Life insurance trusts

August 15, 2025

Life insurance proceeds are not subject to federal income tax, but they are generally included in your taxable estate for federal estate tax purposes. This can unexpectedly increase the size of your estate and result in higher estate tax liability. Careful estate tax planning is needed to avoid unnecessary estate tax payments. Therefore, we would like to introduce an Irrevocable Life Insurance Trust (ILIT), which can be a very useful estate planning tool.

Advantage - #1 Tax Saving:

The primary purpose of an ILIT is to transfer ownership of a life insurance policy to a trust. If you survive for at least three years after transferring the policy, some or all of the insurance proceeds may be excluded from your federal taxable estate. Furthermore, since ILIT owns your insurance policy, cash payments to the trust to cover insurance premiums are generally considered gifts. These payments can qualify for the annual gift exclusion ($19,000 in 2025) - helping your further reduce your taxable estate.

Advantage - #2 Greater Flexibility:

Another major advantage of an ILIT is its flexibility in how life insurance proceeds are distributed. First, you can transfer cash to the ILIT to cover future premium payments. The trustee (someone other than yourself) ensures that the insurance premiums are paid properly. Second, although a standard insurance contract generally allows only for the designation of a beneficiary, an ILIT enables you to customize how the insurance proceeds are distributed after your death. For instance, you can specify that your spouse receive both income and principal from the life insurance for his or her support during the lifetime. Then, any remaining assets can be distributed to your children either through a trust or outright. You can also decide when and how the payments to your children will be made, such as when they reach a certain age.

Key Requirements of an ILIT:

One important feature about an ILIT is that it is irrevocable. The trust cannot be changed or cancelled once it is signed. Furthermore, you must give up all ownership and control over your life insurance policy, including:

• the right to modify the trust,

• the right to change the beneficiary designation, or

• the right to borrow against the policy using it as collateral.

In addition, the trust must be managed by someone other than yourself to meet the irrevocability requirement. This irrevocable structure is necessary to remove the insurance proceeds from your taxable estate for estate tax purposes.

ILIT can be a strong tool for managing estate taxes. If you would like to discuss ILIT or your estate planning, please feel free to reach out to us.