How does an irrevocable life insurance trust reduce estate tax?
An irrevocable life insurance trust (often referred to as an ILIT) is a trust created by a grantor to own one or more life insurance policies. If properly created and administered, the life insurance proceeds payable to the ILIT will not be included in the grantor’s federal taxable estate reducing potential estate tax liability and providing liquidity.
In the ILIT agreement, the grantor designates a Trustee to administer the ILIT and take ownership of the policies. The ILIT is named as the beneficiary of the life insurance. The beneficiaries of the ILIT are often the grantor’s spouse and/or children.
The grantor provides the funds to pay the premiums for the policies which are considered gifts to the beneficiaries of the ILIT. If the beneficiaries are given certain limited withdrawal rights, these gifts can qualify for the annual gift tax exclusion which is currently $14,000.
If an existing policy is transferred to the ILIT, the insured must live three years beyond the date of such transfer or the proceeds will be included in his or her taxable estate.
The ILIT is irrevocable so it is important to work with an experienced attorney to ensure options are carefully considered and your objectives properly implemented.