CONVERSION STRATEGY - Fortune Financial

CONVERSIONS T R AT E G Y:WHAT TO CONSIDERWritten byMartin H. Ruby, FSA

Converting retirement funds from a tax-deferred statusto a tax-free status is nothing new. Over the pastdecade, more and more Americans – helped by financialprofessionals – are realizing deferring taxes may not be intheir best financial interest.In the past, many traditional IRAs were converted intotax-free Roth IRAs. Today, funds from a growing numberof IRAs are being placed in indexed universal life (IUL)insurance policies. And it’s easy to see why: IUL canprovide four powerful benefits to today’s savers: The power of indexing – growth potential withprotection from market losses1 Tax-free income through policy loans2 Access to funds with no market-value adjustment A legacy for beneficiaries above the account valueIndexed universal life is not a registered security or stock marketinvestment and does not directly participate in any stock or equityinvestments, or index. The index used is a price index and does not reflectdividends paid on the underlying stocks.1Policy loans and withdrawals are not usually subject to income tax unlessthe policy is classified as a modified endowment contract (MEC) underIRC Section 7702A. Policy loans and withdrawals will reduce available cashvalues and death benefits and may cause the policy to lapse. Additionalpremium payments may be required to keep the policy in force. In the eventof a lapse, outstanding policy loans in excess of unrecovered cost basis willbe subject to ordinary income tax. Tax laws are subject to change; consult atax professional about your personal situation.2

Thanks to these benefits, IUL has becomea key component of holistic planning fora growing number of Americans. Financialprofessionals understand that IUL candeliver a package of features not found inother financial vehicles.What is an IRA-to-IUL conversion?An IRA-to-lUL conversion is a process bywhich you withdraw a portion of yourIRA funds, pay taxes on the proceedsand use the net amount to purchase apermanent life insurance policy thatbuilds cash value.3You may be familiar with the term “IRArollover,” which describes transferringfunds from one IRA account to another.You may also be familiar with the term“Roth conversion,” which describesmoving funds from a qualified account toa tax-free Roth account.An IRA-to-lUL conversion is neitherof these approaches, but shares somecommonalities with each. Like an IRArollover, an IRA-to-lUL conversion movesfunds from one vehicle to another.Like a Roth conversion, an IRA-to-lULconversion involves paying taxes now onassets moved from a tax-deferred accountto a tax-free vehicle.An IRA-to-lUL conversion can be partof a holistic planning approach to helpmaximize and balance the growthpotential, risk and tax efficiency of youroverall retirement portfolio.Is an IRA-to-IUL conversionstrategy sound?The answer is yes, with importantqualifications.Like many financial strategies, IRA-tolUL conversions can be beneficial forsome, while not appropriate for others.Additionally, as with any insurancestrategy, proper structuring of the policyis critical to help ensure your goals andobjectives for purchasing the policyare met.3Permanent life insurance policies requiremonthly deductions, which include cost ofinsurance, expense charges and potentiallyother charges. These deductions may reducethe cash value of the policy.

Analyze your IRA to make an#2: informed decisionAt its core, an IRA-to-IUL conversionstrategy is a two-step decisionmaking process:1. Does it make sense for you to save in atax-deferred vehicle or a tax -free vehicle?2. If the answer is a tax-free vehicle, is IULthe right tax-free vehicle?How do you know if an IRA-to-lULconversion will improve your retirementapproach? Start by analyzing your currentIRA. Important things to consider include:There are six key areas to consider priorto moving forward with this approach.Reviewing each of these areas can helpyou determine if this approach is right foryou, and how to best execute the strategy. Are you a good fit for#1: this strategy?Most of the time, an IRA-to-IULconversion strategy is not appropriate foryour entire IRA account balance. So makesure this strategy is a good fit for youbefore allocating any portion of your IRAto an IUL policy. Funds in an IUL policy need time toaccumulate. Therefore, an IRA-to lUL conversion should only be usedfor the portion of your IRA thatis not needed for income in the next10 years. Life insurance policies requiremedical, and possibly financial,underwriting to determine eligibility. Remember: an IRA-to-lUL conversionshould be just one piece of yourretirement planning strategy.Total tax liability: How much in taxeswill the IRA generate over yourlifetime? Based on this analysis,your financial professional canhelp you decide if moving IRA fundsfrom a tax-deferred to a post-taxstatus makes sense. If the answer is yes, you can analyze:– After-tax growth potential: Usingreasonable assumptions forgrowth and taxation, what wouldthe post-tax IRA value be in 10,20 and 30 years?– Less favorable market growth:What would happen to theIRA value if market performanceis less favorable than assumed?Compare the IRA analysis to#3: an IUL illustrationWorking with your financial professional,compare after-tax growth in your IRA toafter-tax growth in an IUL policy. Together,you can evaluate the results.

