Life Insurance Trust
A life insurance trust is a trust that is created for the specific purpose of acquiring and owning a policy or multiple policies of life insurance. Although a life insurance trust may be revocable or irrevocable, because of the ability of the trust to remove life insurance policy from the grantor’s estate, it is common to create the trust as irrevocable. When an irrevocable life insurance trust is properly created and administered, the trust can own a life insurance policy on the Grantor's life and the policy will not be included in the Grantor's gross estate for estate tax purposes. Meaning, the policy will not be subject to Federal estate Tax.
Parties
The first party of a Life Insurance Trust is the Grantor (aka Trustor or Grantor), the second party is the trustee, and the third party is the beneficiary. The grantor establishes the trust, while the trustee, who is usually a person or bank, manages the trust assets contained in the trust for the benefit of a beneficiary.
Common Purposes of a Life Insurance Trust
Life insurance trusts are used for a variety of purposes. Some of these purposes are specifically tax-related, while others are unrelated to any tax objectives.
Non-Tax uses of life insurance trust include:
1. Liquidity - The life insurance trust is an appropriate device for an estate plan when it is expected that there will be a need for liquidity after the death of the Grantor or the Grantor's spouse.
2. Increase of Grantor’s Family Estate, The proceeds of life insurance can provide a capital base from which income can be generated to meet the long-term needs of the insured's family. When a life insurance trust is properly structured and funded, this capital base can pass to members of the Grantor's family without any estate tax. and
3. Centralized Management - The life insurance trust is also an instrument for centralized control and management of the insurance policy and the proceeds after death. By making the trustee of the insurance trust the same person as the executor of the Grantor's will, the Grantor can ensure that a coordinated approach will be taken to administering the estate and that disputes will be avoided between fiduciaries.
Tax Planning uses of a life insurance trust include:
1. Removes the cash value and death benefit of the insurance policy from the Grantor's gross estate7 for federal estate tax purposes.
2. Eliminates or Minimizes Federal Gift Taxes
In a typical case, the decision to create a life insurance trust will be motivated by a combination of tax and non-tax goals. The Grantor will hope to effect significant estate and gift tax savings by creating and funding the trust, while at the same time achieving one or more of the non-tax goals.
Estate Tax Considerations
A decedent's estate includes proceeds of a life insurance policy that are (1) receivable by the executor as insurance under policies on the life of the decedent, or (2) receivable by other beneficiaries as insurance under any policies on the life of the decedent for which the decedent, at death, possessed any incidents of ownership, either alone or with another person. If the Life Insurance Trust is funded with the policy, the policy proceeds will not be included in the estate of the decedent. However, if a decedent transfers a life insurance policy within three years of death(to an individual, a trust, or any other entity), the policy will be included in the decedent's estate if the policy would have been included in the decedent's estate if not transferred by the decedent.
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