A Deep Dive Into Private Financing

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2 A Deep Dive Into Private Financing Bob Finnegan, J.D., CLU, AEP Sr. VP, Advanced Sales Attorney, Highland Capital Brokerage

3 Funding Hierarchy (Simple to Complex) Clients Funds Existing Funded Trusts $15,000 AGTE $11.4M* Lifetime Gift & GST (2019) Transfer Assets o o o o Discounted Gift to DGT Discounted Sale to DGT Discounted GRAT (DGT) Loan Premium Structure o o o o o Full Premium Split $ - Economic Ben. Private Financing Private Financing & Gift Split-$ Demand Loan Pay Gift Tax (> $11.4M*) OPM (Premium Financing) Commercial Lender Local Banking Relationship Bank Specialize in Premium Financing Intermediary Dual Loan *Note: Gift, Estate & GST Exemption 2019 $11.40M (Married $22.80M) 2018 $11.18M (Married $22.36M) Increase $220,000 (married $440,000)

4 Private Financing The Perfect Hedge for Uncertain Times

5 Private Financing: How it Works Clients lends funds (cash or securities) to a Dynasty Trust Trust invests loan proceeds side fund in order to: Pay each annual premium as it becomes due Repay the loan at the end of the loan term Defective grantor trust Trust taxes paid by grantor. In effect, a gift and GST tax free transfer!

6 Private Financing Lump sum loan locks in current favorable 4/2018 AFRs: Models Use Actual: Mid-Term 2.87% Loan Term (3 years,9 years] (2.89% January 2019) Long Term 3.06% Loan Term > 9-years (3.15% January 2019) Lifetime term loans allowed! Accrue interest! (a powerful long term benefit)

7 Mr. and Mrs. Valued Client *** BASELINE PRIVATE FINACING EXAMPLE *** Insureds: Male Age 57 (Preferred NT), Female Age 56 (Preferred NT) (A) (B) (C) (D) (E) (F) (G) (H) (I) DYNASTY TRUST: Cash Flow & Value of Side Fund (SF) (SHORT)/Gain NET TO FAMILY End of Year Beginning of Year End of Year End of Year End of Year 2.87% Value of % Repay Loan Value of Insurance Total in MT AFR Loan Trust Annual Pre-Tax End of Year Trust Side Fund Death Trust Yr. Age Balance Side Fund Premiums Earnings 9 Side Fund Loan Bal. Death Beg. Loan 5,561, /56 5,721,122 5,561,507 (168,545) 323, ,716,539 (4,583) 10,000,000 9,995, /57 5,885,318 5,716,539 (168,545) 332, ,880,874 (4,444) 10,000,000 9,995, /58 6,054,227 5,880,874 (168,545) 342, ,055, ,000,000 10,000, /59 6,227,983 6,055,069 (168,545) 353, ,239,715 11,732 10,000,000 10,011, /60 6,406,726 6,239,715 (168,545) 364, ,435,440 28,714 10,000,000 10,028, /61 6,590,599 6,435,440 (168,545) 376, ,642,909 52,310 10,000,000 10,052, /62 6,779,749 6,642,909 (168,545) 388, ,862,826 83,077 10,000,000 10,083, /63 6,974,328 6,862,826 (168,545) 401, ,095, ,610 10,000,000 10,121, /64 7,174,491 7,095,938 (168,545) 415,644 (7,174,491) 168, ,000,000 10,168, / ,545 (168,545) (0) ,000,000 10,000,000

8 The Perfect Strategy for Uncertain Times 1. Design so that the client is fully secured in all years! 2. Transfer Tax Efficient (Gift, Estate & GST) 3. Income Tax Efficient 4. Use any type product! 5. Design Flexibility

9 1. Design to Secure Client In most if not all years If 9-year note Use cash value policy CSV + trust assets > Loan Balance The trustee can choose to repay the loan early. Ability to unwind the transaction = Clients can feel more comfortable entering into the transaction.

10 2. Transfer Tax Efficient Moves wealth to a dynasty trust without o Gift Taxes o Estate Taxes o GST taxes. The dynasty trust protects against repeat estate taxation. The plan is not dependent upon making a gift, it is a loan. It rides out whatever tax regimen we have in place. If the gift tax comes and goes, the strategy is unaffected. Grantor pays trust income taxes a free gift!

