I’m Buying Life Insurance; Do I Really Need A Trust And If So What Kind?

A client is buying life insurance, do they really need to set up an irrevocable life insurance trust (“ILIT”) to own that insurance?

This is a common situation encountered by practitioners, and as with so many aspects of estate planning the answer is more nuanced, than many may anticipate. This creates opportunities for practitioners in all disciplines to provide value-added advice to clients on this and ancillary issues.  On the threshold issue of who should own the insurance, the answer is more complex than the binary choice between using an insurance trust or having the individual insured own the policy directly.  Another overly simplistic and common mistake is to assume that the only reason to use a trust is to mitigate estate taxes.

With high federal estate tax exemptions, do most clients need to consider ILITs in the first place? Is this discussion even relevant for most clients?

Absolutely!  The question itself is misleading, as it implies somewhat that avoiding federal estate tax is the only reason to have insurance held in an ILIT. It is true that, for many decades, the relatively low estate tax exemptions made the use of ILITs standard planning for anyone purchasing even a moderate sized life insurance policy, even if the policy was only term. Low exemptions made the analysis rather simple and led to the conclusion that an ILIT was the right answer in many situations.

While the current high exemption amounts have made the analysis somewhat more complicated, the right answer for most clients will be to use some type of irrevocable trust to hold life insurance policies.  These days, the type of trust and plan involved should likely differ in important and valuable ways from traditional life insurance trust planning.

The discussion following will review many of the pros and cons of having a trust own life insurance and why trust ownership of life insurance continues to be advantageous for at least a few reasons:

  1. Consider that the estate tax exemption declines in 2026 by half, as a matter of current federal law.
  2. Clients who reside in a state with an estate or inheritance tax may face death taxes on personally owed life insurance even if the estate is not otherwise subject to a federal estate tax. For some clients, an ILIT might be useful to mitigate future federal estate taxes or state estate or inheritance taxes.
  3. For clients with no foreseeable federal or state estate or inheritance tax exposure, an ILIT may be prudent to protect the death proceeds for the benefit of intended beneficiaries. Asset protection remains a critical reason to protect insurance proceeds with ILITs.

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