Using life insurance in cottage succession

One of the difficulties with passing ownership of a family cottage to the next generation is that the children of the owners may have different levels of interest and financial ability regarding its use. A child may live far away, making it difficult or impossible to use the cottage. Another may live nearby, and want to use it, but may be financially unable to contribute to the cost of maintenance.

The original purchase of a cottage, as with the purchase of any big-ticket item, is an economic decision. If you are looking at a cottage that will cost you $100,000, you may choose to buy if you want the cottage more than you want to keep your $100,000. You will do so, of course, only if you believe that you have the resources to make the payments that will be needed to keep it in good condition going forward.

Like most owners, you will want your children to enjoy it after you are gone. But what you want and what your children will want, when the time comes, may be very different.

A child who succeeds to the interest of the original buyer through inheritance may not feel he is making an economic decision with immediate consequences. He will soon find, however, that the costs of upkeep are a significant expense to him. And if he is not using it as often as his co-owners, he may resent being expected to share those costs equally.

One way of dealing with the acquisition in an inheritance scenario is to make the issue of succession an immediate economic decision for the beneficiaries by the use of life insurance. Make the beneficiaries decide, at the outset, whether they really want to participate in owning and using the cottage.

Let us assume that D has four children and owns a 100% interest in an LLC whose sole asset is a cottage worth $100,000. He buys insurance on his life with a $100,000 death benefit. The proceeds are payable to the LLC. The LLC is directed to use the funds to buy out the interests of those who do not want to inherit the cottage. The remaining funds will be used to pay for upkeep and repairs.

Using this approach, each child may opt to receive $25,000 in cash if he prefers to do so instead of continuing as a member of the LLC. Each beneficiary will decide at the outset whether a partial interest in the cottage is worth more to him than the $25,000 in cash. The beneficiaries who remain get a better deal: a partial interest in the LLC which owns the cottage and has the remaining funds.

Of course, once the funds are used up, the remaining member(s) will have to contribute to repairs and upkeep.