearly $1 trillion in higher taxes that await the wealthy over the next decade, thanks to President Obama's new budget plan.

"With the return of higher tax brackets, we'll see new activity in insurance," said Bryan D. Beatty, a certified financial planner and partner at Egan Berger & Weiner LLC. The Vienna, Va.-based firm manages $110 million.

"That activity wasn't growing when capital gains and dividend taxes went down, but now cash- value life insurance may gain popularity," Mr. Beatty said.

Although advisers had been anticipating higher taxes, Mr. Obama's proposal last month outlined just how high those rates may go.

For instance, the president proposed reinstating the 36% and 39.6% income tax rates for married couples earning more than $250,000 and singles making more than $200,000 annually, respectively. That would be up from 33% and 35%, respectively.

Another provision would step up the tax rate on capital gains and dividends to 20%, from 15%, for individuals who made more than $200,000 and married couples who made more than $250,000 annually.

MORE TAX-FRIENDLY

As a result, both clients and advisers have become concerned about drafting withdrawal strategies that may be more tax-friendly, some said.

"Clients want to convert tax-deferred accounts into Roth ac-counts so that the withdrawal be-comes tax-free; then they'll use the after-tax dollars to fund life insurance strategies," said Boris L. Blum, a CFP at Wealth Planning and Management Inc. The Woodland Hills, Calif.-based firm has more than $25 million under management.

Enter variable, universal life and variable universal life insurance.

Plain-vanilla planning with these products will be back in vogue as clients become interested in overfunding a permanent life insurance product and then borrowing the money while in retirement, Mr. Blum said. In this sense, the cash value of the policy acts as a funding vehicle to supplement retirement planning.

The use of such a strategy might seem counterintuitive, considering that account values in variable life policies were chewed up amid the market turmoil, and clients who borrowed against that value would most likely be pulling from an already-depleted account. Similarly, policy sales lagged during the fourth quarter of 2008, particularly with policies that invest in the stock market.

Universal life products saw a 23% drop in annualized premiums, while variable life products fell by 41% and variable universal life products fell by 18%, according to data from LIMRA International Inc. of Windsor, Conn.

But advisers who advocate the use of cash-value life insurance products said that there indeed can be a place a for such a policy if the client has sufficient discretionary income to overfund it and can afford to stay in the product.

Joe DeDomenico, an adviser with DeDomenico Wealth Management in North Haven, Conn., said that a client had requested an upgrade to his buy-sell agreement on his small business, moving from term life insurance to cash-value universal life as a way to build equity. "This is an extra savings plan rather than a savings account in the bank," he said.

Business owners can also consider setting up a captive reinsurance program for employee benefits and workers' compensation programs.

This allows a small company to share risk with an insurance company by establishing a captive and letting it act as a reinsurer. Companies can benefit if their claims experiences are low, and they can also mitigate taxes, Mr. Blum said.

The market's woes have also raised the question among advisers of whether it might be time for clients to annuitize. It may be tax-efficient for clients to annuitize a deferred annuity, but clients aren't big fans of annuitization, as it makes them feel as if they have lost control of their money, Mr. Beatty said.

"There is an outside possibility that you may get more tax efficiency through annuitization, but the changes in tax policy don't really fit that scenario," he said.

Others say that annuitization can work through a single-premium immediate annuity.

"Everything old is new again," Mr. DeDomenico said. "Before, when the market was flying, people would have shot you for annuitizing the nest egg."

E-mail Darla Mercado at dmercado@investmentnews.com.

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