Although typically life insurance proceeds are not subject to income taxes, they can be subject to estate taxes. One way to avoid this problem in North Carolina is to use an irrevocable life insurance trust (ILIT). Life insurance benefits can be significantly reduced if they are put through estate taxes. An irrevocable life insurance trust pulls the life insurance proceeds out of the estate and instead places them in a trust. In order for this to be effective, the trust must take ownership of the life insurance policy away from the estate. A few important pieces that may be included in an ILIT are a statement of the trust’s irrevocability, the powers of the trustee, the powers of the trust related to the life insurance itself, and the beneficiary withdrawal powers.
An additional benefit of an ILIT is a gift tax exclusion that allows up to $13,000 per year. If you already have a policy in place, the insured person must survive for at least three years in order for the trust to be effective. If placed in the ownership of a life insurance trust on a new policy, however, this goes into effect immediately and ensures that the proceeds from the life insurance policy are not subject to estate taxes. Typically, an ILIT will include what’s known as Crummey withdrawal powers that protect the gifts that qualify for the gift tax annual exclusion. Many ILITs will qualify for what’s known as an intentionally defective grantor trust. This is classified as a grantor trust for the purposes of income tax but the actual transfer to this trust is for estate and gift tax purposes. Speak to your attorney about the details of a life insurance trust and what aspects fit your unique situation.
An ILIT is a simple way to protect life insurance proceeds from large estate taxes. It’s a relatively easy option that can be completed quickly by an attorney. Meek Law Firm will be happy to assist you.
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