Global Courant
As you begin planning your estate, an ILIT (irrevocable life insurance trust) will provide peace of mind. If you have young beneficiaries or a sizeable estate, the trust can give control over a life insurance policy.
The irrevocable aspect of the trust ensures that the creator or the grantor cannot change it once it has been established. ILIT is primarily used as an estate planning and financial planning tool to protect assets subject to high estate taxes.
What do you need to know about irrevocable life insurance?
A revocable trust allows the grantor to make changes to the trust. You can also terminate the trust if you wish. An irrevocable trust does not allow any changes to be made once it has been established. Only beneficiaries can change the trust.
Revocable trusts are more common because they provide flexibility to the trust creator. An irrevocable life insurance fund is a good idea if you want to save on taxes.
A donor will establish and fund the irrevocable trust. Transfers and donations are then made to the trust. Transfers and gifts are permanent. Changes not allowed to the trust and its funds after incorporation.
The trustee manages the trust. Distributions to beneficiaries are also administered by the trustee. The trustee who administers the trust is different from the grantor.
Benefits of an irrevocable life insurance trust
- Lower wealth tax
Death benefits are not part of the gross estate when you choose an irrevocable trust. This means that the benefits are not subject to federal and state taxes.
The trust will also be able to cover debts and estate taxes when the estate makes the purchases. The donor cannot make the purchases because the estate is now part of the trust.
It is important to note that while the estate is exempt from estate taxes, the beneficiary’s estate will be subject to such taxes. The tax burden shifts to the beneficiaries.
When ILIT is set up correctly, it helps to provide liquidity. This will help pay estate taxes and other expenses and debts. It is done through a loan or buying assets from the grantor’s estate.
Lifetime gifts help reduce taxable estate. This is done by transferring assets into an irrevocable life insurance trust.
- Protect assets from creditors
An irrevocable trust can protect you from certain legal procedures. Protect assets from creditors by setting up the trust.
However, the creditors will be able to attach payments from ILIT.
- Avoid gift tax
Contributions made by the donor to the beneficiaries are considered gifts. If you want to avoid gift tax, it is important that the trustee informs the beneficiaries about the right of withdrawal.
The letter informs the beneficiaries of the right to withdraw for a period of 30 days.
After the 30-day period, the trustee can pay the life insurance premium with the contributions.
The transfer for the annual gift tax can be excluded because the letter makes the gift a gift rather than future interest. This way you avoid having to file a gift tax return.
- Leave assets to minors and ensure accountability
Minors are not equipped to handle large amounts of money and possessions. An irrevocable trust allows you to set restrictions to protect the assets.
Restrictions can be put in place, such as reaching a certain age for beneficiaries to access the assets. Creating a trust will help ensure responsible behavior from adults or minors with reckless spending habits.
The trust is overseen by an appointed trustee. The assets are distributed according to the wishes of the donor. This provides asset protection for the beneficiaries.
Since ILITs are not owned by the beneficiaries, the assets are protected even if there are future lawsuits involving the beneficiaries.
Linking the assets to the beneficiary is difficult. This prevents creditors from accessing the assets.
- Government Benefits
Trust beneficiaries receiving government assistance (Medicaid or Social Security Disability Income) are protected with the proceeds received from a life insurance policy purchased by an ILIT.
The trustee can determine how trust distributions are used. This is done carefully so that the beneficiary’s right to state aid is not hindered.
- Outdated scheduling
The generation gap transfer tax has a tax of 40% on transfers and gifts under management. The tax also applies if the gift or transfer is made to unrelated persons who are more than 37.5 years younger than the donor.
Related persons who are at least one generation younger than the donor are also subject to the tax provisions. Donors who donate assets to grandchildren instead of children is a well-known example.
ILIT will help the grantor to make use of the transfer tax exemption for the skip of the generation. Gifts to the trust are used to fund and purchase the insurance policy.
Since death benefit proceeds are excluded from the donor’s estate, multiple generations of the family (children, grandchildren, and great-grandchildren) will be able to benefit from the trust assets.
Disadvantages an irrevocable life insurance trust
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There are certain tax benefits that do not become applicable until the grantor lives three or more years after the transfer of the insurance policy to the trust. IRS begins to recognize the insurance proceeds if the period is shorter than stated.
When ILIT buys off the insurance, you can avoid a specified period of three years. The trust will have to fund to pay the premiums.
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When you gift the trust money to a policy, it becomes subject to gift tax. The gift tax can be avoided if the beneficiaries receive letters informing them that the money is not immediately available to them.
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The main drawback of ILIT is that it cannot be changed once it has been set up. You must relinquish complete control over assets. Apart from that, dissolution of the trust is not possible unless the payment of premiums is not stopped.
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When the beneficiaries receive the estate, they will have to pay significant taxes.
How do I set up an ILIT?
Setting up an ILIT is a complex process. Start the process by selecting an attorney who specializes in estate planning.
Before preparing the trust document, you need to make the following decisions:
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Who will be the curator of ILIT?
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Who will be the beneficiary or beneficiaries of the insurance proceeds?
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Are you going to transfer an existing policy to the trust or buy a new life insurance policy?
Before making these important decisions, it is advisable to think them through. You cannot change any of these decisions after you have established an irrevocable trust.
ILIT is named as the beneficiary of the life insurance policy. This means that the payment in the event of death goes directly to the ILIT.
The beneficiaries receive benefits without paying inheritance or income tax. Fund the trust for the payment of premiums. This ensures that the insurance does not expire.
Who are the beneficiaries of an ILIT?
The primary beneficiary of the insurance policy is ILIT. Death benefits are transferred to ILIT. These benefits are held in trust for the benefit of the beneficiaries named in the trust documents.
If the trust proceeds are held for the benefit of the spouse, regular periodic payments are received instead of a lump sum. Periodic payments are not taxed.
What are the incidents of ownership?
If the insurance policy is owned and retained by you, you can change the beneficiaries or withdraw the cash value at any time. This means that the Tax and Customs Administration includes the proceeds of the insurance when calculating the estate value.
If the proceeds are high, the estate becomes susceptible to inheritance tax. This is possible when the estate is the beneficiary of the policy.
The policy will be an asset of the estate if it is owned at the time of death and even if children, grandchildren or great-grandchildren or anyone else is named as a beneficiary.
How to solve an ILIT?
Once an irrevocable trust has been established, it cannot be undone. Premiums must be paid to maintain the insurance. If you want to dissolve the trust, all you have to do is stop paying the premium.
The insurance expires if the premiums are not paid.
Conclusion
An irrevocable life insurance trust is a good idea if you have a significant amount of assets and wealth and you want to protect it after your death. This also helps to avoid creditors and high inheritance taxes.
You must remember that ILIT may not be suitable for everyone. After you set the trust, you can’t make any changes to it. Only beneficiaries of the trust can approve changes to the trust.
What is an irrevocable trust letter for life insurance?
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