Life Insurance Check-ups: The Current Planning Environment As A Catalyst For Policy Review

By Caroline Brooks

The COVID-19 pandemic has spurred awareness and interest in life insurance like never before. According to a recent LIMRA study, nearly one third of consumers (31%) say COVID-19 has made it more likely they will purchase life insurance in the next twelve months and 102 million Americans feel they need more life insurance. Recently, tax proposals threatened to drastically change estate tax and trust planning, bringing trust-owned policies into the spotlight. Coupled with a renewed focus on the need for protection, now is an opportune time to be reaching out to clients to review existing plans and coverage.

Why Is Policy Review Important?

All too often, life insurance policies are purchased and largely forgotten about. For personally owned policies, this can lead to insufficient coverage, paying too much for coverage, familial discord when beneficiary designations are not up-to-date, and more. By helping your clients and trustees conduct routine policy reviews, you may uncover gaps in coverage and identify new planning opportunities.

The key to getting a client to engage in policy review and answer your email or return your call is by ensuring you are asking thoughtful, personalized probing discovery questions. For example, consider asking:

“What has changed in your life since we last met?”
“When was the last time your policy was reviewed? I’d like to take a look to see if it is still performing as expected.”
“There are significant proposed tax law changes which I am concerned may impact your estate plan. I’d like to discuss this with you as soon as possible.”

When it comes to sending emails or leaving voicemails, oftentimes less is more. Keeping your message short, but briefly highlighting the value you can offer, can lead to a call-back.

Policy Review Basics

When you meet with your client, the first step in any policy review process is to understand why the insurance was purchased and to determine whether the existing policy is still meeting that need today. This includes helping clients review beneficiary designation changes at least every two to three years or sooner if there has been a change in life circumstance, such as the start of a business, marriage, divorce, birth of a child, or a death.

The second step is to determine whether the policy is still performing as intended by reviewing the underlying policy and investments. There are a variety of reasons a policy can fail to perform as initially illustrated. For example, older whole life or universal life policies may be performing poorly due to a combination of factors including a low interest rate environment and changes to a carrier’s cost of insurance charges. Timing of premium payments and/or inadequate funding of the policy can also be an issue. In some cases, particularly where poor policy performance and/or large loans against the policy cash value puts the policy at risk of lapse, increasing the premium or reducing the death benefit may be needed. In other cases, a tax-free 1035 exchange of the policy may be advisable. For example, if an older mortality table was used or if the insured’s health has improved, a new policy may mean lower premiums.

Replacing the policy can also allow the client to address holistic planning goals, such as adding long-term care protection, or provide clients access to new products or product features on the market.

Managing Trust-Owned Life Insurance

In the context policies owned by irrevocable life insurance trusts, routine policy review by the trustee is especially critical. Failing to proactively manager and administer an underlying trust-owned policy can potentially frustrate planning goals. In addition, the trustee can be held personally liable for breach of fiduciary duty to the trust beneficiaries if a policy does not perform as expected.

TOLI: A Ticking Time Bomb Or A Golden Opportunity?

Trustees have a fiduciary duty to the trust beneficiaries, meaning they are required to manage trust assets with the best interests of all beneficiaries in mind and by maintaining an objective standard of care. For TOLI policies, the Trustee’s fiduciary responsibilities include facilitating the ongoing payment of premiums, income tax management, and providing notice to Crummey beneficiaries. Trustees also have important investment duties, as outlined by the Uniform Prudent Investor Act and further defined by case law over the years, requiring that trustees today take a more proactive approach to managing trust-owned policies.

There have been several notable cases where ILIT beneficiaries have sued the trustee for breach of fiduciary duty. The TOLI litigation of the last decade has impacted both corporate trustees as well as well as trustees who were “nonprofessional” trustees, such as family members or friends. Nonprofessional trustees account for roughly 90% of ILIT trustees, according to “The Life Insurance Policy Crisis,” by Randolph Whiteclaw and Henry Montag (American Bar Association 2017). The unfortunate reality is that many nonprofessional trustees may be unaware of their responsibilities with regard to ongoing insurance and investment management and are less likely to have expertise in understanding the mechanics of life insurance policies. These trustees may need to engage an independent entity to evaluate the health of the policy.

Insurance professionals also have a unique opportunity to work alongside trustees to assist with ongoing policy review and those who do so may be well-positioned to uncover opportunities to help trustees accomplish trust goals.

Grantor Trust Tax Proposals As A Catalyst For Review

Intentionally defective grantor trusts (“grantor trusts”) are a type of irrevocable trust containing provisions or powers as defined in the Internal Revenue Code that cause the grantor to be treated as the owner of trust assets for income tax purposes but keeps assets outside of the trust for estate tax purposes. Today, most ILITs are also grantor trusts.

As of press time for this article, the Senate was negotiating the Build Back Better Plan, a comprehensive social spending bill with costs offset by several proposed revenue raisers, including proposed tax increases on the wealthy. While not in the current version of the Bill, an earlier version contained a provision which would have caused property held in a grantor trust created after the enactment date to be included in the grantor’s gross estate, essentially ending the ability to use grantor trusts for future planning. Additionally, contributions to grandfathered grantor trusts after the date of enactment would have resulted in partial estate tax inclusion. This sparked urgency for financial professionals and attorneys to reevaluate plans for existing trusts and led to numerous discussions around the future of life insurance in irrevocable trusts.

As of press, it seems less likely these provisions will be included in the legislative text that may ultimately become law. However, the weeks of uncertainty around grantor trust planning leaves us with both a lesson and an opportunity: Congress can be unpredictable, and these proposals could come back on the table in the future. As such, there may never be as opportune of a time to revisit estate plans and review underlying trust policies. In doing so, insurance professionals may uncover the need to update or improve coverage to meet current planning objectives and liquidity needs.

With so much general uncertainty, clients are likely more honed into their protection needs than ever before. Now is an excellent time to reach out to your clients to assist with policy review. Financial professionals may find that taking the initiative helps to build trust and strengthen client relationships and may help identify new insurance needs.

Caroline Brooks, JD, CFP, CLU, is assistant vice president and counsel, John Hancock Advanced Markets. She may be contacted at [email protected].