For many couples today, the idea of using an irrevocable life insurance trust (ILIT) in their estate plan which may not allow them to make changes can be particularly unsettling. However, there are alternative plans that do not require they give up control. One such alternative is the Single Owned Survivorship (SOS) Trust.
The two insureds, husband and wife, would purchase a second-to-die survivorship policy. This type life insurance policy covers two individuals with the death benefit paid at the second death. The person with the shorter life expectancy would be named the owner of the contract. The owner would name his or her trust as the contingent owner of the policy.
This arrangement avoids gifting concerns while the owner is alive and is funding the contract. Access to cash value (if any) for supplemental retirement income or emergencies would be available. Upon the owner’s death, the contract would be transferred to the owner’s trust. The value of the owner’s death benefit would be included in his/her estate. The death proceeds of the trust would then avoid inclusion in the surviving spouse’s estate and, therefore avoid estate taxes due upon the second death.
If estate taxes were to be eliminated or are no longer a concern for the client, the contingent owner could be changed to the surviving spouse and therefore, the policy ownership would not transfer at the death of the owner/insured. The surviving spouse could continue to enjoy all the rights of policy ownership.
Advantages of an “SOS” Trust Arrangement
#1 Maintain access to any policy cash values during life of the owner spouse (with limited income rights after the first death).
#2 Death Benefit may be outside of the estate of the surviving spouse.
#3 Death Benefit can provide future liquidity for payment of estate taxes or for the needs of younger generations.
#4 Keep the plan flexible, allowing for changes in the future.
#5 No annual gifts, or other requirements associated with irrevocable life insurance planning.
Disadvantages of an “SOS” Trust Arrangement
There are two major disadvantages to this type of arrangement:
#1 – If non-owner spouse dies first, the survivor must gift or sell the policy to the trust and in some circumstances, the policy may still be included in the estate at the death of the surviving spouse. Be sure to carefully consider this potential liability when discussing and “SOS” Trust with your attorney.
#2 – Traditionally, a Survivorship Variable Universal Life (SVUL) insurance policy has been used for this strategy. SVUL policies involve market risk, which may affect the product’s premium, death benefit and cash value. In the event that the underlying investment options perform more poorly than illustrated, additional premiums may be necessary to keep the policy in force.
Solution for Disadvantage #2
I recommend to avoid the SVUL policy altogether, and to buy a "Survivorship Guaranteed-No-Lapse" Universal Life (Survivor GUL or SGUL) policy instead. The Survivor GUL is both more updated and more affordable than an SVUL. The premiums are set to a point where there is minimal cash accumulation for only a few years, and then later being only pure insurance for life. This will guarantee a ready death benefit with no surprises upon the death of the surviving spouse.
Options if the non-owner spouse dies first:
If the non-owner spouse dies first, the owner-spouse has three major options with respect to the policy:
1) Keep It – The owner may choose to keep the policy and treat is as an insurance-based retirement plan (if using an SVUL policy). The owner will benefit from the cash accumulation and will be able to access the cash via withdrawals and loans from the policy. This will however increase his/her premium (interest form the loan), and also reduce the death benefit that his/her beneficiaries would receive.
While this is certainly a viable option in this particular situation, I do however believe that the owner would have been far better off owning the lower-cost Survivor GUL. By doing so, he/she could have then used those freed up dollars to fund a retirement plan or other tax favored investment, which could then be drawn from.
2) Gift It – The owner may choose to gift the policy to his/her trust. If so, the gift may be subject to gift taxes and if the owner fails to live for three years from the date of the gift, then the entire death benefit will be includable in the estate. This is a topic to bring up when discussing with your attorney or accountant.
3) Sell It – The owner may choose to sell the policy to the trust. If so, the owner must take into consideration any transfer for value rules that may apply. This is yet another option that should be discussed with your attorney or accountant.
We at Malleo Financial Services can work together with both your attorney and accountant to help you properly fund an SOS Trust.
For a free consultation, please contact us for an appointment.
*This blog is strictly the opinion of Michael A. Malleo and not those of
ASH Brokerage Corp., nor any of our affiliates.
Malleo Financial Services LLC cannot and will not give any specific tax or legal advice.
Please consult your tax professional or legal professional for such advice.