Introduction and disclaimer00:45 Why PPLI dominates UHNW planning conversations01:26 Life Insurance Strategies Group and why most PPLI inquiries are not a fit02:32 Asset location: tax-inefficient alternatives and the life insurance chassis04:45 Why the policy belongs in an irrevocable trust05:23 The ideal client and the “magic has a price” minimum07:07 How much to commit: money you will never touch08:06 Retail life insurance versus PPLI10:28 Insurance-dedicated funds (IDFs) versus separately managed accounts (SMAs)12:02 Why RIAs are embracing the SMA route12:52 Investor control: what you can and cannot do14:42 Diversification rules under Section 817(h)16:17 Single assets, Webber v. Commissioner, and prearranged plans17:53 It takes a village: the parties and their fees19:31 The liquidity myth and the problem with policy loans21:37 The trustee’s role and reviewing older policies23:34 Borrowing from the policy and the last-bucket principle26:23 Questions to ask before you buy27:44 Case study: planning for G3, G4, and G530:10 Where to find Jay Judas

] Announcer: Welcome back to the Wealth Actually podcast, the show that features experts, entrepreneurs, and commentators that will give you the right knowledge, planning, and guidance so you can preserve your assets and enjoy your wealth. Learn more and subscribe today at WealthActually.com. This podcast is for educational and entertainment purposes. It is neither investment, legal, nor tax advice and does not represent the opinions of the employers or the host or guests.

] Frazer Rice: Welcome back. Private placement life insurance is one of the hottest topics in the ultra-high-net-worth set. Jay Judas, noted expert, is going to help us sort through the issues, the opportunities, and the risks. Welcome aboard, Jay.

] Jay Judas: Frazer, thank you for having me.

] Frazer Rice: It’s been a long time coming, because PPLI has really started to dominate not only the headlines but certainly my practice, practices around me, and a lot of what trust and estate lawyers are talking about. And it really is your practice in a nutshell. Maybe quickly talk a little bit about what you do day-job-wise and how you advise RIAs and clients and others about how to think about it.

] Jay Judas: Sure, Frazer. Our company is Life Insurance Strategies Group. We’re a fee-based consultancy, so we don’t sell products. We’re not licensed to sell products. Generally, we’re hired by wealthy individuals and companies to evaluate whether they need a life insurance solution. If they do, we sit on their side of the ledger and run that transaction on their behalf. We help them vet brokers, we help supervise the selection of products, and we negotiate fees where we can. We sit in the background behind their attorney and their accountants and help with the structuring. So we’re very much an even playing field in terms of information.

] Jay Judas: Now, because of PPLI’s increase in popularity, I was looking at our books the other day, and well over 60% of our business now is people getting into PPLI. And I will say that more than half of the people who come to us thinking they should be in PPLI, it’s not appropriate for them. They should be in something else or nothing at all. So I do want to level-set there: this is popular, but it’s not for everybody.

] Frazer Rice: Let’s start at the beginning: private placement life insurance. Let’s talk a little bit about why it has become so interesting. There are features of life insurance that are interesting where we’ve gone beyond income replacement and funding estate taxes to an investment chassis, which is one of the reasons it’s interesting for folks. But then it stitches nicely with estate planning generally, and then asset location, as far as investing in alternatives that are not great to hold as an individual taxpayer, like a New Yorker holding private credit. That type of scenario.

] Jay Judas: Obviously, there are a lot of attractive asset classes to invest in out there. A lot of them, though, are highly tax-inefficient. The private markets are great examples. Like you said, private credit, private equity, real estate, and then other things you might have an interest in, like litigation funds, life settlements, infrastructure, all of that.

] Jay Judas: If you’re in New York or California, you might have an effective tax rate of around 53%, and a lot of those investments are taxed at ordinary rates. So it makes a lot of sense, if you’re able to, as you have the cash available, to make those investments under a life insurance chassis so that you recharacterize a taxable investment as life insurance. Now, I’ve just made that sound really easy, and you know it’s not. I know we’ll talk about it. There are ups and downs. There’s a lot of risk to it. But that’s the thinking here: 52.65% tax rates are really unattractive. But if I’m willing to hold on to these investments for a long period of time, usually for the rest of my life, and have my children and grandchildren benefit from that, then PPLI might be a solution.

] Frazer Rice: It stitches nicely with estate planning and generation-skipping planning, where if the assets are allowed to grow in the life insurance component, and you put it into a structure like a life insurance trust, it allows that asset to grow tax-free and also outside of the estate. That’s one of the draws that I think a lot of our clients are seeing.

