Funding Your Irrevocable Life Insurance Trust
You have created your Irrevocable Life Insurance Trust (ILIT) to shield the death benefit of your life insurance policy from inclusion into your Gross Estate for estate tax purposes. However, the creation of your ILIT is just the beginning. Without proper funding, you have a very expensive stack of paper that will not accomplish your intended goals. Below, an East Greenwich, RI trust lawyer who has advised families with net worths over $300 million will provide an overview of the funding process, from policy transfers to premium payments, so that you can get the most out of your estate planning.
ILIT Refresher
An ILIT is an estate planning tool designed to exclude life insurance proceeds from your taxable estate, provide liquidity to your descendants, and pass on generational wealth tax free. With an ILIT, the trust becomes the owner of the policy thereby removing the policy and the proceeds from inclusion into your estate. The result is in making a complete gift of the policy to the ILIT.
Transferring An Existing Policy
Many people learn about the benefits of estate planning using an ILIT after having already owned a whole life policy. Thus, the policy must be transferred to the ILIT. Transferring ownership of an existing policy comes with a couple of downsides. First, the cash value or surrender value will be counted as a gift and could potentially exceed the annual gift tax exclusion resulting in the use of lifetime estate and gift tax exemption. Second, you must survive the transfer by at least three (3) years to prevent inclusion of the policy proceeds into your gross estate for estate tax purposes.
Funding With A New Policy
Funding the ILIT with a new life insurance policy purchased directly by the trust avoids the three year lookback rule as the trust owns the policy from the outset. Also, there will not likely be a risk of a large cash or surrender value which would eat into your lifetime gift and estate tax exclusion. You will need to provide the trust with the funds to pay the premiums, however, which will constitute a to the beneficiaries.
Paying Policy Premiums
Typically, the grantor will provide annual gifts to the trustee of the ILIT to cover the life insurance policy’s premiums. To prevent these contributions from counting against the grantor’s lifetime gift tax exemption, the annual contribution must: (1) qualify as a present interest gift; and, (2) be less than the annual gift tax exclusion. To qualify as a present interest gift, the beneficiaries must be permitted to withdraw the gifted funds on demand. This power to demand withdrawal is known as Crummy powers. The process involves sending beneficiaries notice of each gift and permitting them the ability to withdraw on demand for a period of time; typically, thirty (30) days.
Alternative Funding Options
Assets such as stocks, bonds, and real estate can be gifted to the ILIT to generate income to make the policy premiums. Such gifts involve additional tax liabilities and administrative requirements that must be carefully considered.
Because of the startup costs, tax consequences, and ongoing administration requirements, an ILIT is not for everyone. In the right circumstances, however, it can be a very tax efficient estate planning tool. A consultation will help you determine whether this, or another estate planning technique is appropriate for your circumstances. Contact Aptt Law LLC today for help; with lawyers that have been practicing law since 2014, we are ready to help.
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