- Provide liquidity for estate administration – The life insurance proceeds from an ILIT can provide cash to pay taxes, administrative costs, and other expenses of settling an estate, without forcing the sale of illiquid assets.
- Minimize estate taxes – Life insurance proceeds from a properly structured ILIT are excluded from the insured’s taxable estate, avoiding estate taxes.
- Generation-skipping transfer (GST) tax planning – An ILIT allows maximizing use of the GST tax exemption to pass assets to grandchildren free of GST taxes.
- Avoid gift taxes – An ILIT takes advantage of annual gift tax exclusions to remove assets from the grantor’s estate over time by funding insurance premiums.
- Maintain government benefits – An ILIT ensures that insurance payouts do not interfere with means-tested government benefits for beneficiaries.
- Control distributions – The grantor can provide guidelines in the ILIT controlling when and how proceeds are distributed to beneficiaries after the grantor’s death.
- Insurance premium tax savings – Certain states like Alaska and Delaware have favorable premium tax rates for ILITs.
- Asset protection – Assets held in a properly drafted ILIT receive creditor protection from the grantor’s and beneficiaries’ creditors.
How Do ILITs work once set up?
- An ILIT is an irrevocable trust created to own and control a life insurance policy. The trust, not the insured, is named as beneficiary of the policy.
- The ILIT is funded through annual gifts made by the insured (the grantor) to cover policy premiums. This allows use of the gift tax exclusion.
- The trustee files tax returns, administers trust assets, issues notices to qualify gifts, and distributes proceeds. A professional trustee is often used.
- At the insured’s death, policy proceeds are paid to the ILIT and can be used tax-free to provide liquidity for the estate or pass to heirs.
- Proceeds held in an ILIT avoid estate taxes and creditors because they are not legally owned by the insured at death.
- An ILIT allows control over distribution of proceeds to heirs based on guidelines in the trust set up by the insured.
In essence, an ILIT is a specialized trust that owns life insurance, removing it from the insured’s taxable estate, to maximize tax advantages and control distributions.
What are the trustee duties associated with an Irrevocable Life Insurance Trust?
The trustee will have the same duties they would for an irrevocable trust with the exception of a few additional duties specific to insurance companies.
How should the attorney and the insurance advisor work together to set expectations with the clients about the administration of an ILIT?
Grantors should have a full understanding of the procedures involved in making gifts to the trusts, how criminal notices work, and withdrawal rights. They should also communicate fully with the beneficiaries to explain the purpose of the trust and why it was set up as well as their rights. Grantors should also plan ahead to ensure all costs are covered in various situations.
How do tax returns work with an ILIT?
Most ILITs have EINs rather than utilize the grantor’s social security number. Any income coming into the trust will need a grantor return filed. However, income earned with a policy is
tax-free income.
What are the benefits of using a top-tier jurisdiction like Alaska or Nevada for an ILIT?
One of the benefits of an irrevocable life insurance trust is that it provides credit protection. Alaska and Nevada are both top-tier jurisdictions for credit protection. ILITs that hold large policies are frequently designed as dynasty trusts, which Alaska and Nevada are also good jurisdictions for. A benefit to Alaska is the ability to waive certain duties of the trustee to keep fees, costs, and premiums down.
If you have further questions about Irrevocable Life Insurance Trusts after listening to the podcast or want to learn more about Peak Trust Company, contact us today.
