13 September, 2017 Financial Planning

Insurance Trusts

Insurance Trusts? What are they and why should you use them?

A typical concern with life insurance deals with the simultaneous death of both parents who have minor age children. How do they leave the proceeds of life insurance policy(s) these kids? This article will discuss this quandary.

Life insurance has some attractive features, one of which is that it transfers directly to a human being without being subject to the fees of an estate, such as probate fees and executor fees. Probate fees are $15 on every $1000 of estate assets. So, a properly worded life insurance beneficiary designation on a $1 million life insurance policy avoids $15,000 of probate tax ($15 x $1000). The simplified answer to avoiding these fees probate fees has you designating the kids as beneficiaries in trust on the insurance application. You then name the trustee on the application as well. . The upside is that the proceeds of the insurance policy transfer tax free to the kids, thus avoiding probate fees and executor fees.

While this tax treatment is attractive, I have been a big fan of this type of beneficiary designation for a few reasons. Firstly, the kids get the monies at the age of 18 whether they are incredibly responsible for they are little hell raisers. While some kids are mature at 18, others are still little children. And it’s always terrified that for boys, some cute little thing will convince them to use their insurance monies to buy a fast, hot little Porsche instead of using the monies for university or college. So, this distribution of cash needs to be delayed until the kids are more mature. As well, there is nothing from stopping the insurance application denoted trustee, from spending all the monies. Remember, both the parents are dead and this is the trusted person appointed by the parents. It’s usually a close relative or friend. . At this point, the minor kids would have to litigate against this supposedly trusted person who is probably their aunt or uncle. . It’s very ugly. And finally, if the trustee goes bankrupt, the assets can be seized.

Needless to say, as a parent, I find this type of designation to be unacceptable.

So what is a parent to do? Consider an Insurance Trust within the will. If properly drafted, the proceeds of the insurance policy would not form part of the estate, thus avoiding probate fees. And that’s a good thing. Good legal guidance is required. If there is a policy of $1 million, this would save your estate the $15,000 in probate fees.

At the same time, you can put in all sorts of rules regarding how the monies are to be distributed. For example, if you had a policy for $1 million, you could advise the trustee of the funds that they will receive $250,000 to raise their child. However, the remainder will remain in the trust. At 18, the child is to receive $100,000 for the purpose attending college / university. When the child is 25, they can receive the remainder of the monies.

So…what to do we achieve with the insurance trust? We avoid probate fees and we get control from the grave over the financial distribution of the insurance proceeds.

It is a bit of a no brainer that you should seek out legal advice on this matter. The term “properly drafted” screams of correct legal jargon . As usual, consult with your financial team before moving forward on such a program.

 

This article was written by John Klotz. John is President of Northwood Mortgage Life Insurance corporation and an advisor with Investment Planning Counsel. You can reach John at john@northwoodfinancial.ca or call 416-783- PLAN (7526) X 1