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Avoiding the Estate Tax with an Irrevocable Life Insurance Trust

Life insurance policies are a classic estate planning method as the proceeds of the policies will generally go straight to the beneficiary, outside of the probate process. But while providing for loved ones by making them beneficiaries of your life insurance policy will save them from dealing with the hassles of probate, and they will not have to pay income taxes on life insurance proceeds, your beneficiaries still may be subject to estate taxes taken out of your estate. But by creating an irrevocable life insurance trust, you may be able to protect your heirs from having an enormous amount of their inheritance being paid out in estate taxes. The asset protection attorneys at DCDM Law Group can guide on you on creating estate planning strategies that best preserve your assets for future generations.

How Do I Know If I’m Subject to the Estate Tax?

The estate tax system operates completely separately from the income tax system. Thus, even if you have assets from years of labor and investments which were already taxed, those assets may still be subject to estate taxes upon your death. The current tax rate for estates is 40%, While that may seem high, it is actually quite low in light of historical rates. From the 1930s through the 1980s, the estate tax rate was around 70%, and it stayed above 50% until only the last decade. That said, the estate tax applies to wealthy estates, and the current exemption per individual is $5.45 million, meaning the first $5.45 million of your estate will not be subject to the estate tax.

It is critical to remember, however, that the estate tax rates and exemption amounts applicable to your estate is subject to change every year, and the rate and exemption amount will be based on the year you die, not on the year you conduct your estate planning. Thus, should the federal government determine to lower the exemption amount radically in the coming years and decades, many more Americans could be subject to the estate tax.

How an Irrevocable Life Insurance Trust Protects Assets

By transferring assets into an irrevocable life insurance trust, however, you can avoid the high estate tax rates applicable to your estate. In an irrevocable life insurance trust, the trust is both the owner and the beneficiary of the trust, even though the insurance policy is based on the life of the grantor of the trust (the creator of the trust). This means that a designated trustee uses trust assets to pays the premiums on the irrevocable life insurance trust, and, when the grantor dies, the trust receives the proceeds of the life insurance policy, and those proceeds are then paid out to the beneficiaries of the trust. By creating an irrevocable life insurance trust, the beneficiaries will receive these proceeds without having them be subject to the estate tax.

A three-year rule applies to irrevocable life insurance trusts. When an existing insurance policy is transferred into an irrevocable insurance trust, the IRS will deem the trust invalid and include the insurance proceeds with estate assets if the insured dies within three years of the date of transfer.

The major disadvantage of irrevocable life insurance trusts is that ownership and control are relinquished when the trust is funded. Large sums of tax-advantaged, asset-protected cash may accumulate in whole life insurance policies, and control and ownership of these funds may be an important consideration. Should you decide to change your beneficiaries or want to spend that money differently prior to your death, you will be unable to do so based on the irrevocable nature of the trust. An experienced asset protection attorney can advise you on what your best options are with regard to choosing an irrevocable life insurance trust.

Asset Protection Attorney in Pasadena

Comprehensive asset protection and estate planning is a complex process, with a multitude of factors to consider. If you have substantial assets, it is in your best interests to hire an experienced asset protection lawyer to assist you. The Pasadena estate planning attorneys at DCDM Law Group are well-versed in sophisticated strategies to provide the protection you need. Contact us for a consultation.

Dheeraj K. Singhal
About the Author
I help people keep the things they want and get rid of the things they don't want. I have been a lawyer for over 12 years and there are few things I enjoy more then getting great results for the people that trust me with their legal problems.