Irrevocable Life Insurance Trust

Ideally, you set up an ILIT before you purchase life insurance. You name a trustee who will purchase insurance on your life. The insurance is never part of your estate and will not be included in your gross estate (i.e., subject to estate taxation).

  1. You gift cash to the ILIT.
  2. Trustee purchases insurance on your life. Trustee uses your gifts to pay premiums.
  3. Beneficiaries receive proceeds at your death.

 

If you already own life insurance and would like to reduce your gross estate (i.e., reduce your estate tax), you can transfer ownership of your policy to an ILIT. There are two disadvantages involved with this approach:

  1. Gift tax. If the policy’s cash value exceeds $14,000 ($28,000 for a married couple), the excess is subject to gift taxation.
  2. The 3-year rule. If you pass away within 3 years of transferring your policy to an ILIT, the policy will be included in your estate.

 

How an ILIT Preserves Your Wealth

Scenario 1:

Steve’s net worth was $10 million. Steve also owned a $2 million life insurance policy, which named his daughter as beneficiary. Steve dies in 2014.

Gross estate = $12 million.
Estate tax exemption = $5.34 million.
Estate tax = $2.664 million.

Scenario 2 – ILIT:

Steve’s net worth was $10 million. Steve set up an ILIT to own the $2 million life insurance policy to benefit his daughter. Steve dies in 2014.

Gross estate = $10 million.
Estate tax exemption = $5.34 million.
Estate tax = $1.864 million.