] Jay Judas: No, absolutely. You wouldn’t buy a private placement life insurance policy and hold it individually. That’s because this is life insurance, and that means you need to meet the IRS’s definition of life insurance. So in the first five, six, seven, eight years, you have to hold a lot of life insurance coverage. And I think we all know that if you die personally holding a life insurance policy, that death benefit gets included in your estate calculation. So that just defeats the whole purpose. You definitely want to own a private placement life insurance policy in an irrevocable trust outside of your estate.

] Frazer Rice: The way I think about the people this addresses, from a thumbnail approach, is to say the premium to make this work probably involves $5 million or so. Is that the kind of money that is in an absolutely-last-to-spend bucket, and can you also use your gift exemption to get it into that kind of outside-your-estate trust? Any other thoughts on that in terms of the ideal avatar?

] Jay Judas: You stumbled on the two questions I always get. The first is: what’s the minimum I can do private placement life insurance with? The minimum amount of premium I can commit. And so I go back to the ABC series from about 15 years ago, the television series Once Upon a Time. They have the expression “magic has a price.” The price of PPLI magic, to make it work, is in my opinion a minimum commitment of $10 million, paid as quickly as you can into the policy. I’ll come back to why.

] Jay Judas: There are brand-name carriers coming out with very low prices in this market, so $5 million may be magical also. But at $10 million, everybody involved in the transaction is likely going to be happy. The policyholder is likely going to see results that make them happy. And all of the counterparties that I know we’re going to talk about can charge a fee that doesn’t stick out and doesn’t cause a drag. So they’ll be happy. That’s what I say: $10 million is the magic, although there may still be magic at $5 million.

] Jay Judas: The other question I get is: how much of my portfolio should I dedicate to PPLI? They’re looking for me to say 25% or 50%. And I’ll tell you what it is. Ninety-five percent of PPLI is really about identifying wealth in your portfolio, money that you are not going to touch again in your lifetime. It’s money you’ve already mentally set aside for your beneficiaries, for your kids or grandkids. Since you’re not going to touch that money again, it’s sort of like you’re paying tax on it anyway. But what if you went forward, as you had liquidity, and invested it under a life insurance structure? You’re not touching it again, so now it’s growing tax-free for the rest of your life, maybe 40 years, 30 years, 20 years, what have you, and it’s passing to your heirs in the trust. So it’s not a percentage of your portfolio. It’s really those funds you have identified that you’re not going to touch again in your lifetime.

] Frazer Rice: One of the things I think is the major difference between regular life insurance and private placement life insurance is that, typically, the cash value, the asset value within the policy in traditional life insurance, is invested through the life insurance company and the options it has. One of the innovations of the private placement life insurance chassis is that those investments can take place in different asset classes, different vehicles, et cetera. Maybe talk a little bit about the different modes where that can happen, let’s call that the IDF versus SMA component, but also why that’s not a free lunch, and why there are technical aspects that don’t make it quite as easy as it sounds.

] Jay Judas: Let me walk into that, because what you set up was important. You really differentiated between a retail policy and PPLI. And you’re right. In a retail policy, say you bought a Northwestern Mutual policy from somebody you went to college with. Who hasn’t done that? With that retail policy, you identified an amount of death benefit you needed, maybe to take care of your family when you died or to pay estate taxes. And the carrier, Northwestern Mutual, said, “Frazer, here’s the premium you have to pay for this amount of death benefit.” The carrier takes the premium and invests it. They choose the investments, and whatever return they get, they share some of that with your policy. They give it a crediting rate increase or a dividend. And they make all the decisions.

] Jay Judas: In private placement life insurance, you’re not buying this for the death benefit. In fact, you’re buying the minimum amount of death benefit you’re required to have by law. With PPLI, you’re thinking, “I have $10 million to commit.” You give it to the carrier and tell the carrier, “Hey, I’m going to make a lot of the decisions here. I need you, carrier, to provide the risk so we can call this life insurance. But I’m going to tell you the manager to sign up with. The manager is going to make those investments and pick the custodians. We’re going to make a return, and we’ll share a little bit of that return with you as a fee. But otherwise, I, the policyholder, am taking all the risk here.” And obviously the policyholder is usually the trust.