11 3. Income Tax Efficient Income tax free death benefit. Preserve gift/estate exemption for stepped up basis on second death.

12 4. Use any type product! A. Single life B. Survivorship C. UL/SUL i. Current Assumption ii. VUL iii. IUL D. Whole Life E. Term Note: Private Split $ (economic benefit regime) works best with Low CSV product Survivorship life or younger single life

13 5. Design Flexibility Reducing the Loan Private Financing & Gifts The Wait-and-See Gift Private Financing with Closely Held Assets Dual Spousal Lifetime Access Trusts

14 Reducing the Loan

15 Reducing the Loan Longer Note & Longer Premium Paying Terms 6% Pre-Tax Return Note Terms $10M Life Insurance *** Note AFRs Annual Years Pay Required Scenario Duration Term Rate Premium Premiums Loan 1 9 MidTerm 2.87% 168, ,561, Long Term 3.06% 107, ,025, Long Term 3.06% 91, ,341, Long Term 3.06% 86, ,781,133

16 Reducing the Loan Longer Note & Longer Premium Paying Terms 6, 7 & 8% Pre-Tax Return Scenario Loan Terms Premiums Solve for Loan Amount Loan AFR Annual Years to Pay If Pre-Tax Return # Duration Rate Premium Premiums 6% 7% 8% % 310, ,561,507 4,246,088 3,443, % 191, ,025,368 2,299,362 1,867, % 162, ,341,491 1,797,755 1,473, % 152, ,781,133 1,430,297 1,216,389

17 Private Financing and Gifts

18 Mr. and Mrs. Valued Client *** BASELINE PRIVATE FINACING EXAMPLE *** Insureds: Male Age 57 (Preferred NT), Female Age 56 (Preferred NT) (A) (B) (C) (D) (E) (F) (G) (H) (I) AFR DYNASTY TRUST: Cash Flow & Value of Side Fund (SF) (SHORT)/Gain NET TO FAMILY End of Year Beginning of Year End of Year End of Year End of Year 2.87% Value of % Repay Loan Value of Insurance Total in MT AFR Loan Trust Annual Pre-Tax End of Year Trust Side Fund Death Trust Yr. Age Balance Side Fund Premiums Earnings 9 Side Fund Loan Bal. Death Beg. Loan 5,561, /56 5,721,122 5,561,507 (168,545) 323, ,716,539 (4,583) 10,000,000 9,995, /57 5,885,318 5,716,539 (168,545) 332, ,880,874 (4,444) 10,000,000 9,995, /58 6,054,227 5,880,874 (168,545) 342, ,055, ,000,000 10,000, /59 6,227,983 6,055,069 (168,545) 353, ,239,715 11,732 10,000,000 10,011, /60 6,406,726 6,239,715 (168,545) 364, ,435,440 28,714 10,000,000 10,028, /61 6,590,599 6,435,440 (168,545) 376, ,642,909 52,310 10,000,000 10,052, /62 6,779,749 6,642,909 (168,545) 388, ,862,826 83,077 10,000,000 10,083, /63 6,974,328 6,862,826 (168,545) 401, ,095, ,610 10,000,000 10,121, /64 7,174,491 7,095,938 (168,545) 415,644 (7,174,491) 168, ,000,000 10,168, / ,545 (168,545) (0) ,000,000 10,000,000

