Irrevocable Life Insurance Trusts

Irrevocable Life Insurance Trusts are funded by and focus on a particular type of assets, which distinguishes them from other types of trusts. Ordinarily, the face value of life insurance is included in the taxable estate of the owner of the policy. This can represent a significant source of estate taxes.

However, you can create a special type of trust that eliminates estate taxes on the life insurance benefits because the trust, and not you, will be deemed to be the owner of the policy. This is only one reason to consider a life insurance trust, however. Such a trust can also be critical in preserving the value of an inherited Individual Retirement Account. By funding a life insurance trust, there will be money available to by the estate tax. If the estate tax must be paid from the IRA itself, there will also be income tax liability (on the withdrawal) and possibility excise tax penalties. This confluence of taxes can quickly bled all the value out of the IRA. Proceeds from a life insurance trust can also be used to "buy-out" interests in closely held businesses without destroying the business.

It is usually desirable to establish the life insurance trust first, and then have the trust purchase the policy in its own name. The grantor funds the trust, which in turn, purchases the policy in its own name, and pays the policy's premium against its own account. An independent trustee is absolutely required in this case.

It is possible to transfer an existing life insurance policy to such a trust. For example, where the grantor is older or has health problems that make a new life insurance policy cost-prohibitive. However, caution must be exercised so that the grantor irrevocably relinquishes to the trust absolutely all control over the policy. An estate planning attorney can ensure this is done properly.

The idea is that the trust takes over ownership of the policy. The grantor then makes contributions to the trust, which, in turn, uses the contributions to pay the policy's premium against its own account.