When you are planning your estate you must inventory your assets. Clearly, you want to know exactly what you have to give to your loved ones, but there is an additional motivation. You should be aware of the value of your estate as it compares to the amount of the estate tax exclusion.
The proceeds from life insurance policies that you personally own would be looked upon as part of your estate by the Internal Revenue Service. If you are exposed to the estate tax and you are in possession of valuable life insurance policies, you may want to consider the creation of an irrevocable life insurance trust. Because of the rather wordy name, this type of trust is often referred to as an ILIT.
Irrevocable Life Insurance Trusts
There are revocable trusts, and there are irrevocable trusts. When you convey assets into an irrevocable trust you are surrendering direct control, because you cannot revoke or rescind the trust. Because you are giving up incidents of ownership, generally speaking assets that have been conveyed into an irrevocable trust are no longer part of your estate for tax purposes.
There can be gift tax concerns with some irrevocable trusts, but that is a subject for another article.
If you place your insurance policies into an irrevocable life insurance trust you would be removing them from your estate. However, there is a three-year rule to contend with if you are conveying existing policies into an ILIT. If you die within three years of placing the policies into the trust, they would once again become part of your estate.
When you create the trust you name a trustee who will handle the trust administration tasks, and you name a beneficiary. You could name your spouse as the beneficiary, but you may want to extend the tax savings by making the trust itself the beneficiary.
You leave instructions that the trustee must follow when you create the trust agreement. It would be possible to instruct the trustee to distribute resources from the trust to your spouse for the rest of his or her life. Your spouse would benefit, but he or she would never directly own the assets. As a result, they would not be part of his or her taxable estate.
You could also instruct the trustee to distribute assets to your children after your spouse passes away, and this could extend to your grandchildren as well. Depending on the extent of the assets in the trust, there can be tax savings over multiple generations.
The assets that are held by the trust are also protected from creditors.
Free ILIT Report
We have prepared a free special report on irrevocable life insurance trusts. To obtain your copy, click this link: ILIT Report.
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