Irrevocable Life Insurance Trust

An Irrevocable Life Insurance Trust (ILIT) is a specialized legal arrangement designed to own a life insurance policy and manage its proceeds outside of your taxable estate. It primarily helps high-net-worth individuals bypass federal and state estate taxes while providing liquidity to heirs. [1, 2, 3, 4]

How an ILIT Works

• Ownership: The trust acts as the owner and beneficiary of the policy, separating it from you (the grantor).

• Funding: You gift money to the trust, which the trustee then uses to pay the policy premiums.

• Distribution: Upon your death, the death benefit is paid to the trust, which then distributes the funds to your designated beneficiaries according to your exact rules. [1, 2]

Key Benefits

• Tax Elimination: By removing the life insurance policy from your individual estate, the death benefit is usually excluded from both federal and state estate taxes.

• Asset Protection: Trust assets are shielded from the beneficiaries' creditors, divorces, or lawsuits.

• Control: You can establish specific terms within the trust, preventing beneficiaries from squandering the funds and protecting eligibility for government benefits. [1, 2, 3, 4, 5]

Important Considerations

• Irrevocable Nature: Once signed, you generally cannot alter, amend, or terminate the trust. You give up direct control over the policy.

• The 3-Year Rule: If you transfer an existing life insurance policy into an ILIT and pass away within three years, the IRS may pull the death benefit back into your taxable estate.

• Administrative Burdens: The trustee must meticulously manage the trust, which requires sending "Crummey letters" (notices) to beneficiaries every time premiums are funded so gifts qualify for the annual gift tax exclusion. [1, 2, 3, 4, 5]

Because ILITs involve strict IRS guidelines, they must be drafted by an experienced estate planning attorney or an  insurance company