If you’re close to or in retirement and asking yourself how you can best pass your wealth on to your heirs, repositioning some of your investments may be a tax-efficient way to leave a larger financial legacy.

You’ve worked hard to build up your nest egg and find yourself in a position where you can enjoy a comfortable retirement and also leave a legacy.

Your goal is to pass more of your wealth on to your beneficiaries and less to the IRS. Using an asset-repositioning strategy to another vehicle, such as a life insurance policy, may be a way to help you do it.

How does asset-repositioning work?

When you apply this strategy, you exchange one of your existing investments for life insurance, which may be more tax efficient, depending on your circumstances. Let’s look at a few strategies you could consider using for this strategy.

Lower-yielding investments 

An assumption most investment professionals use is that, over time, more conservative, or short-term, investments will typically return less than more aggressive, or longer-term holdings. (There are periods during which this assumption may not hold.) By repositioning a portion of your lower-yielding securities into life insurance, you could possibly help your heirs receive a larger inheritance. Here’s an example of how the strategy works: Money market & CD yields in 2019 have been approximately 1%–2%. If these lower-yielding dollars were repositioned into life insurance, the leveraged tax-free gain would likely be higher than the current yield on short-term investments.

Required minimum distributions (RMDs) from retirement assets 

Once you reach age 70½, the IRS mandates that you start taking distributions from any of your Individual Retirement Accounts (IRAs), or be subject to a 50% penalty. Many people use their RMDs to pay for living expenses. However, if you don’t need (or want) this excess income, the asset-repositioning strategy could prove to be beneficial if your goal is to leave a legacy. You can reposition the RMD’s after-tax value (as the amount gets included and taxed as part of your ordinary income for the year) into a life insurance policy premium payment. Then, you can use future RMDs to pay the policy’s ongoing annual premiums. Your heirs will receive the proceeds of the life-insurance policy.

There are two potential advantages here:

  • The death benefit has the potential to be larger than the total of the RMDs used to pay for the insurance.
  • The death benefit payment is usually free of federal taxes, so your heirs shouldn’t get bumped into a higher tax bracket because of their inheritance.

Annuity policies with income-rider guarantees 

Some investors purchase annuity contracts to provide a level of safety for future income needs. They may also add riders that provide a guaranteed income level through their life span. The financial markets have performed quite well from 2009–2019. With the growth in many investment portfolios, a number of annuity policyholders have found they no longer need the income from their annuities—and especially their riders. Yet once this kind of rider is in a contract, most annuity providers don’t allow it to be removed. The result is that the policyholders end up paying extra fees for something they don’t need (at least when market performance is strong). If you find yourself in this situation, you could consider taking distributions from the annuity and then funding a life insurance policy with the annual proceeds. You might face current tax ramifications for these withdrawals. However, you could take the after-tax distributions to replace an asset that’s tax-inefficient (ordinary income on gains from the annuity) with life insurance, which is a more tax-efficient strategy (tax-free upon death).

Potential benefits include:

  • Reduce your taxable estate without giving up your desire to leave a legacy for beneficiaries.
  • Increase the benefits for your heirs by using life insurance for a larger, tax-free legacy.
  • Decrease a current or future tax burden for yourself, or for your heirs.

Know how each asset will be taxed at death

The table below shows the taxation at death by asset class (based on current tax laws):

investment CategoryIncome TaxEstate Tax
Money MarketNoYes
CDsNoYes
Deferred AnnuityYesYes
Municipal BondsNoYes
Corporate BondsNoYes
IRAs/401(k)s (excluding Roth IRAs)YesYes
Immediate Annuit (SPIA)NoNo

Talk over the strategy with a financial advisor

If you’re considering repositioning your assets, it’s best to review your financial plan with your financial advisor and complete a comprehensive analysis of your current investments. Your financial advisor will be able to help you determine if this strategy fits with your individual investment and estate-planning goals.

This is for informative purposes only and in no event should be construed as a representation by us or as an offer to sell, or solicitation of an offer to buy any securities. The factual information given herein is taken from sources that we believe to be reliable, but is not guaranteed by us as to accuracy or completeness. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation, or needs of individual investors. Employees of Janney Montgomery Scott LLC or its affiliates may, at times, release written or oral commentary, technical analysis, or trading strategies that differ from the opinions expressed within. Janney makes no representation that an individual will obtain gains or losses similar to those illustrated. The concepts illustrated here have legal, accounting and tax implications.


Janney Montgomery Scott LLC, its affiliates, and its employees are not in the business of providing tax, regulatory, accounting, or legal advice. These materials and any tax-related statements are not intended or written to be used, and cannot be used or relied upon, by any taxpayer for the purpose of avoiding tax penalties. Any such taxpayer should seek advice based on the taxpayer’s particular circumstances from an independent tax advisor.

 

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