ILITs: Protect Your Assets, Minimize Taxes
Optimizing Estate Tax Efficiency with Irrevocable Life Insurance Trusts
The inclusion of life insurance proceeds in taxable estates remains a common challenge in estate planning. With over half of Americans holding life insurance policies, as per the Life Insurance Marketing and Research Association, exploring strategies to mitigate potential tax burdens becomes crucial. Irrevocable Life Insurance Trusts (ILITs) can be a valuable tool for maximizing estate tax efficiency in such situations.
“Life insurance can be a lifesaver for loved ones, but it can also be a tax headache. An ILIT can be the key to unlocking its full potential, both financially and from an estate planning perspective.”
Ownership Matters
Generally, life insurance proceeds excluded from your taxable estate require you to relinquish ownership of the policy before your death. However, “incidents of ownership,” encompassing control over policy modifications or cash value access, can trigger estate tax inclusion.
With the current 40% top estate tax rate in 2024 and a $13.61 million gift and estate tax exemption, strategically navigating life insurance policies within your estate plan becomes essential, particularly for individuals with substantial assets. State-level estate and inheritance taxes further emphasize the importance of tax-efficient planning.
The ILIT Advantage
Establishing an ILIT as the owner of your life insurance policy, either at purchase or through transfer, presents a well-established technique for mitigating estate tax complexities. The irrevocable nature of the trust necessitates relinquishing control, thus avoiding incidents of ownership issues. Assigning a family member or financial professional as trustee facilitates effective management while adhering to legal requirements.
Upon your death, the designated ILIT receives the life insurance proceeds, holding them for distribution to beneficiaries outlined in the trust, often encompassing spouses, children, or other family members. While naming your spouse as the sole beneficiary might seem advantageous, potential estate tax deferral until their passing necessitates careful consideration with your estate planning advisor.
Navigating Potential Concerns
Transferring a life insurance policy to an ILIT within three years of your death triggers estate tax inclusion. Structuring the ILIT to purchase the policy directly and gradually funding premiums eliminates this concern. Additionally, transferring existing policies is considered a taxable gift, but your gift and estate tax exemption can effectively shield such transfers.
Life insurance, while crucial for financial security, can pose potential tax liabilities within your estate plan. Be sure to consult with your estate planning advisor to explore whether an ILIT aligns with your financial goals and effectively minimizes tax burdens.
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Estate, Trust, and Succession Planning Services
Mark’s background in tax enables him to provide extensive services to the firm’s clients in the areas of estate and retirement planning, and business succession consulting.