19 Reducing the Amount Needed to Fund LI Loan: $1,314,936 (Pays Premiums) Gift: $1,004,039 (Repays Loan) Total $2,318,975 (A) (B) (C) (D) (E) (F) (G) (H) (I) AFR DYNASTY TRUST: Cash Flow & Value of Side Fund (SF) (SHORT)/Gain NET TO FAMILY End of Year Beginning of Year End of Year End of Year End of Year 2.87% Value of % Repay Loan Value of Insurance Total in MT AFR Loan Trust Annual Pre-Tax End of Year Trust Side Fund Death Trust Yr. Age Balance Side Fund Premiums Earnings 9 Side Fund Loan Bal. Death Beg. Loan 1,314,936 1,004,039 Gift to Trust 1 57/56 1,352,675 2,318,975 (168,545) 129, ,046, ,263 10,000,000 10,730, /57 1,391,497 2,046,275 (168,545) 112, ,990, ,306 10,000,000 10,673, /58 1,431,433 1,990,394 (168,545) 109, ,931, ,994 10,000,000 10,612, /59 1,472,515 1,931,160 (168,545) 105, ,868, ,128 10,000,000 10,549, /60 1,514,776 1,868,372 (168,545) 101, ,801, ,494 10,000,000 10,481, /61 1,558,250 1,801,817 (168,545) 97, ,731, ,865 10,000,000 10,409, /62 1,602,972 1,731,268 (168,545) 93, ,656, ,003 10,000,000 10,334, /63 1,648,977 1,656,486 (168,545) 89, ,577, ,652 10,000,000 10,253, /64 1,696,303 1,577,218 (168,545) 84,520 (1,696,303) 168, ,000,000 10,168, / ,545 (168,545) (0) 0 (0) 0 10,000,000 10,000,000

20 Reducing the Amount Needed to Fund LI Gift Alone: $1,314,936 (A) (B) (C) (D) (E) (F) (G) (H) (I) DYNASTY TRUST: Cash Flow & Value of Side Fund (SF) (SHORT)/Gain NET TO FAMILY NO LOAN Beginning of Year End of Year End of Year End of Year Value of % Repay Loan Value of Insurance Total in Trust Annual Pre-Tax End of Year Trust Side Fund Death Trust Yr. Age Side Fund Premiums Earnings 9 Side Fund Loan Bal. Death Beg. Loan 0 1,314,936 Gift to Trust 1 57/56 0 1,314,936 (168,545) 68, ,215,175 1,215,175 10,000,000 11,215, /57 0 1,215,175 (168,545) 62, ,109,427 1,109,427 10,000,000 11,109, /58 0 1,109,427 (168,545) 56, , ,335 10,000,000 10,997, / ,335 (168,545) 49, , ,518 10,000,000 10,878, / ,518 (168,545) 42, , ,571 10,000,000 10,752, / ,571 (168,545) 35, , ,068 10,000,000 10,619, / ,068 (168,545) 27, , ,554 10,000,000 10,477, / ,554 (168,545) 18, , ,550 10,000,000 10,327, / ,550 (168,545) 9, , ,000,000 10,168, / ,545 (168,545) (0) 0 (0) 0 10,000,000 10,000,000

21 Reducing the Funds Committed to the LI Program Loan and Gift 6% Pre-Tax Return Note Terms $10M Life Insurance Amount to Fund LI Note July 2018 Annual Years Pay Loan & Gift Scenario Duration Term Rate Premium Premiums Loan Gift Total 1 A 9 MidTerm 2.87% 168, ,561, ,561,507 1 B 9 MidTerm 2.87% 168, ,314,936 1,004,039 2,318,975 1C Not Applicable (No Loan) 168, ,314,936 1,314, Long Term 3.06% 107, ,893, ,025, Long Term 3.06% 91, ,093, ,341,491 5 Life Long Term 3.06% 86, ,738, ,781,133

22 The Wait-and-See Gift

23 The Wait and See Gift Private Financing offers the opportunity to gift in the future. Clients have a substantial estate including a highly successful closely held business. They are uncomfortable using the increased exemption today. They are in excellent health and have been underwritten at preferred rates. They understand the benefits of Private Financing including locking in favorable AFRs today.

