How life insurance can present estate planning complications – II

Last time, our blog discussed how certain life events from marriage to the birth of a child often prompt people to take certain actions to prepare for the future, including securing a life insurance policy.

We also discussed how even though this was a laudable and practical step, it could present certain complications from an estate planning perspective. Specifically, we explored how the estate tax liability for a life insurance policy can be substantial and how the life insurance policy itself doesn’t grant the owner much leeway outside of naming the beneficiaries.   

The good news for the owners of life insurance policies, however, is that they can effectively address these concerns through the creation of an what is known as an irrevocable life insurance trust or ILIT.

An ILIT functions much like every other trust in that it serves as a sort of legal entity to which ownership of a life insurance policy can be passed. While this may seem strange or even redundant, it makes all the difference in the eyes of the law.

That’s because the creation of an ILIT and the otherwise irrevocable placement of the insurance policy within it will effectively remove it from a person’s estate, such that it won’t be included in calculating their overall estate tax liability.

In simpler terms, the size of their estate will be smaller, so their estate taxes will be lower.

Outside of tax advantages, an ILIT also enables the trustor — the person who creates the trust and transfers ownership of the life insurance policy — to distribute the proceeds of the policy however they please.

For example, the ILIT terms can dictate life insurance policy proceeds only be paid out to beneficiaries at certain intervals (by month, year, etc.) or upon completion of certain milestones (graduation, marriage, etc.). Similarly, it can grant the trustee — the person in charge of managing, investing and distributing trust assets — some discretion in distributing assets, perhaps allowing them to give beneficiaries money in special circumstances (business opportunities, etc.).

In our future posts on this topic, we’ll explore some of the other advantages afforded by the execution of an ILIT. In the meantime, consider speaking with an experienced legal professional if you have any questions regarding estate planning or have other elder law concerns.

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Kevin Tharpe

With 25 years of experience, Kevin understands how estate planning, special needs planning, and government benefits programs work together. This is a crucial element of a thorough plan. He explains your eligibility for benefits programs and ensures that you do not make costly mistakes that may disqualify you or deplete your assets.

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