] Jay Judas: So what are we going into? When you tell the carrier, “I’m going to pick a manager,” that comes in one of two forms. It comes either as the insurance-dedicated fund that you mentioned, which is an insurance version of a popular, taxable available fund. I’ll give you an example: Golub has a popular private credit taxable investment, and they also have a Golub insurance private credit fund that’s only available for investment by PPLI policies or by life insurance companies investing for themselves. IDFs are usually single strategies. Like I just said, it’s Golub’s private credit or Neuberger Berman’s private credit or [unclear manager name]. So, and we’ll get into diversification and investor control, if you want to do more than one strategy in your policy, you need to buy more than one IDF.

] Jay Judas: The other thing you can do under your policy is a separately managed account, just like you would in a taxable account. If you’re with Goldman Sachs or Morgan Stanley in your taxable account, you could have the insurance company sign up with that same manager, who can then make decisions about what to buy under your policy, subject to a very broad investment policy statement. I mean, it’s not like a wild, wild West of things you get to invest in. These are regulated structures.

] Frazer Rice: And just for the audience, this SMA approach, at least in my experience, has really taken off in the last couple of years as more RIAs and investment advisors become more comfortable with it. As a way for RIAs to gather assets and perform an in-life-insurance function, I think it’s only going to increase, at least in the short to intermediate term. But to get back to the investor control and diversification requirements: this is not a free lunch where the client can run the show by proxy and move things around. There’s a regulatory environment that allows this life insurance characterization of these assets to actually happen.

] Jay Judas: That’s right. Going back to 1940, I forget the name of the Securities Act. I think it’s a big one. They said you can’t have control over the investments in a variable insurance product. So this goes back almost 90 years now. Let me give you some examples. With an insurance-dedicated fund, the policyholder can pick the actual insurance-dedicated fund. They could pick the Golub private credit insurance-dedicated fund. What they [can’t] do is dictate to Golub what private credit deals to make or not make under that fund. I want to be clear there: pick the fund, but not what that fund is doing.

] Jay Judas: In a managed account, you have even less control. You can meet with the manager quarterly and talk about your tolerance, your goals, things you broadly like. “I like private credit. I don’t like the gambling industry.” And they will make investments based on that kind of very broad investment policy statement. But you can’t call up your manager or email them and say, “Here we go, go buy Nvidia or SpaceX.” That’s investor control. So it really has to be a discretionary arrangement. If that’s not for you, this isn’t for you. If you violate investor control, you no longer get to call this life insurance. And I think, Frazer, if there’s so much of your net worth involved in the transaction, the IRS can look back six years, not just three, in assessing back taxes and penalties.

] Jay Judas: So that’s investor control. The other rule is diversification, and this is less of a problem. This is in the code at 817(h), and what it means is you just can’t have one investment under a variable insurance product, including PPLI. When I started in this business, we’d say you just can’t invest in Coca-Cola. Today we say you just can’t invest in Nvidia. You have to have at least five different investments, and they have to stay within certain percentage thresholds. As an example, one investment can’t be worth more than 55% of the value of your PPLI, two can’t be more than 70%, and then it’s 80% and 90%.

] Jay Judas: In an IDF, you can pick one fund, but that fund has to have more than five deals inside of it. What you’re going to find is that IDFs have maybe a hundred, maybe hundreds of deals in them. A private credit fund would probably have more than 100. In a regular managed account, your manager’s not in just five things. They’re probably in dozens of things. Insurance companies have all hired fund administration companies to monitor this, for a fee charged to the policy. So it’s not really something we’re worried about, because again, it’s being policed, and it’s a very rare occurrence. Investor control, though, is something we are worried about.

] Frazer Rice: It’s come up before where people are interested in putting single assets, like companies or exotic assets, into the policy. When that’s come across my desk, I’ve looked askance at it as being pretty aggressive. What’s the difference between a fund and an investment like a specific business, or even a specific deal? How do you think about that?

] Jay Judas: People look to the U.S. Tax Court decision in 2015, Webber v. Commissioner. It laid out three things to look for to determine an investor control violation, and it was really about who has the ability to control the decisions of an investment. If you’re investing in a company and I’m a board member of that company, or a shareholder with some influence, that’s an investor control violation. Also, having the ability to get cash out of an investment: if I dictate sending money from a fund, that’s investor control.

] Jay Judas: But what people forget is that, going back to 1983, there was a private letter ruling that’s been very controlling. What it says is you can’t have a prearranged plan about what you’re going to go into. So if you’re telling your investment manager, “Hey, once we get in this policy,” and you think, “We don’t have the policy yet, so we’re not breaking any rules,” “you need to invest in A, B, C, and D,” that’s a prearranged plan. If you’re audited, all the Service has to do is subpoena your emails to check out all these conversations, and that’s it. That’s the ball game.

