1. Common uses for life insurance involving charitable giving include all of the following EXCEPT:
a) Giving an existing policy to charity
b) Creating a new policy to give to charity with charity as sole death beneficiary, where future donations will be made to the charity, allowing the charity to make future premium payments
c) Replacing wealth for heirs who were initially disadvantaged by the use of a charitable planning technique
d) Creating a new policy to give to charity where future premium payments (deductible as charitable gifts) on the policy owned by the charity will be made by the donor to the insurance company, and where the charity will receive all death benefits of the policy
e) Creating a new policy to give to charity where future premium payments (deductible as charitable gifts) on the policy owned by the charity will be made by the donor to the insurance company, and where some of the death benefit of the policy will be given to the donor's children.
2. John Smith has enough wealth to have a taxable estate for estate tax purposes. In which of the following cases will a $1,000,000 death benefit life insurance policy on the life of John Smith where his child, Mary Smith, is named as the beneficiary, pass $1,000,000 to Mary, but generate no estate taxes?
I. If Mary Smith owns the policy and has owned it for more than three years
II. If an Irrevocable Life Insurance Trust, managed by ABC Trust Company, has owned the policy since the creation of the life insurance policy
III. If John Smith owns the policy
IV. If John Smith and Mary Smith own the policy jointly
V. If the John Smith revocable living trust, with John Smith as the trustee, owns the policy
a) I & II
b) I, II & IV
c) I, II & V
d) III only
e) III, IV, & V
3. All of the following are reasons why a Charitable Remainder Trust funded with highly appreciated property might work well in combination with creating an Irrevocable Life Insurance Trust owned life insurance policy benefitting the donor's heirs, EXCEPT
a) Because the Charitable Remainder Trust produces a stream of income that can be used to pay for life insurance premiums
b) Because the Charitable Remainder Trust produces an initial charitable tax deduction, the value of which could help to pay for life insurance premiums
c) Because the Charitable Remainder Trust leaves its principal to charity at death, excluding the heirs, and life insurance naming the heirs can help to mitigate this loss of inheritance
d) Because the ILIT owned life insurance can pass estate tax free to heirs, whereas the assets transferred to the Charitable Remainder Trust may have been heavily taxed if they had been left to the heirs
e) Because the Irrevocable Life Insurance Trust is a charitable entity preventing the payment of income taxes on the appreciation of the underlying life insurance policy
4. Priscilla, who has an estate that will generate estate taxes at her death, wants to sell a $1,000,000 non-income producing zero-basis asset then spend the interest income of 5% while leaving the principal at death for her heirs and a charitable organization. What taxes might she reduce or avoid if she accomplishes this goal through a CRT-ILIT combination rather than simply selling the asset and dividing the property at her death by will?
a) Capital gains taxes
b) Estate taxes
c) Income taxes due to a charitable deduction
d) All of the above
e) None of the above
5. How can giving a remainder interest to charity in farmland generate an immediate financial benefit that can be used to fund the purchase of life insurance?
a) Because the remainder interest generates lifetime income
b) Because the remainder interest avoids the payment of capital gain tax if the donor's remaining interest is sold at a profit
c) Because the gift of a remainder interest in farmland to charity generates an immediate income tax deduction
d) Because the gift of a remainder interest is a partial interest gift, and thus not deductible for income tax purpose
e) Because the gift of a remainder interest in farmland to charity reduces the payment of estate taxes due to the charitable deduction
6. Why might an heir be happier to be the death beneficiary of a $5,000,000 life insurance policy held by an Irrevocable Life Insurance Trust, instead of being named to receive shares of stock valued at $5,000,000 from the decedent's estate?
a) Because, unlike the ILIT, the shares of stock will create capital gains tax liability at death
b) Because, unlike the ILIT, the shares of stock will create income tax liability at death
c) Because the ILIT life insurance death benefit can pass to the heir without the payment of estate taxes
d) Because the ILIT can be funded without consideration of gift tax implications
e) Because the potential post-death appreciation is higher for the ILIT distribution
7. Which of the following would not be a reason to consider giving an existing life insurance policy to charity?
a) If the donor bought too much insurance for actual or current needs
b) If the donor bought insurance for children who are no longer dependent
c) If the donor is terminally ill and knows the charity will surrender the policy for its cash value
d) If the donor bought insurance for a buy-sell agreement that is no longer needed
e) If the donor does not need the cash value in the life insurance policy
8. The valuation rules for determining fair market value and basis of charitable gifts of typical life insurance policies are somewhat in transition due to Rev. Rul. 2009-13 and the emergence of the life settlement market. However, for newly issued policies and paid-up policies the rules for determining fair market value are
a) Use the first premium paid for fair market value of a paid up policy and replacement cost for the value of a newly-issued policy.
