Case Studies
The following Case Studies illustrate the flexibility permitted when designing structures for various goals and different objectives. The examples shown are not an exhaustive set of options but rather a sample set of various solutions for extremely different objectives. There are far too many permutations, derivatives and combinations to provide a complete set of example structure designs.
Variables held constant in the examples are sex, (male), age, (50), smoking status, (NS) medical underwriting class, (preferred), size of the funds available for the collateral pledge (10.0mm USD).
Variables that will hold constant in the examples but not necessarily translate to a current structure design are the interest rates, (costs of capital and crediting rates), as well as crediting rates (growth rates) in the “do nothing” approach.
Variables NOT held constant in the examples are duration of the funding, (length of time the premiums are paid), the size of the death benefit, tax free loans (income) out of the structure, liquidity provided (cash out) at closing.
Note that the funds payable with respect to the Economic Benefit Doctrine (at current AFR) may be paid out of pocket or financed within the transaction structure but in either situation a payment is due on an annual basis and cannot be capitalized. The interest due on the bond may be either paid out of pocket on an annual basis or capitalized and financed within the structure. These two variables, how to pay (out of pocket or financed) and when to pay (annually or balloon) materially change the results of the Case Studies.
Furthermore, where to pay, retiring the structure or servicing the annual structure costs may come from the structure itself, from the owner or from the company, (captive insurance company).
Please recognize that customized structure design does not begin until such time as the ultimate beneficial owner (UBO) and related advisors agree that leveraging dead capital on the balance sheet in the form of a collateral pledge is a worthy engagement of time and a path to pursue.
The key takeaway for the reader is that the APG team is creating almost unlimited optionality through bespoke designs in the transaction structure.
Column Headings and Explanations
Note that different structures and therefore different designs have different model outputs with different columns highlighting more relevant information.
Columns No Number -- Year and Age:
These are self-explanatory and are simply employed to facilitate a reference point.
Column: Bond Issuance
This represents the size of the bond issued to cover all costs associated with the structure. Typically, there will be two (2) bond issuances per structure, although an unlimited number of issuances every 60 months may be utilized. Each is a distinct issuance with a duration of 60 months. Therefore, year 6 is not cumulative but another bond, upsized to cover increased costs of mortality and structure costs (retire first bond, maintain collateral levels while cash surrender value grows).
Column: Projected Borrowing Rate
This is a wholly hypothetical rate based on macro assumptions that may be changed to reflect rates the UBO and advisors wish to illustrate.
Column: Projected Variable Interest Cost
This is simply the Bond Issuance column x the Projected Borrowing Rate column.
Column: Projected Income to Trust
This column is utilized to illustrate tax free withdrawals from the life insurance contract (in the form of policy loans) to the trust or UBO or UBO’s designee. The withdrawals / loans are repaid at mortality and reduce the ultimate death benefit.
Column: Projected Policy Loans
This illustrates the loan amounts coming from the life insurance policy contract first to repay the bondholders and second, in later years, if desired, to produce an income tax free income stream to the UBO as illustrated in Case Study Three found in the column Projected Income to Trust.
Column: Projected Side Fund Balance
This represents the remaining, un-used funds from the Bond Issuance held in a custodial account, typically a money market or high yield savings account, at a bank that are net of policy premiums, interest, and if the AFR is financed and reimburses the UBO, the AFR tax payable.
Column: Projected Side Fund Earnings
This is simply the interest growth in the Projected Side Fund Balance column.
Column: Additional Funds to Trust
This represents cash out at closing and this column is only utilized in this specific design.
Column: Policy Premiums
This is the amount payable to the life insurance company to fund the life insurance contract.
Column: Projected Cash Surrender Value at 95%
This is the cash surrender value of the life insurance contract discounted by 5% as per procedures and protocols utilized by most banks. This projection crediting rate is highlighted in the yellow footer and is capped by AG-49 Guidelines. AG-49 is explained in the Case Studies.
Column: Supplemental Collateral Requirement
This is the gap between the Projected Side Fund Balance plus the Projected Cash Surrender Value minus the Bond Issuance. This calculation is utilized by the bank to cover the Direct Pay Letter of Credit (“DPLoC”) in year 5. The figures increase and decrease in a somewhat linear fashion as the cash surrender value is replacing the need for supplemental collateral but is offset in year 6 as typically a second bond is issued. The most important figure in this column is year 5 as this represents the amount of the collateral pledge required on day 1, year 1. This pledge may be made by the captive insurance company or the UBO in the form of a personal guarantee.
Column: Projected Death Benefit Net of Loan
The figures in this column represent the amount the beneficiaries, trust or foundation would receive at mortality after the loan is paid from the death benefit.
Column: Captive Surplus Balance
This column represents the balance growing inside the captive at an arbitrary 5%
Column: Captive Surplus Balance, Net of Taxes
This column represents the Captive Surplus Balance growing at 5% and reduced by the long-term capital gain of 20% and the Healthcare Act 3.8%. This illustrates the “do-nothing” approach.
Case Study One
Case Study One was an “ask” for a maximum death benefit at projected mortality and bundling the servicing costs associated with the structure, (capitalize and finance the interest payable) and
Case Study Two
Case Study Two was an “ask” for a minimum death benefit at projected mortality and bundling the servicing costs associated with the structure, (capitalize and finance the interest payable) and
Case Study Three
Case Study Three was an ‘ask” for additional supplemental income beginning at an age 67 that maximizes the amount of the tax free distribution to the recipient. The death benefit
Case Study Four
Case Study Four was an ‘ask” for liquidity at the time the structure is implemented. Specifically, the owner wanted USD $2,000,000 of trapped capital immediately without incurring taxes on the
Disclaimer
Allied Professional Group (APG) affiliates with cross disciplinary experts in legal, tax, accounting, audit, actuarial and compliance in order to deliver to captive managers and captive owners solutions to optimize and to enhance the captive experience.
Our proprietary approaches provide tax efficient avenues to transform excess capital into material financial benefits.