] Frazer Rice: For a lot of people, the logic of this makes a ton of sense. If you’re locating private assets in a vehicle that is tax-advantaged, and you’re locating them out of the estate, that all works. Maybe take us through the different constituencies needed to make this structure work. I’m talking about the lawyers, the accountants, the trustees, the administrators that you talked about. I think where a lot of people trip up is that how they access this product dictates their experience. And then they’re surprised that so many people have to be around it in order for it to be executed correctly.

] Jay Judas: Hillary Clinton would be surprised that we’re using her words to describe this, but it takes a village. First of all, let’s talk about the people involved in the fees around PPLI, setting aside your lawyer and accountant. You’ve got the insurance broker. You’ve got your investment manager, whom you’re probably going to have anyway, and the custodian costs that go with the investments. Again, those are probably things you’d have if you didn’t do PPLI. But then you have the carrier, which gets a fee, and you have to buy some insurance. These are all what I call the counterparties to your transaction. They’re low fees, but you need to make sure they stay low. That’s what our firm does: we handle those negotiations and get pretty good deals for our clients. But they can add up, so they always have to be monitored and watched.

] Jay Judas: A lot of PPLI is sold the way they sell a retail variable product. They say, “Hey, if this product is a non-modified endowment, you can take tax-free loans from the policy. You can get up to 90% of the cash in the policy out tax-free, and as long as the policy is in force, there’s no tax.” Well, in a retail policy, when you want to take a distribution, you go online to the insurance company’s website and ask for a loan, and they advance the cash to you. They wire it to you that afternoon or the next day.

] Jay Judas: Remember when I was talking about how PPLI differs from retail? The policyholder went to the insurance company and said, “Hey, slow your roll. We don’t need anything from you. We just need you to provide risk.” Well, if you come to them for a loan, they’re going to say, “We’re not going to advance you money. You didn’t need us for anything.” If you want liquidity under this policy, your investment manager has to order something sold to get that cash.

] Jay Judas: That creates a couple of problems. Let’s say there’s an investment in there getting 5%, and your manager says, “Gosh, we’ll sell that. That’s not doing well.” Well, what if it had a lockup period? What if it was private credit locked up for five years, so you couldn’t sell it? Now your manager has to sell something else, maybe something that’s getting 18%. And once you sell something in PPLI, you’re not getting the benefit of that investment any longer. If something was earning 18%, now it’s earning zero. You begin to see how this could cause a cascade of problems for the policy.

] Frazer Rice: You have a loan on top of it, if you’re borrowing off of it.

] Jay Judas: Oh, yeah, and the loan. The power of compounding is not working for you anymore. It bothers me that it’s sold for that, because, first of all, the people buying it usually have wealth they’re never going to have to access. When they’re buying it, they think, “I’m going to be poor someday,” and they’re not. The other thing is that in my 23 years of being involved in PPLI, I’ve seen no more than 10 policies ever touched for a distribution. It just doesn’t happen.

] Frazer Rice: So we’ve got the different people who take fees to help administer these things. I worry a lot from the trustee perspective. If you’ve put the policy into a trust for the benefit of beneficiaries going on down the line, the trustee has to make sure the mechanics are happening correctly. But in some sense, they also have a real mandate to make sure the investments are performing, that the policy is being reviewed correctly, that the reasons it was put in place continue to hold, and that the decisions made around it make sense, so that the policy doesn’t blow up later. How do you advise people who end up in that lovely role?

] Jay Judas: This is all kind of a new thing, Frazer. If people saw the PPLI market report that we co-authored, because of a tax law change in 2021, more PPLI has been sold in the last four years than was sold in the 30 years prior. So we haven’t yet seen the results of poor trust oversight and planning. I will say our firm has been engaged by a couple of trust protectors. We just had one where the insured is 93. She had bought her policy almost 30 years ago, and it had done well, but the fees were from 30 years ago, and it hadn’t been reviewed. So we were able to go to the carrier and the investment manager and say, “Your fees are double what they should be today.” And they said, “Okay, you’re right.”

] Jay Judas: Having that kind of proactive party for the client should not be underestimated. And I’ll be honest, Frazer, I haven’t given too much thought to that area, but now you’ve got me on alert.

