How to Use Life Insurance Trusts in Estate and Tax Planning
Irrevocable Life Insurance Trusts (ILITs) are a tool used in estate planning to distribute the proceeds of life insurance policies. By transferring ownership of a policy to an ILIT, the insured removes the policy’s death benefit from his or her personal estate, which can have significant tax saving advantages.
Forming an ILIT begins with the signing of a trust agreement by which you, as the insured, transfer the policy to the trust. You also name a trustee, which can be an individual or an institution. The trustee ensures the policy stays in force, keeping premium payments up to date, and eventually distributes the death benefit according to the trust agreement’s terms. Premium payments are typically funded through your donations to the trust.
One of the primary advantages of using an ILIT is that you can exclude your life insurance proceeds from your taxable estate. The importance of this estate tax shelter will grow with the upcoming changes in the estate and gift tax exemption. Currently at $13.99 million per individual, this exemption is scheduled to sunset at the end of 2025 unless Congress intervenes, lowering it to approximately $7 million.
Besides reducing estate tax exposure, an ILIT also allows you to make optimal use of the annual federal gift tax exclusion. The premiums for the life insurance policy can be structured as gifts to the trust beneficiaries, which qualify for the annual exclusion. You can give up to $19,000 to any one person each year without triggering federal gift tax liability. This has the effect of reducing your taxable estate without affecting your lifetime gift and estate tax exemption. For these gifts to remain tax-exempt, the trust provide notice to beneficiaries, giving them the option to withdraw part of the gift for a limited period: a mechanism known as Crummy powers.
Another advantage is that since the ILIT is irrevocable, you relinquish control over the policy, which protects the cash value and death benefit from creditors and legal judgments against you or your estate.
ILITs also provide control over the distribution of assets in a way that is not possible with a direct beneficiary designation on a life insurance policy. The terms of the trust can specify how and when the beneficiaries receive the death benefits, which can be useful in situations involving minors or spendthrifts. It can also help in maintaining eligibility for government benefits like Medicaid. An experienced estate planning attorney can create an ILIT that ensures your policy proceeds are distributed in a manner that aligns with your wishes.
In Wichita, Kansas, the law firm of Peggs Wheeler, LC provides legal assistance for all matters related to wills and trusts, including the establishment and administration of irrevocable life insurance trusts. Please call us at 316-512-7853 or contact us online to schedule a meeting.