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Private Annuity Trust

Published on October 30, 2008 in private annuity by Bob Richards

A private annuity is very different from the annuities that are sold by insurance companies. A private annuity is an agreement between two parties in which one party (annuitant) transfers the assets to another party (obligor) for which the annuitant receives unsecured payments for the rest of their life. Neither of the parties in this transaction should be a commercial annuity seller. The major benefit of a private annuity transaction is the tax benefits that are gained by the transactions. This form of asset transfer is mostly used to transfer assets to a family member. If not done in a private annuity transaction the asset transfer would incur potential gift taxes.  A private annuity transaction is generally a sale transaction thus safeguarding the parties from gift taxes.

The interest rate for the unsecured payments is calculated using the IRS 7520 rates.  The rates once fixed for a private annuity cannot be changed. The annuities are generally parked in a trust to defer the tax liabilities. Private Annuity is a mechanism that is used by High Net Worth individuals in most cases who want to transfer their properties to their family members without high tax implications. This is considered as a popular mechanism to transfer assets.  A private annuity trust implements certain rules. Let us see the rules that govern a private annuity trust. 

The owner of the asset establishes an irrevocable trust with a “seed gift”. The seller of the assets then sells the asset to the trust in exchange of the private annuity at a pre-agreed rate.  The returns from the private annuity are given to the seller over the entire lifetime. As we see here, private annuity is quite different from an immediate annuity or a deferred annuity that are offered by insurance companies. With the private annuity there is no involvement of a legitimate financial institution as the issuer of the annuity. The next question that one may ask is whether private annuities are a safe investment. The private annuity is safe guarded by a legal framework. The trust and the seller are bound by legal agreements and if there is any deviation either can contest in a court of law. However, if the assets are not re-invested judiciously there is a chance that the committed deferred annuity payments over the lifetime of the individual may suffer. 

It is important for both parties to have the legal aspects of the deed agreement scrutinized by lawyers. In many cases private annuities deeds are signed between known entities who are known to each other. There is a certain amount of trust that governs the decision of either parties, just as with any financial contract. However it is always suggested that the legal framework should be firmly in place to ensure the deal does not go sour at a later stage. So, if you are planning to sell your assets the private annuity way, it is surely a good option.   

After October 2006 the PAT is no longer a method to defer capital gains taxes per an IRS ruling. Allstate Insurance developed the Structured Sale which utilizes a structured annuity. The Structured Sale has generally considered to be a much superior tax deferral method to the private annuity. However, some attorneys contend that the Private Annuity Trust is superior to the Structured Sale both in terms of the tax benefits to the beneficiary and client.  Note that even without the capital gains deferral, the private annuity trust still provides the following benefits:

• Eliminates Estate Taxes on assets in the trust
• Creates an Income Stream for Life or Joint Lives
• Eliminates  Property Management
• Offers an estate planning alternative
• Maximizes Medicaid Benefits by Protecting Family Assets from Recovery of Past Nursing Home Expenditures
• Provides Asset Protection
• Avoids Probate

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