24 Mr. and Mrs. Valued Client *** BASELINE PRIVATE FINACING EXAMPLE *** Insureds: Male Age 57 (Preferred NT), Female Age 56 (Preferred NT) (A) (B) (C) (D) (E) (F) (G) (H) (I) AFR DYNASTY TRUST: Cash Flow & Value of Side Fund (SF) (SHORT)/Gain NET TO FAMILY End of Year Beginning of Year End of Year End of Year End of Year 2.87% Value of % Repay Loan Value of Insurance Total in MT AFR Loan Trust Annual Pre-Tax End of Year Trust Side Fund Death Trust Yr. Age Balance Side Fund Premiums Earnings 9 Side Fund Loan Bal. Death Beg. Loan 5,561, /56 5,721,122 5,561,507 (168,545) 323, ,716,539 (4,583) 10,000,000 9,995, /57 5,885,318 5,716,539 (168,545) 332, ,880,874 (4,444) 10,000,000 9,995, /58 6,054,227 5,880,874 (168,545) 342, ,055, ,000,000 10,000, /59 6,227,983 6,055,069 (168,545) 353, ,239,715 11,732 10,000,000 10,011, /60 6,406,726 6,239,715 (168,545) 364, ,435,440 28,714 10,000,000 10,028, /61 6,590,599 6,435,440 (168,545) 376, ,642,909 52,310 10,000,000 10,052, /62 6,779,749 6,642,909 (168,545) 388, ,862,826 83,077 10,000,000 10,083, /63 6,974,328 6,862,826 (168,545) 401, ,095, ,610 10,000,000 10,121, /64 7,174,491 7,095,938 (168,545) 415,644 (7,174,491) 168, ,000,000 10,168, / ,545 (168,545) (0) ,000,000 10,000,000

25 The Wait and See Gift 1. Keep the loan in place (Baseline Example) 2. Forgive the loan (the Wait-and-See Gift) A. If it looks like the increased gift exemption is sunsetting (going away) B. And the client is comfortable making the gift 3. Surrender the policy and repay the loan (not illustrated) or reduce the death benefit Note: Decision to surrender policy or reduce face amount would be made by trustee.

26 The Wait-and-See Gift Example Gift Analysis DYNASTY TRUST: Cash Flow & Value of Side Fund (SF) NET TO FAMILY End of Year End of Year Beginning of Year End of Year Exemption Forgive Loan Value of % Repay Loan Value of Insurance Total in Loan Inflated at 6,421,153 Trust Annual Pre-Tax End of Year Trust Death Trust Balance 2.00% 7 Side Fund Premiums Earnings 9 Side Fund Death 5,561,507 5,590,000 57/56 5,721,122 5,701, ,561,507 (168,545) 323, ,803,796 10,000,000 10,072,108 58/57 5,885,318 5,815, ,803,796 (168,545) 343, ,060,624 10,000,000 10,153,545 59/58 6,054,227 5,932, ,060,624 (168,545) 358, ,332,860 10,000,000 10,245,025 60/59 6,227,983 6,050, ,332,860 (168,545) 374, ,621,431 10,000,000 10,347,309 61/60 6,406,726 6,171, ,621,431 (168,545) 392, ,927,317 10,000,000 10,461,206 62/61 6,590,599 6,295, ,927,317 (168,545) 410, ,251,555 10,000,000 10,587,581 63/62 358,597 6,421,153 (6,421,153) 7,251,555 (168,545) 429, ,148,509 10,000,000 17,148,509 64/63 368, ,148,509 (168,545) 423, ,486,019 10,000,000 17,486,019 65/64 379, ,486,019 (168,545) 443,988 (379,475) 7,843,780 10,000,000 17,843,780 66/ ,843,780 (168,545) 465, ,223,006 10,000,000 18,223,006

27 Private Financing with Closely Held Assets

28 Private Financing with Closely Held Assets Clients may want to fund a private financing transaction with closely held assets. The following discussion focuses on the use of Commercial real estate Closely held business interest Portfolio of marketable securities

29 Private Financing with Closely Held Assets Benefits Client may continue to manage the asset by retaining Voting shares in a corporation (transfer non-voting shares) General partnership interest in partnership (transfer limited partnership interests) Managing membership interest in an LLC (transfer non-managing membership interests) Client may be more comfortable with the closely held asset as an investment as opposed to being invested in the market Low valuations of the closely held asset may be available making the transaction more efficient as a wealth transfer vehicle.

