Many successful business owners have spent decades maximizing contributions to qualified retirement plans. While those deductions provided valuable tax savings during their working years, they often leave clients with a substantial concentration of wealth in accounts that will eventually be subject to ordinary income tax, Required Minimum Distributions (RMDs), and potentially significant tax consequences for their beneficiaries.
The Retirement Tax Minimization Strategy (RTMS) is designed to address that challenge by repositioning a portion of those existing qualified retirement assets into more tax-efficient assets while maintaining compliance with qualified plan rules. This article covers one component of that strategy: how permanent life insurance inside a profit-sharing plan moves a portion of those assets outside a fully taxable retirement account.
RTMS strategies fit business owners with seasoned qualified assets they are unlikely to spend.
This strategy is generally appropriate for business owners who:
- Own an active business capable of sponsoring a profit-sharing plan.
- Have significant existing, seasoned qualified retirement assets, typically $1 million or more.
- Have retirement assets they are unlikely to fully spend during their lifetime.
- Want to improve the tax efficiency of their retirement and legacy planning.
The RTMS strategy has three steps.
Step 1: Existing qualified retirement assets roll into a newly established profit-sharing plan.
The strategy begins with seasoned qualified retirement assets that already exist in a traditional IRA or former employer retirement plan. Those existing assets are rolled into a newly established employer-sponsored profit-sharing plan.
This is an important distinction: the strategy is not funded with new IRA contributions or annual retirement plan contributions. Instead, it utilizes previously accumulated qualified retirement assets that are eligible for rollover into the employer-sponsored plan.
Step 2: A portion of those assets funds permanent life insurance within that plan.
A profit-sharing plan used in this strategy is designed to permit the purchase of permanent life insurance under the qualified plan incidental benefit rules.
A portion of the rolled-over retirement assets is allocated toward funding a properly designed permanent life insurance policy over a predetermined funding period, typically three to five years, while the remaining retirement assets continue to be invested inside the qualified plan.
Step 3: After its funding period, the policy moves to personal or trust ownership.
After the scheduled premium funding period, the policy is removed from the qualified plan.
In many designs, the policy is purchased from the plan at its independently determined fair market value (FMV) pursuant to applicable IRS guidance, including Prohibited Transaction Exemption 92-6, Revenue Procedure 2005-2, and Revenue Ruling 2007-13.
Once transferred, the policy becomes personally owned (or, when appropriate, owned outside the estate in a trust), allowing future policy growth and death benefits to occur outside the qualified retirement plan.
The objective is to maximize the wealth a client and their family ultimately retain after taxes.
When appropriately designed and implemented, the strategy seeks to:
- Reposition a portion of qualified retirement assets into tax-advantaged assets.
- Improve the tax efficiency of retirement income.
- Increase tax-efficient wealth transferred to beneficiaries.
- Reduce the concentration of wealth inside fully taxable retirement accounts.
- Create a permanent life insurance asset capable of providing tax-advantaged access to cash value during retirement (when properly structured and managed) and an income tax-free death benefit.
Rather than simply maximizing retirement account balances, the objective is to maximize the amount of wealth the client and their family ultimately retain after taxes.
Baker Wealth Strategies coordinates on strategies with a client’s advisory team.
Baker Wealth Strategies and its partners serve as the coordinator of the strategy and work collaboratively with the client’s advisory team throughout the process. Our responsibilities include:
- Designing and establishing a profit-sharing plan.
- Coordinating the rollover of existing qualified retirement assets.
- Managing the qualified plan investments.
- Administering the qualified plan life insurance component.
- Monitoring compliance with the incidental benefit rules and other qualified plan requirements.
- Coordinating implementation with the client’s tax professional.
- Overseeing the eventual transfer of the policy from the qualified plan to personal or trust ownership.
Because this strategy integrates qualified retirement plans, ERISA compliance, tax law, investment management, actuarial considerations, and permanent life insurance, close collaboration among all advisors is essential to ensure the strategy is implemented properly and remains compliant.
Let’s discuss whether this strategy fits your clients.
We would welcome the opportunity to discuss whether this strategy may be appropriate for any of your clients and how we can work together to provide a coordinated planning solution. Please feel free to schedule a discovery call.
Jennifer Baker, CPA, CFP®, RICP®
Founder,
Baker Wealth Strategies