] Frazer Rice: That’s me, the sword of doom, worrying about stuff like that. One of the other things I think is important, when I try to relay this to people who are interested, is this: especially when the policy is in a trust and a grantor puts gift exemption into the trust to pay the premiums, to the extent you are borrowing from the policy, the money should not go toward the grantor’s lifestyle expenses. If you’re going that route, the assets, in a sense, have to stay in the trust. If you’re borrowing to make a different investment, I can kind of get with that if it makes sense. But if you’re borrowing to get money out of the trust to pay for grantor-level expenses, at that point you’re really shooting yourself in the foot. On that last-bucket principle, it really has to be the last bucket if you’re going that route, because your estate planning, I think, kind of goes out the window. You might have an incomplete gift.

] Jay Judas: I think we talked about that. I guess we’ve been lucky. Some of our consulting clients who have put a lot of money into PPLI will say something like, “If my granddaughter needs a house, maybe she has to collect the first half of the down payment, and then we can take a policy loan,” with the granddaughter, of course, being a beneficiary of the trust, “to get a distribution.” So nobody’s talking about grantor-level gifts, at least among our clients. However, in the industry, this is sold as, “Hey, you can get tax-free income out of these policies.” And again, it’s not the greatest thing to do. It’s probably the last resort, as you say, and it’s rarely done. In that way, I feel it’s a little bit missold. But as a wealth transfer tool, it has real power.

] Frazer Rice: If you’re making loans to benefit future beneficiaries, again, I can get with that, assuming you understand that you’re limiting the power of compounding by taking assets away from the underlying policy and creating a note against it. You just have to make sure everybody sees what the buckets are and where they line up before it gets put into place.

] Jay Judas: Totally. That’s it. Touching that policy just begins to defeat its true purpose.

] Frazer Rice: So once we’ve identified who the avatar might be, what are the questions a good client should ask when this is presented to them? And I guess it depends on who is presenting it.

] Jay Judas: That’s true. Your viewpoint depends on who you spoke to last. We’ll have producers who don’t have FINRA licenses talking to people about PPLI, and you know where I’m going with this. They tell people they’ve got to buy from the offshore carriers that, of course, are not regulated by FINRA. To be honest, most PPLI purchased now is purchased from brand-name carriers like Prudential, Axcelus, Crown Global, and Vantage Life, all of which have been around a long time, and you are required to have securities licenses. So that’s the first thing we look for: when somebody has talked to a broker, we check who that broker is and make sure they have their licenses. And if you talk to your investment manager, they might understand the power of investing under the structure, but not the mechanics. So it’s really difficult. You have to talk to a lot of the people who put this together.

] Frazer Rice: When it’s done well, just to circle the square as we wind down, the power of this is impressive to me. You have tax-free growth in alternative assets, done outside of the estate for future generations. You’ve got time and compounding really working for you. What else makes this so compelling?

] Jay Judas: I think you hit the nail on the head there. Let me give you an example of a situation we had. We had G1 grandparents in their late 60s look at their portfolio and say, “Okay, we have $50 million we want to pass on to future generations.” They loaned the money to an ILIT, and the ILIT bought three policies on three of the kids and in-laws in generation two, who were in their late 30s. So these policies will now grow for 40 years. When liquidity comes into the trust, the grandkids, who at the time were between the ages of 1 and 12, will be between 41 and 53 when all this death benefit flows into the trust. They’ll have kids. They might even have a grandkid or two. So we’re not just planning for G2 with PPLI. The real attraction of PPLI is that I can now plan for G3, G4, and G5.

] Jay Judas: As you know, Frazer, a lot of wealth in wealthy families is lost by G3. PPLI can actually create wealth for G3 and G4. Here’s an example of that compounding. That $50 million, if it were in a taxable account in California, after the federal estate tax, would be $159 million after 40 years at a 9% growth rate after expenses. If you invested it at 9% under a policy, you’re looking at about $1.6 billion after 40 years. Those are conservative numbers, because a lot of people in these investments want 12% or 13%. We don’t like to see models go above 9%. So to circle the square, as you say, compounding is important, but this is as much about wealth preservation and wealth creation as it is about anything else.

] Frazer Rice: Really good stuff. Jay, how do listeners and watchers find you?

] Jay Judas: Sure. Go to lifeinsurancestrategiesgroup.com. You can Google Jay Judas. You’ll find a lot of information about our company and a lot of free resources about PPLI. And if we can be of help, we’re always happy to have a chat with people.

] Frazer Rice: Terrific. Jay, thanks for being on.

] Jay Judas: Thanks, Frazer. This has been great. I really appreciate it.

] Announcer: This podcast is for educational and entertainment purposes. It is neither investment, legal, nor tax advice. It does not represent the opinions of the employers or the host or guests.