"Use a Tax Sheltered plan to create a family asset exchange!"
Yes, there is a way for a parent or grandparent to use their assets to assist another family member (usually a child), to purchase needed insurance coverage and accumulate assets. That is by cost splitting a tax sheltered Life Insurance policy!
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Many people are unaware that:
- The "Fund Value" and the "Basic Death Benefit" of a tax sheltered plan can be split. This creates a situation where a one individual can pay for a major part of the cost of the insurance needed by another family member.
- The ownership of a policy can be changed in later years to create an asset transfer to someone in a lower tax bracket.
There are several methods of funding Split Dollar plans, for example;
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Here is how it works in a Regular Split Dollar (Net Cost of Pure Insurance) package. The deposit that funds the policy is split with the child usually paying the Net Cost of Pure Insurance, and the parent or grandparent paying the rest, up to the total deposit. The Parent or Grandparent owns the policy and receives the "Fund Value" portion upon the other persons' death. The child's beneficiary receives the difference between the "Total Death benefit," and the "Fund Value."
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Utilizing a Life insurance policy that qualifies under section 148 of the Income Tax Act, is an excellent planning tool because it creates a growing tax advantaged account. This account is totally accessible while the child is alive, and is paid out tax free on death. As long as the tax advantaged account does not cause the policy to become non-exempt, the policy could be funded with large deposits over a short period of time. This adds to the attractiveness of this for parents or grandparents with assets they would like to remove from a taxable position.
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A split dollar plan is neither a type of insurance nor a reason for purchasing an insurance policy. Split dollar plans are simply a method of splitting the costs and benefits of a life insurance policy between two parties. The split dollar arrangement is usually documented in a separate contract from the life insurance policy. This split dollar contract typically defines the ownership rights over policy values and death benefits as well as the premium paying responsibilities of the two parties. Any two parties can be involved in a split dollar plan but the most common application in a family is with a parent and adult child.
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Regular Split Dollar on Fund Value Basis
In a Regular Split Dollar calculated on Fund Value, the Parent owns the fund value portion of the policy and receives the Fund Value portion upon the Child's death. The Child's beneficiary receives the face amount upon death. The Parent pays the lesser of the Annual Deposit and the growth in the Fund Value for the policy year. The Child pays the difference, if any, between the total deposit payable and the premiums paid by the Parent.
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The result of this arrangement is that the Parent pays a small portion of the deposit in the early years of the policy. In the later years of the policy, the Parent may be paying all of the deposit. The Child is not paying the cost of providing insurance coverage in the later years of the policy.
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