3 Recent Estate Tax Court Cases On Split-Dollar Life Insurance
Under a split-dollar life insurance arrangement, a third party pays the insurance premiums on an insured person but maintains a right to reimbursement of some or all of the premiums. Although these insurance packages originated in the employer-employee context, taxpayers have started using them more in other settings, including in estate planning. Therefore, it is no surprise that the U.S. Tax Court has been called upon more recently to answer questions concerning the estate tax consequences of these transactions.
As discussed below, the three decisions—Estate of Cahill, Estate of Morrissette, and Estate of Levine—shared many commonalities. In addition to involving split-dollar contracts, the IRS attacked all three arrangements under sections 2036 and 2038 of the Code, either of which, if applicable, requires inclusion of the transferred property in the decedent’s gross estate.
Section 2036 And 2038
The estate tax regime imposes a tax on the transfer of wealth. It works in tandem with the gift tax. To ensure taxpayers can’t get around each of these, Congress enacted provisions in the Code aimed at requiring inclusion of certain assets in a decedent’s estate, even if the decedent did not hold title to the property. Two of these provisions are sections 2036 and 2038.
For either section 2036 or section 2038 to apply, the decedent must have made an inter vivos transfer of property. In addition, the property transfer must not have been a bona fide sale for adequate and full consideration (more on this later). If these two requirements are met, section 2036 applies if the decedent had possession or enjoyment of, or the right to income from, the property at the time of the decedent’s death. Alternatively, section 2038 applies if, in addition to the requirements above, the decedent held at death or three years prior to death a right to alter, amend, revoke, or terminate the enjoyment of the transferred property.
Significantly, sections 2038 and 2038 apply even if the prescribed rights are held in conjunction with another person.
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