The private annuity relies on the child's continued ability to make the annuity payments. As long as the child is alive and actively involved in the business, there remains a strong likelihood of meeting this obligation. But what happens if the child (owner) were to die prematurely (but after taking over the business), predeceasing the parent(s)? The typical private annuity obligates the deceased transferee's estate to continue the annuity payments. Besides throwing the business's future in grave doubt (indeed, it could force liquidation), it could well mean a reduction in the amount of income paid to the parents. The financial impact this would have on the parents who rely on that income for retirement security is obvious.
Life insurance can ameliorate this concern. Acquired on the transferee's life, life insurance would provide the capital needed to continue funding the private annuity obligation were the new businessowner to die prematurely.
For tax purposes, it is important that no formal connection exist between the life insurance and the private annuity. If formally tied together (say, by some form of written agreement), the private annuity may be considered secured. Though it might seem that this should be a planning goal, in fact it is generally something that should be avoided. If secured, the arrangement no longer qualifies for the annuity tax rules and the annuitant (parent) faces immediate taxation on the business' gain at the time of transfer.
Ohio National is not affiliated with, nor does it endorse or sponsor, any particular prospecting, marketing or selling system.