30 Private Financing with Closely Held Assets Limitations The closely held asset may not have stable cash flow to pay premiums Since private financing liquidates principal to repay the loan, the loan will be repaid in kind, i.e. with the asset itself Qualified valuations will be needed for each in kind payment The loan must provide for sufficient interest (more below)

31 Mr. and Mrs. Valued Client *** BASELINE PRIVATE FINACING EXAMPLE *** Insureds: Male Age 57 (Preferred NT), Female Age 56 (Preferred NT) (A) (B) (C) (D) (E) (F) (G) (H) (I) AFR DYNASTY TRUST: Cash Flow & Value of Side Fund (SF) (SHORT)/Gain NET TO FAMILY End of Year Beginning of Year End of Year End of Year End of Year 2.87% Value of % Repay Loan Value of Insurance Total in MT AFR Loan Trust Annual Pre-Tax End of Year Trust Side Fund Death Trust Yr. Age Balance Side Fund Premiums Earnings 9 Side Fund Loan Bal. Death Beg. Loan 5,561, /56 5,721,122 5,561,507 (168,545) 323, ,716,539 (4,583) 10,000,000 9,995, /57 5,885,318 5,716,539 (168,545) 332, ,880,874 (4,444) 10,000,000 9,995, /58 6,054,227 5,880,874 (168,545) 342, ,055, ,000,000 10,000, /59 6,227,983 6,055,069 (168,545) 353, ,239,715 11,732 10,000,000 10,011, /60 6,406,726 6,239,715 (168,545) 364, ,435,440 28,714 10,000,000 10,028, /61 6,590,599 6,435,440 (168,545) 376, ,642,909 52,310 10,000,000 10,052, /62 6,779,749 6,642,909 (168,545) 388, ,862,826 83,077 10,000,000 10,083, /63 6,974,328 6,862,826 (168,545) 401, ,095, ,610 10,000,000 10,121, /64 7,174,491 7,095,938 (168,545) 415,644 (7,174,491) 168, ,000,000 10,168, / ,545 (168,545) (0) 0 (0) 0 10,000,000 10,000,000

32 Private Financing with Closely Held Assets Low Valuations Minority/non-controlling interests may be entitled to minority, lack of control and lack of marketability discounts A Low Valuation has the effect of increasing the investment return on the asset Example 100% RE valued at $5M earns 6%/year or $300,000 FMV of ½ interest based on a 70% discount = $3.5M $300,000 earnings on a $3.5M FMV = 8.57%!!!

33 1. $4.44M Asset Earning 6% ($266,500) Valued at $3.11M (30% Discount) Mr. and Mrs. Valued Client LOW VALAUTION INCREASES RETURN (6%/70% = 8.57%) Insureds: Male Age 57 (Preferred NT), Female Age 56 (Preferred NT) 2. $4.44M earns 6% = $266,500 Valued at $3.11M still earns $266,500 An 8.57% return! (A) (B) (C) (D) (E) (F) (G) (H) (I) AFR DYNASTY TRUST: Cash Flow & Value of Side Fund (SF) (SHORT)/Gain NET TO FAMILY End of Year Beginning of Year End of Year End of Year End of Year 2.87% Value of % Repay Loan Value of Insurance Total in MT AFR Loan Trust Annual Pre-Tax End of Year Trust Side Fund Death Trust Yr. Age Balance Side Fund Premiums Earnings 9 Side Fund Loan Bal. Death Beg. Loan 3,111, /56 3,201,289 3,111,975 (168,545) 252, ,195,724 (5,565) 10,000,000 9,994, /57 3,293,166 3,195,724 (168,545) 259, ,286,652 (6,514) 10,000,000 9,993, /58 3,387,680 3,286,652 (168,545) 267, ,385,373 (2,307) 10,000,000 9,997, /59 3,484,906 3,385,373 (168,545) 275, ,492,556 7,650 10,000,000 10,007, /60 3,584,923 3,492,556 (168,545) 284, ,608,927 24,003 10,000,000 10,024, /61 3,687,810 3,608,927 (168,545) 294, ,735,271 47,461 10,000,000 10,047, /62 3,793,651 3,735,271 (168,545) 305, ,872,446 78,795 10,000,000 10,078, /63 3,902,528 3,872,446 (168,545) 317, ,021, ,850 10,000,000 10,118, /64 4,014,531 4,021,378 (168,545) 330,243 (4,014,531) 168, ,000,000 10,168, / ,545 (168,545) ,000,000 10,000,000