b) Use the interpolated terminal reserve plus the unused part of the last premium for fair market value of a paid-up policy and the first premium paid for the value of a newly-issued policy.
c) Use the interpolated terminal reserve plus the unused part of the last premium for fair market value of a newly-issued policy and the first premium paid for the value of a paid-up policy.
d) Use the first premium paid for fair market value of a newly-issued policy and replacement cost for the value of a paid up policy.
e) Use the replacement cost for the fair market value of a newly-issued policy and the interpolated terminal reserve plus the unused part of the last premium for fair market value of a paid-up policy
9. All of the following would be required to document a gift of a life insurance policy worth $6,000 EXCEPT
a) IRS Form 8283 Noncash Charitable Contributions
b) A statement from the life insurance company or agent indicating the fair market value of the policy
c) A note from the charity before taxes are filed or due indicating the date, location, and description of the property and that "no goods or services were provided in exchange for these gifts"
d) Summary of a qualified appraisal attached to the tax return
e) The donor's own reliable records of the gift, the charity, the date, the place, and fair market value
10. Mary donates a policy with a fair market value of $100,000 to a public charity. She had previously taken out a loan of $2,000 against the policy and never paid it back. What is the net deductible amount for her charitable gift?
a) $0
b) $2,000
c) $98,000
d) $100,000
e) $102,000
11. After a charity receives a policy, it could reasonably choose to do any of the following except
a) Ask the donor to continue to pay premiums
b) Surrender it for cash value
c) Pay premiums from the charity's funds if this maximizes the expected net return from the policy
d) Sell the policy in the life settlement market
e) Ask the donor to continue to pay premiums in exchange for leaving the donor's children as beneficiaries of the policy
12. A typical arrangement to create a new policy for the charity might include any of the following EXCEPT
a) The donor creates a new policy owned by the charity
b) The donor makes gifts to the charity which the charity can use to make premium payments
c) The donor makes payments to the insurance company to pay the premiums on the policy owned by the charity
d) The death benefit on the policy is payable to the charity
e) The death benefit on the policy is payable half to the charity and half to the donor's child
13. A donor wishes to create a new policy for a charity and fund future premium payments with appreciated stock, thereby avoiding any capital gain tax on the stock. All of the following might be included in such a transaction EXCEPT
a) The donor creates a new policy owned by the charity
b) The donor makes gifts to the charity which the charity can use to make premium payments
c) The donor makes payments to the insurance company to pay the premiums on the policy owned by the charity
d) The death benefit on the policy is payable to the charity
e) The charity provides receipts to the donor reflecting the gifts given to pay for the policy premiums
14. All of the following are plausible reasons why a charity might NOT want to encourage donors to give by creating and paying the premiums on new life insurance policies owned by the charity, EXCEPT
a) Donors may give less in current gifts to the charity because they are also making premium payments (i.e., current giving is cannibalized)
b) In very rare cases, the charity may not, under state law, have an insurable interest sufficient to justify a new policy of the intended size
c) Depending on policy structure, the donor may give for years, and charity receives nothing due to later policy lapse
d) The charity may prefer to have current gifts today, rather than waiting to receive a benefit at the death of the donor
e) Premium payments made by the donor directly to the life insurance company will not result in ongoing charitable deductions for the donor
15. All of the following are policy characteristics that a charity might want to insist on in order to prevent a donor giving premium payments for many years and the charity later receiving nothing due to subsequent policy lapse, EXCEPT
a) Require policies with a relatively short-term before they are projected to no longer need additional premium payments
b) Require policies from highly rated insurance companies
c) Require that policy projections on reaching the point where additional premium payments are no longer needed must be based upon reasonable interest rates
d) Require that the donor give money for term life insurance policies only
e) Require that policy projections on reaching the point where additional premium payments are no longer needed must be based upon the donor living to age 100, rather than a younger age such as 80
Answers
1/ Answer: E. Explanation: The first four techniques are common uses of life insurance in charitable planning. E is a form of a "Charitable Split-Dollar" plan. Charitable deductions are no longer given to any such plans, and consequently such plans are no longer in use.
2/ Answer: A. Explanation: In III, IV, & V, John Smith is retaining some ownership rights or control in the policy. As such, the policy, and the death benefit, will be included in his estate. In I & II, John Smith retains no rights or control over the policy. If he originally had owned the policy and then transferred it, the policy would still be included in his estate unless it had been more than three years since the policy was transferred. However, this does not cause a problem in scenarios I or II, because in I, Mary has owned the policy for more than three years and in II, the ILIT has owned the policy since the creation of the policy.
3/ Answer: E. Explanation: The Irrevocable Life Insurance Trust is not a charitable entity. However, all other reasons are examples of why these two planning techniques (CRTs and ILITs) can work well together.
