Opinion

Whom the death tax benefits: The largest life insurance policy ever sold

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Beltway Confidential,Opinion,Timothy P. Carney,Taxes,Insurance Industry

The estate tax raises a tiny fraction of federal revenues, but it raises a significant portion of the life insurance industry's money.

Life insurance benefits can be tax-free. Inheritances over $5.3 million are taxed — with rates going up to 40 percent.

That's why the life insurers lobby like crazy to save the estate tax. (I've written about this lobbying effort in Reason, in the Washington Examiner and for the American Family Business Foundation.)

Recently, some unnamed California billionaire bought the largest life insurance policy ever. Buying life insurance doesn't make that much sense if you're already a billionaire -- unless it's part of planning around the estate tax.

Here's the story from personal finance site Saving Advice.

The question which immediately comes to mind is, “Why would someone with a billion dollars need a life insurance policy at all, let alone one for $201 million?” It’s a good question, especially since insurance is usually purchased by those who wouldn’t have the money to pay for something if a disaster would happen. A person who is rich enough to find himself on the world’s richest people list would certainly not fall into that category. ...

The most likely answer to this question is taxes and estate planning. Upon death, an estate would be liable to pay off loans on any leveraged properties, plus a lot of money as part of the death taxes owed. This could force the estate to liquidate holdings to raise the money to pay off these liabilities even if it weren’t the most opportune time to sell the assets. By taking out the life insurance policy, it would give the estate more flexibility in paying off the taxes and other debts owed, without necessarily having to sell assets to do so.

It should be noted that this isn’t an investment made by the billionaire. The companies underwriting the policy get the premiums and the interest they earn on them which should pay them more than the policy if the billionaire lives the quality life that is expected for him. Their risk is that he may die unexpectedly before he should. The insurance companies have crunched the numbers and believe that they will make money on this policy. If they didn’t believe that, they would have never have issued it.

The bad news is that the money spent on this policy is basically deadweight loss. The billionaire --who presumably knows how to invest -- could have invested it in something he thought promising or valuable. Instead, he's investing it in gaming the tax code -- which has value to him and the insurance companies, but not to the economy.

The good news is that the very large exemption brought to us by President George W. Bush and Republicans in Congress -- higher than $5.3 million -- frees lots of successful people from needing to worry about such estate planning.

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