34 Private Financing with Closely Held Assets Low Valuations A Low Valuation Enhances the Planning Generally, if loan assets at low value, and those assets are used to repay the loan, any repayments will also be based on the low value. But what if the business or RE is sold prior to repayment of the loan for more than the original valuation? The trust recognizes a windfall. Note: Sale must not be imminent or part of a pre-arranged plan

35 1. $4.44M Asset Earning 6% Valued at $3.11M (30% Discount) Mr. and Mrs. Valued Client *** Windfall if Asset Sold*** Insureds: Male Age 57 (Preferred NT), Female Age 56 (Preferred NT) (A) (B) (C) (D) (E) (F) (G) (H) (I) AFR DYNASTY TRUST: Cash Flow & Value of Side Fund (SF) (SHORT)/Gain NET TO FAMILY End of Year Beginning of Year End of Year End of Year End of Year 2.87% Value of % Repay Loan Value of Insurance Total in MT AFR Loan Trust Annual Pre-Tax End of Year Trust Side Fund Death Trust Yr. Age Balance Side Fund Premiums Earnings 9 Side Fund Loan Bal. Death Beg. Loan 3,111, /56 3,201,289 3,111,975 (168,545) 252, ,195,724 (5,565) 10,000,000 9,994, /57 3,293,166 3,195,724 (168,545) 259, ,286,652 (6,514) 10,000,000 9,993, /58 3,387,680 3,286,652 (168,545) 267, ,385,373 (2,307) 10,000,000 9,997, /59 3,484,906 3,385,373 (168,545) 275, ,492,556 7,650 10,000,000 10,007, /60 3,584,923 3,492,556 (168,545) 284, ,608,927 24,003 10,000,000 10,024, /61 3,687,810 3,608,927 (168,545) 294, ,735,271 47,461 10,000,000 10,047, /62 3,793,651 3,735,271 (168,545) 305, ,872,446 78,795 10,000,000 10,078, /63 3,902,528 3,872,446 (168,545) 317, ,021, ,850 10,000,000 10,118, /64 4,014,531 5,744,826 (168,545) 334,577 (4,014,531) 1,896,327 1,896,327 10,000,000 10,168, /65 0 1,896,327 (168,545) 103, ,831,449 1,831,449 10,000,000 10,000, Asset Sold at 100% Value (not at 30% discount). 3. Windfall to the Trust

36 Private Financing with Closely Held Assets: The Mechanics

37 Lend the Asset Directly? NO! Hard to Value Assets Most closely held business and real estate interests are hard to value. The value can be highly subjective. If the IRS successfully contests the valuation of the loaned closely held asset, then unexpected gift tax consequences to the donor. Exception: Portfolio of marketable securities is liquid and easily valued.

38 Private Financing with Closely Held Assets As an alternative to loaning the closely held asset (business or RE) directly Client lends cash to trust. Trust pays first premium or two. Trust purchases business or real estate interests (discounted). Wandry defined value clause (protects against valuation dispute with the IRS). If cash is not available

39 Dual Loan Closely Held Assets Client o Borrows funds from a bank. o Lends those funds to trust. Trust o Pays first (and possibly second) annual premium o Allows balance of loan proceeds to season for 6-18 months. o Trust purchases discounted assets (qualified appraisal) from client with balance of Loan 2 proceeds. o Trust now holds assets with sufficient cash flow to fund the life insurance. Client o Repays the bank loan with proceeds from sale of assets to Trust. o May be able to maintain the loan and invests the proceeds.