4/ Answer: D. Explanation: The capital gains taxes are avoided because the CRT, a charitable entity, sells the asset and pays no taxes on the capital gain. Estate taxes are avoided because the property in the CRT goes to charity (and is thus deductible for estate tax purpose), and the ILIT owned life insurance is not in Priscilla's estate because she does not own it. Income taxes are reduced because placing property into a CRT generates an immediate income tax charitable deduction.
5/ Answer: C. Explanation: Giving a remainder interest in farmland to charity generates an immediate income tax deduction. As such it creates immediate financial benefit. Although such a gift will also avoid estate taxes for the underlying property because of the estate tax charitable deduction, this does not generate any immediate financial benefit. The remainder interest does not generate income, it is simply the right, owned by the charity, to receive the property at death. If the donor's remaining interest, called a life estate, is sold at a profit (or gain), capital gains taxes would be due.
6/ Answer: C. Explanation: The major benefit of an ILIT is that the death benefit can pass to beneficiaries without estate taxes. Neither gift would create capital gains tax (due to stepped up basis) or income tax at death. Funding of an ILIT does create the need to consider gift taxes, although often substantial funding can be accomplished using the present interest gift annual exclusion (at $19,000 per year per recipient per donor in 2025). Presumably, the post-death appreciation would not be higher for the ILIT distribution, because it is simply cash. The $5,000,000 of stocks can always be sold for $5,000,000 and converted to cash if post-death appreciation of cash would be higher.
7/ Answer: C. Explanation: If a donor was terminally ill, the policy would be much more valuable than the cash surrender value. Giving such a policy knowing that the charity would surrender the policy for its cash value would not be a good idea. Instead, the donor might consider selling the policy on the life settlement market for a larger amount and donating this to the charity. All other listed explanations are valid reasons to consider giving an existing life insurance policy.
8/ Answer: D. Explanation: The fair market value of a newly-issued policy is the first premium payment. The value of a paid up policy is the cost to replace it with another paid up policy. Note that very few policies are truly paid up, meaning that no future payments will be due under any circumstances. This is different than a policy that projects no future payments will be due depending upon the investment returns of a policy.
9/ Answer: B. Explanation: The life insurance company or agent may not prepare the appraisal (estimate of fair market value) because they are parties to the transaction and are thus disqualified. Consequently this statement would not be required to document the gift. All other items would be needed.
10/ Answer: A. Explanation: Under the new charitable split-dollar life insurance rules the deduction for the gift will be entirely lost. This is because Mary is giving a policy and, in return, getting a personal benefit. The personal benefit here is the relief of the loan. Under normal bargain sale rules the charitable deduction would be $98,000 (the value of what she gave less the value of what she received), but the charitable split-dollar rules completely disallow the deduction.
11/ Answer: E. Explanation: The first four options are reasonable approaches for the charity, depending upon what produces the most cash for the charity. The last option is not reasonable as such arrangements violate the charitable split-dollar rules (because the donor's family is receiving benefit) resulting in negative tax consequences and because the children, rather than the charity, would receive any benefit at death.
12/ Answer: E. Explanation: Typically, the donor creates a new policy owned by the charity and makes premium payments either directly to the insurance company or gives sufficient amounts to the charity so that it can make the premium payments. The death benefit on the policy is payable to the charity. The death benefit would not typically go to the donor's child due in part to the charitable split-dollar rules that will eliminate any charitable deductions.
13/ Answer: C. Explanation: One advantage of making gifts to the charity that the charity can then use to pay policy premiums is that the donor can make gifts of appreciated property, such as appreciated stock. When the charity sells these appreciated shares of stock, the charity pays no capital gains tax because it is a tax exempt entity. If the donor is paying the premiums directly to the insurance company, the donor must pay with cash, and cannot avoid capital gains by paying with appreciated stock.
14/ Answer: E. Explanation: Premium payments made by the donor directly to the life insurance company on a policy owned by the charity will generate charitable deductions, so this is not a disadvantage. All other reasons listed might prevent a charity from wanting to encourage such gifts.
15/ Answer: D. Explanation: In order to prevent a situation where the donor gives premium payments for many years and the charity later receives nothing due to subsequent policy lapse, the charity will want the donor to be able to achieve a status in the policy where no future premiums are due. Once reaching that stage, the charity can normally expect that they will eventually receive the death benefit and the policy will not lapse. However, some projections can show a policy reaching a point where no future premiums would be due, but the projections may become invalid due to donor longevity or interest rate changes. In order to limit this risk, the charity can insist on illustrations that use reasonable interest rates and assume the donor will live to a very old age. Term policies never reach a stage where future premiums would not be due, so there would never be a point, prior to the death of the donor, where the charity would not be at risk of the donor giving premium payments for many years and the charity later receiving nothing due to subsequent policy lapse.