If you’re reading this, you’ve probably come to a point in your life where you’ve realized you should start planning for the future, and we’re not talking about yours. Planning for the financial future of your loved ones is a responsible, yet complicated undertaking. While there are numerous ways to go about this important process, one of our favorites is the Irrevocable Life Insurance Trust, or just ILIT.
Why? An ILIT is capable of:
- Reducing your taxable estate
- Providing greater liquidity
- Protecting proceeds from beneficiaries’ creditors
Sounds great, but these desirable benefits require the settlor(s) to forfeit all “incidents of ownership” of the trust. Incidents of Ownership is a legal term that basically means the powers to control the trust and who gets what, when, and how from the proceeds of said trust. In a ILIT, these powers are entrusted to a “trustee”.
An ILIT can be funded through life insurance policies, or by simply giving “gifts” to the trust. Term, Whole, Universal, and Variable life insurance policies each carry with them their own pros and cons and it will be up to you and the trustee to determine which ones will best fit your policy and goals. Regardless, a fun feature of ILITs is that when you do transfer funds into the trust, your beneficiaries have a window of opportunity to withdraw the funds, known as the “Crummey” withdrawal power.
Due to the ILIT’s many benefits, it’s common for spouses to consider drafting trusts for each other. These are referred to as “Reciprocal Trusts” and are a common and can potentially null the primary benefit of ILITs: avoiding the estate tax on your life insurance policies. To avoid this common trap, the ILIT provisions cannot be identical and should be drafted at different times. When crafting your trusts, you and your spouse will have to work with your estate planner to determine your goals are met while avoiding the reciprocal classification.
The Trustee
As you can probably guess from the name, the trustee is someone who you’ll have to entrust with all or part of your estate if you choose to utilize an ILIT. That’s why it’s crucial to fully understand what their obligations are to you and your estate. A trustee can be anyone, your spouse, friend, attorney, or bank. However, all will be bound to provide the highest standard of care. This high standard carries with it a lot of liability, which is why it would be prudent to ensure the trustee is both able and willing to handle the responsibility.
Some of the key responsibilities of the trustee include:
- Managing and Monitoring the Policies transferring into the trust or already in the trust
- Properly Notifying the be Beneficiaries of their Withdrawal Rights
- Keep Records of Premium Due Dates, Statements, and Addresses up to date
- Execute the Trust to the highest standard of care
Compensating your trustee will depend on a variety of factors. It is not
uncommon for trustees to be friends or family members who usually don’t charge a fee. However, due to the complexities of ILITs as well as the large liability trustees hold, seeking a professional to handle your trust can provide greater peace of mind. Should you hire a trustee, their compensation will depend on the size of the ILIT, type of insurance it holds, and other factors.
Summary
Irrevocable Life Insurance Trusts are a common yet unique estate planning tool. ILITs offer highly desirable outcomes, most prominent among them being the ability to protect your life insurance policies from the estate tax. These outcomes however require you to surrender control of the policies and their proceeds to a trustee who will have an immense responsibility to you, your estate, and your beneficiaries.
Drafting an ILIT, therefore, is a careful science of ensuring your goals comply with the laws and ensure your wishes are properly followed and executed. Here at Santaella Legal Group, APC, we specialize in ILITs and ensuring our clients feel confident about their loved ones’ future. We service the San Ramon, Danville, Dublin and the entire San Francisco bay area.