Are you a business owner interested in reducing taxes?
If so, you may want to consider a Restricted Property Trust. What is a Restricted Property Trust (RPT) and who can benefit from it?
In this post, we answer both questions and more. Keep reading for additional information.
What is a Restricted Property Trust (RPT)?
A Restricted Property trust (RPT) is a plan designed to help business owners reduce and defer taxes. However, it is quite different from other taxable investments.
Restricted Property Trust Annual Contribution
Eligible businesses make annual contributions of at least $50,000 to a Restricted Property Trust for a period of five years or more.
Businesses can contribute a larger amount. The maximum contribution is based on the business need for life insurance coverage. Depending on this need will determine the maximum contribution level for the participant.
Contributions to the Restricted Property Trust are entirely tax-deductible to the participating entity. Participants (oftentimes the business owner or key employees) must recognize a minimum of 30-percent of the contribution on their individual tax return.
Tax-Deferred Accumulation & Tax-Advantaged Distribution
Contributions to a Restricted Property Trust have tax-deferred accumulation. This means that plan participants do not pay taxes on cash value appreciation during the years the Restricted Property Trust is being funded.
Once funding of the Restricted Property Trust is completed, participants will owe a small tax which is paid in the form of a withdrawal from the policy. From there, distributions from the policy are received tax-free.
Businesses can also choose to extend the funding period of RPT plans by an additional five years. Most Restricted Property Trusts use funding period of 5-years with the option to add additional five-year funding periods. However, businesses can choose a period of 5-years or more, but never less than 5-years.
Restricted Property Trusts are not qualified plans (such as a 401(k)). For this reason, they are not as limited in terms of participants and individual contribution value, nor do they impact contributions to any existing qualified plans.
Restricted Property Trust Life Insurance
What is the Funding Vehicle for a Restricted Property Trusts (RPTs)?
A Restricted Property Trust is funded using a cash value whole life insurance policy. The policy is designed to provide participants with reduce taxes, deferred growth, and tax-free distributions.
Participants in the plan are typically limited to key employees and business owners. Any outside parties are unable to participate in the benefits of a Restricted Property Trust life insurance policy.
How Restricted Property Trust Life Insurance Works
A Restricted Property Trust is funded using a whole life insurance policy. The policy accumulates significant cash value over five-year periods.
Once the funding of a Restricted Property Trust is complete, the ownership of the life insurance policy is changed from the Restricted Property Trust to the participant.
At the point ownership is change a tax is owed on a portion of the policies cash surrender value. The tax owed is generally paid in the form of a distribution from the policy to the participant. However, participants may choose to pay the taxes from other assets outside of the life insurance policy.
From here, the policy works like any other permanent life insurance policy. The participant can access tax-free distribution, surrender the policy, 1035 exchange to another policy, tec.
Substantial Risk of Forfeiture
A Restricted Property Trusts requires the businesses to make a contribution of $50,000 or more for a minimum of 5-years.
For this reason, there is a lot of risk involved in establishing a Restricted Property Trust. The IRS calls this risk “substantial risk of forfeiture.”
If the business is unable to make $50,000 contributions each year for five years, the third-party trustee surrenders the policy, which is then distributed to a 501(c)(3) (public charity) designated by the participant when the trust is established. The participant forfeits the entire cash value of the trust.
Who is Eligible for to Establish a Restricted Property Trust?
When it comes down to it, the reality is the Restricted Property Trust is not for everybody. The ideal candidate for a Restricted Property Trust is a business owner with annual income of $600,000 or more, with fairly stable or growing cash flow, and is interested in reducing their taxable income.
In addition, only corporate entities are eligible to establish a Restricted Property Trust to include S Corporations, C Corporations, most Partnerships, and most LLCs.
Unfortunately, Sole Proprietorships or entities taxed as Sole Proprietors may not setup a Restricted Property Trust.
Unfortunately, sole proprietorships are not eligible for a restricted property trust.
There are number of benefits a Restricted Property Trust has to offer to different types of organizations. It can be an ideal solution for businesses with multiple partners and companies concerned about the impact the loss of an owner or key employee would have on the company.
A Restricted Property Trust helps businesses to strategically grow their assets while reducing their taxable income. The Restricted Property Trust utilizes a conservative whole life insurance policy that can provide an equivalent return of 8-percent or greater when compared to a taxable investment.
RPTs can be incredibly advantageous from a tax perspective. RPT can create great value for companies interested in reducing taxes, and participants who are interested in accumulated tax-favorable distributions during retirement.
A Restricted Property Trust can be used in tandem with company sponsored qualified plans without impacting contributions to either.
If you feel you may benefit from a Restricted Property Trust, we recommend working with speaking with one of our advisors to determine if a Restricted Property Trust may be appropriate for you and your company.