#4: Handle taxes responsiblyYou will owe taxes on the funds comingout of your IRA. In order to determine thebest approach for paying those taxes, youshould consult with a qualified tax advisor. IUL premiums should be set usingpost-tax amounts from an IRA.– For example, Bob withdraws 50,000 from his IRA this yearand has a 25% tax liability. HisIUL premium for this year shouldbe 37,500 ( 50,000 x .75). You should not use IUL policyloans to pay taxes.– For example, Bob should not payan IUL premium of 50,000 thisyear, and then take a policy loanfor 12,500 to pay the taxes owed.– Using policy loans to pay taxesputs your IUL policy at risk. Early year loans can stress an IUL policy,particularly if indexing interestcredits are lower than expected.A sound IRA-to-lUL conversion strategywill handle taxes outside the IUL policy, andthen compare growth in the IRA and IULusing the net-of-tax premiums and values.

#5: Funding the IUL policyIt’s important to fund your IUL policy inan efficient way. This means balancingtwo interests: Getting funds into the IUL policyquickly, to maximize accumulation. Ensuring the premium pattern does notcause the IUL policy to become a MEC,as loans from a MEC are not tax-free.4A 5-pay premium5 is generally the idealstructure for an IRA-to-IUL conversionstrategy. A 5-pay moves premiums into thepolicy quickly while helping ensure thepolicy does not become a MEC. It also distributes the impact of payingtaxes on withdrawn IRA funds overmore years, compared to a more rapidfunding pattern.– In some cases, a 7-pay or even a10-pay may be appropriate to avoidmoving into a higher tax bracket inany given year.#6: Death benefitThe death benefit is an importantconsideration. After all, an IUL policy deliverssomething an IRA does not: A legacy aboveand beyond the account value. In fact, deathbenefit protection is the primary purpose oflife insurance. Depending on your situation andneeds, it may make sense to set thedeath benefit at the minimum allowedby IRS guidelines.– This minimum death benefit willensure the policy does notbecome a MEC, and the taxstatus of your funds will notbe at risk. You should not dramatically lower thedeath benefit after the first few policyyears. Doing so risks making thepolicy a MEC.– If you choose to lower thedeath benefit in future policyyears, be sure the reductiondoes not result in a deathbenefit less than the totalamount of premium paid.4A MEC policy is one in which the life insurance limits exceed certain high levels of premium, or the cumulativepremium payments exceed certain amounts specified under the Internal Revenue Code. For policies that are MECs,distributions during the life of the insured, including loans, are first treated as taxable to the extent of income in thecontract, and an additional 10 percent federal income tax may apply for withdrawals made prior to age 59 ½.A 5-pay premium describes how you will fund the IUL insurance policy: with premium payments over 5 years.Likewise, a 7-pay or 10-pay references funding the IUL policy with premium payments for those given year durations.5

Should you consider anIRA-to-IUL strategy?IRA-to-lUL conversions aregrowing in popularity for goodreason. If you are approachingretirement or are already retiredand looking for: Death benefit protection Potential for growth withprotection from market losses The ability to diversify yourretirement assets The tax advantages of aproperly structured lifeinsurance policyyou may want to consider anIRA-to-IUL approach.

200 A Tigue StreetDunmore, PA 18512570-489-4142www.fortune-financial.orgThis document is designed to provide general information on the subjectscovered. It is not, however, intended to provide specific legal or taxadvice and cannot be used to avoid tax penalties or to promote, market orrecommend any tax plan or arrangement. Individuals are encouraged toconsult with a qualified professional before making any decisions about theirpersonal situation. Life insurance agents do not give legal or tax advice.Guarantees and protections provided by insurance products are backed bythe financial strength and claims-paying ability of the issuing insurer.Investment advisory services offered only by duly registered individualsthrough AE Wealth Management, LLC (AEWM).AEWM and Fortune Financial Group Inc. are not affiliated companies.253050

An IRA-to-lUL conversion is neither of these approaches, but shares some commonalities with each. Like an IRA rollover, an IRA-to-lUL conversion moves funds from one vehicle to another. Like a Roth conversion, an IRA-to-lUL conversion involves paying taxes now on assets moved from a tax-deferred account to a tax-free vehicle.