An irrevocable life insurance trust (ILIT) can both hold a life insurance policy and take the place of an outright distribution to beneficiaries. A major advantage of this type of trust is it allows you discretion to provide for special needs that might relate to the education of a child or hospital bills.
When should you create an ILIT and list it as the beneficiary of life insurance policies rather than a loved one?
There are four main reasons:
- Your estate is large enough that you are concerned about federal estate taxes (above $5.43 million in 2015)
- A beneficiary can’t manage his or her money well
- You worry that creditors might take the inheritance
- Your child has special needs
Each family has different dynamics and financial circumstances. You can often discuss if a trust is right for you during a broad estate planning conversation with an experienced attorney.
Basics of an ILIT
Life insurance trusts can be set up in different ways, but they are generally irrevocable. Because the ILIT will apply for coverage, pay the premiums and then receive the death benefit, the life insurance proceeds are excluded from the insured’s estate.
A life insurance trust can generally avoid a second tax at the death of a spouse by directing a trustee to hold the insurance proceeds for the insured’s spouse with any remainder passing to the children. You can also build flexibility into the trust so a trustee can use principal to provide for specific needs like the spouse’s health and support.
For small business owners an ILIT can also be an effective planning tool when used with a buy-sell agreement.
An ILIT does come with a cost and is not appropriate for everyone. If any of the above situations resonates with you, speak with an estate planning attorney to discuss whether an ILIT could be the right planning tool for you.
Source: Daily Finance.com, “How to Supercharge 4 Types of Trusts with Life Insurance,” Jeff Ross, May 7, 2015