Providing Financial Security for Your Family: Utilizing an Irrevocable Life Insurance Trust to Address Estate Tax Challenges 

For many high net worth individuals, a significant portion of their wealth is tied up in illiquid assets such as businesses or real estate. This can pose a challenge when it comes to estate planning, as the IRS requires estate taxes to be paid in cash within nine months of a person’s passing. This dilemma raises investments, to cover estate taxes, or resort to selling illiquid assets at a discount in a hurried “fire sale” scenario. Fortunately, there is a solution that can keep your family financially secure and preserve your financial legacy – an Irrevocable Life Insurance Trust (ILIT).

An ILIT is an estate planning strategy designed to address the need for liquidity upon the death of a high-net-worth individual. It ensures there are sufficient funds available to pay estate taxes and administration expenses, while also providing cash to support the financial needs of surviving family members. Additionally, an ILIT can be used to replace any wealth lost to estate taxes and administration expenses. 

• Establishing the Trust: Work with an estate planning attorney to create the irrevocable life insurance trust. You fund the trust with money that you gift to it, typically structured as “present interest” gifts through “Crummey withdrawal provisions.” This means the beneficiaries of the trust have a limited period during which they can access the gifted funds. By following this approach, the gifts fall within the annual gift exclusion amount ($17,000 per person for 2023), making the gift free from gift taxes.

• Purchasing Life Insurance: The trustee of the trust then uses the gifted funds to purchase life insurance on your life, and in some cases, on the joint lives of you and your spouse. Upon your passing, the trust receives the insurance proceeds from the life insurance company.

• Creating Liquidity: With the life insurance proceeds, the trust gains the necessary cash to either lend to your estate for estate tax payments or purchase assets from your estate, converting illiquid assets into cash. These illiquid assets, like real estate or a business, become owned by the trust. It’s important to note that the trust doesn’t directly pay estate taxes on behalf of your estate to prevent inclusion of the death proceeds in your estate. Instead, it serves as a liquidity source or a replacement for any wealth lost due to estate taxes.

In conclusion, an Irrevocable Life Insurance Trust is a valuable tool in estate planning, providing the means to address liquidity challenges associated with estate taxes and preserving your family’s financial future.

This is not intended to be tax, legal, or investment advice and is provided for general educational purposes only. You should consult with your tax and legal advisor regarding your individual situation.

Guardian Life Insurance Co. (2015). Creating Liquidity to Pay Estate Taxes with an Irrevocable Life Insurance Trust. GEAR # 2014-14320