40 Private Financing with Illiquid Assets Dual Loan Funding of Life Insurance Prepared by Highland Capital Brokerage (Revised: 11/01/2017) Client Funds or Bank Loan Client (Grantor) Dynasty Trust 1 1. Borrows Funds from Bank (Loan 1) 2 2. Trust receives Loan 2 proceeds Or uses own funds and 3. Loan 2 proceeds fund insurance: 2. Lends those funds to Trust (Loan 2) a. Pay first premium. 4 3b 3a, c 3b. Client sells assets to Trust b. Purchases assets from Client. 4. Client repays bank loan (Loan 1) c. Asset cash flow funds premiums. Insurance Co. 5a 5. Upon death, 5b. Upon death, Client s estate repaid 5b a. Trust collects policy proceeds. Loan 2 proceeds plus accrued interest. b. Trust repays Loan 2 to Client s estate. Steps: 1. Loan 1: Client uses own funds or borrows funds from a bank (posts collateral as required by lender). 2. Loan 2: Client lends those funds to Dynasty Trust as a lifetime term loan with accrued interest. Loan proceeds plus investment earnings are sufficient for the Trust to a) Pay each annual premium and b) repay the loan plus accrued interest at the end of the loan term. 3. Trust: a. Pays first annual premium and allows balance of loan proceeds to season (to avoid step transaction), typically for less than 12 months. b. Purchases discounted assets from client (based on a qualified appraisal) with the balance of Loan 2 proceeds. c. Now holds assets with sufficient cash flow to fund the life insurance. 4. Client repays Loan 1 (the bank loan) with proceeds from sale of assets to Trust, typically within one year (depending upon 3a). 5. Upon death, Trust a. Collects the life insurance proceeds. b. Repays Loan 2 (including accrued interest). c. Retains the life insurance proceeds net of loan repayment. Note: Dynasty Trust is a defective grantor trust. As a result, Trust earnings are taxed to client (a free gift and GST transfer); deductible expenses, depreciation and other income tax items are reported on Client s tax return; gain is not recognized on sale of assets to Trust and annual increase in accrued loan interest is not taxed to client.

41 Private Financing with Closely Held Assets Considerations Make sure the structure is not part of a pre-arranged plan Make sure that the loan and the purchase are not so close together in time so that the step transaction doctrine could be applied That s why 1 or 2 premiums are paid before purchasing the closely held business interest Up to client s legal and tax advisors to determine Whether to engage in the transaction. The proper amount of time between transactions.

42 Private Financing with Closely Held Assets Considerations A Wandry or defined value clause may be used If the IRS successfully contests the valuation of the sale of closely held assets to the trust A defined value clause reallocates the amount of interests sold to match the purchase price

43 Private Financing with Closely Held Assets CAUTION: Low or No Cost Basis & Negative Capital Accounts Owners of closely held business interests and owners of commercial real estate frequently have low or no cost basis Note: This is especially true for owners of commercial real estate due to repeat 1031 exchanges and long term depreciation. Owners of commercial real estate frequently may even have negative capital accounts which amounts to negative cost basis. When low basis commercial real estate is transferred to an irrevocable trust, the opportunity to obtain a stepped up cost basis at death is at risk. Note: The stepped up cost basis at death wipes the slate clean relative to low cost basis and negative capital accounts.

44 Private Financing with Closely Held Assets CAUTION: Low or No Cost Basis & Negative Capital Accounts With vigilance, this risk may be minimized (but not eliminated). At a pre-determined date (prior to death), the low basis real estate is swapped out for cash (the ultimate high basis asset) or sold (the grantor pays the tax, diminishing the taxable estate). The low basis real estate would then be owned by the client at death and a stepped up cost basis would result. HOWEVER, if the client dies unexpectedly before the asset can be swapped out, then the low basis will be trapped in the trust and will be recognized sooner or later.

45 Dual Loan Private Financing is also A Superior Alternative to Commercial Premium Financing

46 Dual Spousal Lifetime Access Trusts (Dual SLATs) What s in it for me?

47 Chart I Traditional Solution - Survivorship Life Insurance in Trust H (as Grantor) Creates Dynasty Trust SUL ILIT Dynasty Trust DGT Life Insurance Premiums Paid from cash flow from spousal assets via gifts to trust. Husband Gift or Lend Premiums $10M SUL FBO of Children, Grandchildren, etc. Wife W (as Grantor) Creates Dynasty Trust

48 Chart II - Dual SLATs Basic (T&E Attorneys) Husband H (as Grantor) Creates Dynasty Trust 1 Gifts $5M Dynasty Trust 1 FBO Wife Children, GC, GGC+ $5M Assets Husband & Wife each Creates a Dynasty Trust Makes gifts to Trust Retains access - 100% while both alive; - 50% following first death. Wife W (as Grantor) Creates Dynasty Trust 2 Gifts $5M Dynasty Trust 2 FBO Husband, Children, GC, GGC+ $5M Assets Must avoid reciprocal trusts. Must avoid reciprocal trusts.

