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Life Insurance Trusts


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What Is a Life Insurance Trust?

An irrevocable life insurance trust allows you to avoid or minimize estate taxes on the proceeds of your life insurance policy.

The majority of people understand how life insurance works: When you acquire a life insurance policy on your own life, you name one or more beneficiaries who will receive the policy’s benefits if you die.

A life insurance trust is a less common type of trust. When you create a life insurance trust, the trust becomes the legal owner of the policy, not you.  Following your death, the person in charge of the trust distributes the insurance proceeds to your beneficiaries according to the instructions in your trust deed.

Can Life Insurance Be Held in a Trust?

TOLI (trust-owned life insurance) is a form of life insurance that is held by a trust.  TOLI is a high-net-worth individual’s estate planning instrument, which they use to guarantee the proper distribution of inherited assets among their successors, decrease estate tax obligation, and satisfy philanthropic goals.

How Does a Life Insurance Trust Work?

A life insurance trust is a non-amendable, irrevocable trust that owns and benefits from one or more life insurance policies.  The trustee invests the insurance funds and manages the trust for one or more beneficiaries after the insured passes away.  When a trust has life insurance on a married person’s life, the non-insured spouse and children are frequently beneficiaries of the trust.  Only the children would be beneficiaries of the insurance trust if it owned a “second to die” or survivorship policy, which only pays out when both spouses have died.

Are Irrevocable Life Insurance Trusts Taxable?

Irrevocable life insurance trusts (ILITs) are trusts that cannot be revoked, altered, or modified after they have been established. ILITs are set up using a life insurance policy as the trust’s primary asset.  The grantor cannot modify the rules of the trust or retrieve any of the trust’s assets once they have contributed property or life insurance death benefits to it.

ILITs provide heirs numerous legal and financial advantages over selecting an individual beneficiary, including advantageous tax treatment, asset protection, and assurance that the benefits would be spent in accordance with the benefactor’s intentions.

Life Insurance Trust Advantages

Legacy Planning

The generation-skipping transfer tax (GSTT) levies a 40% tax on outright gifts and trust transfers to or for the benefit of unrelated people more than 37.5 years younger than the donor, or related persons more than one generation younger than the donor.

Giving to grandkids instead of children is a typical example. By utilizing gifts to the trust to acquire and finance a life insurance policy, an ILIT can assist the grantor of the trust take advantage of the GST tax exemption.  Multiple generations of the family—children, grandkids, and great-grandchildren—may benefit from the trust’s assets free of estate and GST tax since the death benefit proceeds are excluded from the grantor’s estate.

Tax Considerations

Irrevocable trusts have their own tax identification number and tax rate.  The cash value and death benefit of a life insurance policy, on the other hand, are both tax-free.  As a result, owning insurance through an ILIT has no tax implications.

An ILIT, if correctly constructed, can provide the trustee access to the accrued cash value by accepting cost-based loans and/or dividends while the insured is still alive.  However, if the funds of a death benefit are kept in the trust, any investment income made but not given to the beneficiaries may be taxed.

Asset Protection

Each state has its own set of regulations and restrictions on how much of the cash value or death benefit is shielded from creditors.  Any coverage maintained in an ILIT over these levels is typically shielded from the grantor’s and beneficiary’s creditors.  Any payouts made from the ILIT, however, may be seized by the creditors.

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More Life Insurance Trust Advantages

Government Benefits

The profits from an ILIT-owned life insurance policy can help safeguard the benefits of a trust beneficiary receiving government assistance, such as Social Security disability income or Medicaid.  The trustee can carefully supervise how trust distributions are spent so that the beneficiary’s eligibility for government assistance is not jeopardized.

Estate Taxes Will Be Minimized

The death benefit of a life insurance policy will be included in your gross estate if you are the owner and insured.  When life insurance is owned through an ILIT, however, the death benefit funds are not included in the insured’s gross estate and are thus exempt from state and federal estate taxes.

The ILIT, on the other hand, can offer liquidity to assist pay estate taxes, as well as other bills and expenditures, if correctly designed, by acquiring assets from the grantor’s estate or by taking out a loan.  By putting assets into the ILIT, lifelong donations can also help decrease your taxable estate.

In the Event of a Divorce

Many divorce decisions mandate the richer spouse to keep a life insurance policy to cover any outstanding alimony or child support at the time of death.  If the ex-spouse owns the policy, they have control over the final disposal of the funds.

To prevent this, the grantor may put the policy in an ILIT and give the ex-spouse just a beneficial interest in the trust until they die, remarry, or cohabitate, at which point the trust’s benefits could transfer to other beneficiaries tax-free.  The alimony tax deduction will be lost by the grantor which will be used for the insurance premium payments if this method is used.  Many divorcees, on the other hand, may believe that determining the final distribution of the profits is more essential.

Life Insurance Trust Disadvantages


Although the advantages are significant, there are some drawbacks to using an ILIT.  The first is that the trust must be irrevocable in order to benefit from the possible tax savings.  An irrevocable trust is one in which the grantor relinquishes all rights to the property entrusted to the trust and has no right to revoke, cancel, or materially amend the trust.

The grantor may believe that he or she can no longer modify the trustees, beneficiaries, dispositional terms, or other conditions because of the irrevocability.  All of these, however, may be altered provided the trust contract is properly drafted.


When determining whether or not to create an ILIT, the cost of creating and maintaining the trust should be factored in.  Depending on how the life insurance premiums are paid, a gift tax return filing need may exist in the year the trust is established, as well as in subsequent years.

Contact Heritage Law Today!

If you’re interested in minimizing estate taxes with an irrevocable life insurance trust, take the time to speak with us.  We specialize in estate planning and we can help you understand how a life insurance trust may be able to help your family.

John Diamantis has the experience and knowledge to guide you through the process of creating a life insurance trust.  As your estate planning attorney, you can be assured he will help you from start to finish and carefully answer any questions you might have.

Schedule your free consultation today!

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