President Joe Biden has proposed increasing the highest marginal long-term capital gains tax rate from 20.0% to 39.6%. For those earning $1 million or more annually, the new top rate, along with the 3.8% net investment income tax, means that federal capital gains tax rates for wealthy investors could be as high as 43.4%. The total rate may even exceed 50.0% for earners in high-tax states.
|Top Marginal Rate||37%||39.6%|
|Top Capital Gains Rate||20%||39.6%|
|Basis Step-Up at Death||Yes||No|
The Planning Opportunity
With the proposed increase in capital gains rates, asset location becomes even more critical. The long-term effects of the increased tax drag can be significant on an investment portfolio over time – and the benefits of tax-deferred and tax-free structures improve considerably. Earners subject to the highest rates have likely maximized many of the tax-advantaged account options available. However, for certain qualified investors, there may be an alternative in the form of Private Placement life insurance and annuity contracts.
Private Placement Life Insurance & Annuities
Private Placement insurance contracts allow an investor to own tax-inefficient investments within a tax-efficient insurance contract. The most tax-inefficient investments have generally been some forms of fixed-income and alternative investments (including hedge funds, real estate funds, and private credit funds) – but with the increase in capital gains rates, even traditional investments become more compelling to own in a tax-deferred or tax-free structure.
The trade-off is simple – exchange short-term and long-term capital gains for policy charges ranging from 0.75% to 1.25% annually, depending on the structure and holding period. If the hypothetical tax drag is greater than the policy charges over time, a higher after-tax return can be generated.
The benefits can be significant over time. For example, compounding at a 2.0% higher annual return amounts to approximately a 45% higher ending balance over twenty years. Private Placement life insurance can be structured to provide tax-free growth of principal, tax-free access to the balance (through policy loans), and a tax-free death benefit to his/her desired beneficiaries.
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Investment Risk Disclaimer
PPVI and PPVAs are unregistered securities that are not subject to the same regulatory requirements as registered variable products that include financial reporting obligations to the SEC. Similar to most forms of alternative investments, and due in part to their sales costs, insurance costs, and other charges, PPVI and PPVAs should also be viewed as investments that require a long-term investment horizon to effectuate the client’s financial objectives. All investments include the risk of loss. Past performance may not be indicative of future results. The views and opinions expressed herein are those of the author(s) and do not necessarily reflect the official views of Schechter or its representatives.