49 Chart IV - Dual SLATs with Gift & LI on Each Grantor Husband Dynasty Trust 1 H (as Grantor) Creates Dynasty Trust 1 Gifts $5M FBO Wife Children, GC, GGC+ $5M Assets & $5M Life Insurance Each Trust Purchase LI on the grantor Cash flow from $5M pays Premiums On death of grantor, LI proceeds replace assets Surviving spouse has access to 100% Wife W (as Grantor) Creates Dynasty Trust 2 Gifts $5M Dynasty Trust 2 FBO Husband Children, GC, GGC+ $5M Assets & $5M Life Insurance Example H dies W loses access to $5M assets in her trust H s trust receive $5M death benefit, available to support W. Must avoid reciprocal trusts.

50 Chart V - Dual SLATs with Gift & Survivorship Life Husband Dynasty Trust 1 Survivorship ILIT H (as Grantor) Creates Dynasty Trust 1 Gifts $5M FBO Wife Children, GC, GGC+ $5M Assets Dynasty Trust DGT Wife Dynasty Trust 2 LI Premiums Paid from cash flow from trust assets. $10M SUL FBO of Children, Grandchildren, etc. W (as Grantor) Creates Dynasty Trust 2 Gifts $5M FBO Husband Children, GC, GGC+ $5M Assets Must avoid reciprocal trusts.

51 Chart VI - Dual SLATs with Gift, Survivorship Life & Term Insurance Husband Dynasty Trust 1 Survivorship ILIT H (as Grantor) Creates Dynasty Trust 1 Gifts $5M FBO Wife Children, GC, GGC+ $5M Assets & $5M Term on H Dynasty Trust DGT Wife Life Insurance Premiums Paid from cash flow from trust assets. Dynasty Trust 2 $10M SUL FBO of Children, Grandchildren, etc. W (as Grantor) Creates Dynasty Trust 2 Gifts $5M FBO Husband Children, GC, GGC+ $5M Assets & $5M Term on W Must avoid reciprocal trusts.

52 Chart III - Dual SLATs with Gift, Survivorship Life & Term Insurance Dynasty Trust 1* H (as Grantor) Creates Dynasty Trust 1 Husband Gift $5M Trustee: Wife** & Indep. Trustee Benef.: Wife**, Children, GC, GGC, & SUL ILIT. $5M Assets $5M Term on H Defective Grantor Trust SUL ILIT Dynasty Trust DGT Life Insurance Premiums Paid from cash flow from trust assets. Must avoid reciprocal trusts. Wife W (as Grantor) Creates Dynasty Trust 2 Gift $5M Private Financing Dynasty Trust 2* Trustee: H** & Indep. Trustee Benef.: Husband**, Children, GC, GGC, & SUL ILIT. $5M Assets $5M Term on W Defective Grantor Trust $10M SUL FBO of Children, Grandchildren, etc. * Must avoid reciprocal trusts. Husband & Wife each Term insurance replaces assets in first-to-die s trust to provide for surviving spouse

53 Non-Reciprocal Trusts Dynasty Trust 1 Husband Grantor Dynasty Trust 2 Wife Grantor NV Premier Trust SD SD Trust Co. Wife & Independent Trustee 1 Husband & Independent Trustee 2 Wife, Children, GC, GGC, etc., ILIT Husband, Children, GC, ILIT H Not a Beneficiary or W HEMS (?) H HEMS (?) Indep. Trustee Abs. Discretion Wife holds 5x5 & Testamentary SPOA (Issue) Loans to H (Grantor) Indep. Trustee HEMS or Other Standard H holds Lifetime SPOA Among Descendants of H s Parents 1. Separate trust formation by time (6 mos., 15?) 2. Fund with different assets & different amounts 3. W income from day 1 4. H s income interest springs into being at age Life insurance different policies/amounts Other factors to consider: 5. One trust a Hybrid self settled trust 6. Life Insurance on grantor of each trust? 7. Vary special powers of appointment - One broad, one narrow - Different classes of beneficiaries - Lifetime vs. testamentary