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Do I need an ILIT

Do You Need An Irrevocable Life Insurance Trust (ILIT)?

In this post I am going to discuss policy ownership. Clients often ask me if they should hold their life insurance policy in a trust. I wanted to write this post to help you decide when an Irrevocable Life insurance Trust (ILIT) makes sense and the pros and cons of using an ILIT.

Goal 

The goal of this post is to show you when it makes sense to own a policy in your own name and when you should own it in an ILIT.

So if this sounds interesting to you, keep reading.

Lets cut to the chase

The bottom line is that most people do not need an ILIT. A life insurance trust is only necessary if you think that you will be subject to estate taxes. And, if you are thinking of utilizing your policy for The Double Play, then you most certainly do not want to put the policy into an ILIT. The reason for this is that an ILIT requires you to relinquish control of your policy in exchange for avoiding estate taxes. And an irrevocable trust is just like it sounds: once it is set up, it cannot be changed or modified. It is a completely separate entity outside the control of the grantor.

If you were thinking of leveraging the cash value of a maximum over-funded life insurance policy to invest in real estate projects, you would not be able to do that if the policy was held in an ILIT.

So why would you use an ILIT?

An ILIT helps you reduce the size of your estate for estate tax purposes. You should understand that a Trust is just an entity that can be used as a holding device for assets. That means that in the case of an ILIT, the ILIT is the owner of the life insurance policy. And because the trust is irrevocable, once the policy is placed inside the trust, it cannot be removed.

When you put a policy into an ILIT, the life insurance policy is outside of your estate. You should be aware that everything owned in our names at death is part of our estate for estate tax purposes. And that includes the death benefit proceeds of life insurance policies.

So if you think that your estate may be subject to estate taxes some day, then an ILIT may be a good way to help reduce the tax cost on the estate. And during the planning process, it is important to recognize that Estate Tax rates and rules are always changing. For example, the current (2022) exclusion for an individual is $12,060,000. However, if Congress does not take action by 2025, that exclusion will decrease to only $5 Million.

 Pros and Cons 

 Pros 

  • You can lower the tax cost of Estate Taxes on your estate.
  • Better protection against creditors than holding a policy in your own name.
  • Avoids public disclosure. Your estate is public record. The Trust hides the disposition of assets to beneficiaries.
  • Funding of policy is subject to Gift Tax rules. Currently $16,000 annually.

 Cons 

  • Expensive to set up and maintain.
  • Cannot be modified
  • Very complicated
  • Funding of policy is subject to Gift Tax rules. Currently $16,000 annually.

The bottom line is that if you don’t have a sizable estate, you should probably avoid an ILIT.

Conclusion

The goal of this post was to show you when it makes sense to own a policy in your own name and when you should own it in an ILIT. The primary purpose of an ILIT is to reduce Estate Taxes by holding assets outside of the estate in an Irrevocable Trust. In exchange for giving up control of the policy, the Death Benefit will not be included in the Grantor’s Estate. Real Estate Investors intending to utilize their policy for The Double Play should NOT put the policy into an ILIT. The Grantor is not allowed to access assets in the Trust once they are gifted to the trust.

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