Law Office of Michael B. Mangano

We Can Help (978) 416-0121

Irrevocable Life Insurance Trusts

A lot of people understand that life insurance passes outside of the probate process, but what they don’t understand is that this does not protect the money from an estate tax.  For some reason there is a belief that if the money passes outside the probate process, the money is also not subject to estate taxes.  This is simply not true.  Pursuant to the Internal Revenue Code, when a beneficiary receives payment from a life insurance policy, they receive that money income tax free. However, any proceeds paid by a life insurance policy to beneficiaries is potentially taxable to decedent’s estate.  Since life insurance policies usually makes up such a large portion of a decedent’s estate, it is important to understand how an Irrevocable Life Insurance Trust can help in estate planning.

Creating an Irrevocable Life Insurance Trust can be an integral part of an estate plan.  Since the life insurance policy typically represents such a large portion of a decedent’s estate (usually tens-of-thousands to hundreds-of-thousands of dollars), having an Irrevocable Life Insurance Trust can be difference of having to pay an estate tax or not paying one at all.  By creating an Irrevocable Life Insurance Trust and making it both the owner and beneficiary you should be able to successfully prevent the payout from becoming part of the taxable estate.

In order to prevent a life insurance policy from becoming part of a decedent’s taxable estate, the trust must be named as both the owner and beneficiary of the policy during the insured’s lifetime.  The trust must also be be irrevocable, which means that the insured cannot retain any control over the policy, such as an ability to alter or amend.  By doing this, you will prevent the assets from becoming part of the taxable estate.  It is clear that you give up some rights by making the trust the owner and beneficiary of a life insurance policy, but you really do not give up that much.  When you purchase a life insurance policy, you typically want any payout to go to your spouse, children, grandchildren, whatever, and an Irrevocable life insurance trust allows your to do the same things. However, instead of those beneficiaries being listed on the insurance policy, they are listed in the trust document.  The trust then becomes the instrument that distributes the money to the beneficiaries.  The biggest drawback is losing the ability to update the trust if there is a change in family circumstances.

In addition to being able to list the same beneficiaries that you would have on your insurance policy, you will also be able to draft different provisions into the trust that will protect the beneficiaries’ interests, and also be able to draft provisions that can help distribute the money under conditions that you feel are appropriate.  So, in essence, you give up some control while you are alive, but are afforded other benefits that make up for it when you are deceased.  For example, you can direct the trustee to pay the proceeds when your children reach a certain age or attain a certain degree.  You can also include spendthrift provisions, or you can direct the trustee not to pay out money if the beneficiary is dependent on drugs, has a gambling problem, or if the payment would affect supplemental needs benefits.  This type of planning protects both your interest and the interest of the beneficiary.

Finally, the cost of all this.  As you know, nothing is free, and making an irrevocable gift is no exception.  When you designate an Irrevocable Life Insurance Trust the beneficiary of an insurance policy, that gift becomes taxable, although there are ways to minimize the gift taxes.  How to minimize the gift tax is completely dependent on your situation and, unfortunately, something that cannot be easily described right now.

If you are interested in Irrevocable Life Insurance Trust, you are encouraged to contact the office for more information.  The office can help explain the above and help demonstrate how you will benefit form this type of trust.

Comments are closed.

Post Navigation