The acronym “ILIT” stands for Irrevocable Life Insurance Trust. An ILIT is a very useful tool in comprehensive estate planning. Generally speaking, an irrevocable trust transfers all ownership rights in the trust property to the trust itself, without retaining a right to revoke, terminate or modify the trust in any material way. If you transfer an insurance policy into an irrevocable trust, you have just created an ILIT. What is an ILIT basically used for?
Benefits of an ILIT
The true benefit of an irrevocable life insurance trust, is keeping the proceeds of the life insurance policy outside of your taxable estate. Making gifts to the trust, to fund the insurance premiums, can also reduce your taxable estate. Upon your death, the remaining assets in the trust (the insurance proceeds) are available to your beneficiaries, income-tax-free and possibly estate-tax-free.
How is an ILIT funded?
An ILIT can either be “funded” or “unfunded.” If it is funded, the life insurance policy is transferred to the trust, as well as additional cash or property to be used to pay the insurance premiums. A disadvantage of funding the trust, however, is that the income of the trust can be taxed to the person who created the trust.
On the other hand, the most common type is an unfunded ILIT, which does not include additional cash or property. Instead, the grantor makes annual cash gifts to the trust, to pay the insurance premiums. Unfortunately, these gifts are not entitled to the annual gift tax exclusion, as they are considered future interests.
Using a “Crummey Power” with your ILIT
If you are not familiar with this term, “Crummey powers” are terms that can be included in a trust in order to secure the annual gift tax exclusion for your ILIT premium payments. Specifically, a Crummey power allows your beneficiaries to withdraw cash transfers to the trust annually. They do not actually have to withdraw the cash. The simple fact that they have the authority to, converts the annual transfers into present interest gifts. This way, the gifts will qualify for the annual gift tax exclusion.
Power of Appointment
Another choice is to give the beneficiaries of the trust the testamentary power of appointment over the accumulated excess funds in the trust. The beneficiaries can designate who should receive the excess funds not withdrawn under Crummey powers. Be sure to discuss your options with your estate planning attorney in order to make the best choices for you.
If you have questions regarding an Irrevocable Life Insurance Trust, or any other estate planning needs, please contact the Schomer Law Group either online or by calling us at (310) 337-7696.