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Understanding IRS Form 712 when valuing life insurance on gift tax & estate tax returns

June 27, 2022 Article 4 min read
Steven J. Gibson Wealth Management Ronda Davis
Life insurance proceeds provide an income tax-free payment to beneficiaries but can complicate an estate tax return. A gift of a life insurance policy to a trust supported by a Form 712 can eliminate estate taxes on the death benefit.

Adult on tabletMost people who own a life insurance policy will never understand the role that IRS Form 712 “Life Insurance Statement” plays. It contains critical information for individuals who are planning to bequeath a significant estate, and who own life insurance outside their taxable estate, or when changing the ownership of an existing life insurance policy outside of their taxable estate. Form 712 should be included with any Form 709 Gift Tax Return related to certain policy transfers during the insured’s lifetime to establish the value of the gift as well as with the Form 706 Estate Tax Return after death for all policies insuring the life of the decedent.

Prior to making a change, individuals should consult with their advisors to be certain of the consequences of that change and that the form is filed at the appropriate times. Here are some key considerations as you determine what makes the most sense for your financial and life situation.

If the life insurance is owned inside the estate at the time of the insured’s death, it may trigger estate tax issues.

Tax-free proceeds to the beneficiary

One of the major benefits to life insurance is the fact that, if properly administered, the benefit at death is income tax-free to the beneficiary. However, if the life insurance is owned inside the estate at the time of the insured’s death, it may trigger estate tax issues. Currently, federal law exempts estates of less than $12,060,000 from the estate tax, so it may be ok for a life insurance policy to remain inside estates that don’t exceed that threshold when including the death benefit proceeds. Once an estate starts to approach the exemption limit, though, taxpayers should work with their advisors to see if it makes sense to transfer ownership of any life insurance policy outside of the estate by making a gift to a trust.

Form 712 and the gift tax return

When a life insurance policy is gifted to a trust, the ownership of the policy is shifted outside of the taxable estate and the proceeds may pass to the beneficiaries without income or estate tax consequences. There must be an actual change of ownership of the existing life insurance contract in order to get that benefit; simply gifting the premiums doesn’t count. When the insured makes the gift, it must be reported to the IRS on a Form 709 U.S. Gift Tax Return. In order for the return to be completed, a Form 712 must be included with the gift tax return for each policy transferred.

When a life insurance policy is gifted to a trust, the ownership of the policy is shifted outside of the taxable estate.

This isn’t a form that the insurance carrier can prepare quickly. Taxpayers need to understand that the request for the form should be made as early in the process as possible to allow time for the form to be prepared and signed by an officer of the life insurance company.

Form 712 and the estate tax return

After the death of the insured, estates that need to file an estate tax return will need to ask the insurance company to provide a Form 712 for each policy insuring the decedent. The form isn’t automatically sent out to the beneficiary/estate for every policy since most estates fall within the exemption amount and aren’t required to file a Form 706 U.S. Estate Tax Return.

Form 712 reports the value of a policy in order to prepare the estate tax forms. The value of all policies on the decedent’s life must be reported on the estate tax return on Schedule D, regardless of whether they were owned inside the estate or not. The form contains information about who owned the policy at death, how much the policy was worth, and the basis of the policy. The key information disclosed about nonowned policies is whether the decedent had any incidents of ownership or whether they transferred the policies within three years prior to their passing. Both instances would cause the death benefit to be includible in the estate and potentially subject to estate taxes. Because of the three-year window — during which the death benefit can be pulled back into the taxable estate — it’s critical to address the planning early and not delay in early-gifting the life insurance policy if it meets your planning objectives.

Whether the Form 712 is used to support a gift tax return or an estate tax return, a separate form will need to be obtained for each policy. Form 712 is also date specific to either the transfer date for gifts or the date of death for an estate tax return, so it’s important to request them as early as possible to ensure they’re provided in time to file the related return before the deadline.

Plan ahead

If it appears your taxable estate might exceed the exemption threshold, you should be working with your advisors to determine what steps you can take during your lifetime to minimize the impact of estate taxes on your heirs. To learn more about how and when to file Form 712 to support your estate planning choices, please contact Plante Moran Insurance Agency.

The material contained in the article is for informational purpose only and is not intended to provide specific advice or recommendations for any individual nor does it take into account the particular investment objectives, financial situation, or needs of individual investors. Any tax advice contained herein is of a general nature. Further, you should seek specific tax advice from your tax professional before pursuing any idea contemplated herein. This is being provided solely as an incidental service to our business as (insurance professionals, financial planner, investment advisor, securities broker.) 

Securities are offered through Valmark Securities, Inc. member FINRA and SIPC, an unaffiliated securities broker-dealer.

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