Choosing a beneficiary for your life insurance policy is one of the most important financial decisions you’ll make. While naming a spouse or children is a common choice, it may not always offer the optimal level of protection or flexibility for preserving your wealth. For individuals seeking a more strategic approach, an Irrevocable Life Insurance Trust (ILIT) can play a vital role in aligning with the Perpetual Wealth Strategy™. By naming an ILIT as your beneficiary, you not only protect your family but also reduce estate taxes and ensure a seamless transfer of wealth according to your intentions.
What is a Trust?
A trust is a legal arrangement where one party, known as the grantor, transfers assets to another party, the trustee, to manage on behalf of beneficiaries. Trusts serve a variety of purposes, from estate planning to tax minimization and asset protection.
Within The Hierarchy of Wealth™, trusts occupy a critical role as a foundational tool for financial organization and protection. By using a trust, you create a secure framework to safeguard your assets and ensure they are distributed according to your wishes. Whether it’s protecting your family’s inheritance, managing property, or reducing tax liabilities, trusts offer peace of mind and long-term stability for your wealth.
- Revocable trusts: Much like the name implies, a revocable trust can be undone. That is to say that assets put into the trust by the grantor can be taken out by the grantor. Also called living trusts, revocable trusts allow the trustee to take over management of the grantor’s assets if he/she becomes mentally incapacitated or otherwise unable to manage their assets while they are still living. Revocable trusts are not exempt from estate taxes.
- Irrevocable trusts: Irrevocable trusts have a number of benefits not found in revocable trusts, including estate tax protection, protection against lawsuits, and gift tax benefits, to name a few. Once assets are placed in an irrevocable trust, they cannot be removed by the grantor. They will remain in the trust until it is time for them to be distributed to the trust’s beneficiaries, weeks, months, or even years after the death of the grantor.
How Trusts Are Structured
Trusts consist of three key roles: the grantor, the trustee, and the beneficiary. Each role plays a critical part in ensuring the trust functions as intended, especially in the case of an Irrevocable Life Insurance Trust (ILIT). Here’s how these roles work and how they align with effective wealth management.
The Grantor
The grantor is the person providing assets or funds to establish or contribute to the trust. In many cases, this is the individual whose life insurance policy will be owned by the trust. For instance:
- A married couple can both serve as grantors when contributing joint funds or assets to the trust.
- In ILITs, both spouses might be grantors if they are named on a second-to-die permanent life insurance policy.
The grantor initiates the process, ensuring the trust aligns with their financial and legacy goals. However, their involvement is limited to avoid retaining “incidents of ownership” that could trigger estate tax liabilities.
The Trustee
The trustee is responsible for managing the trust and its assets, including ensuring that life insurance premiums are paid and that the trust’s terms are followed. Importantly, the grantor cannot serve as the trustee if the goal is to receive tax advantages, as this would constitute “incidents of ownership.”
Appointing a trustee:
- A spouse or adult child can serve as trustee, provided they are not a grantor.
- Many individuals opt for a corporate trustee (such as a bank or trust company) to ensure professional management and adherence to tax laws.
Appointing an independent trustee protects the trust’s assets from being included in the grantor’s taxable estate, preserving the financial benefits of an ILIT.
The Beneficiary
The beneficiary of a trust is the individual or entity designated to receive its assets. In an ILIT:
- The trust itself is typically listed as the beneficiary of the life insurance policy.
- Your family members are listed as the beneficiaries of the trust.
This is one of the best ways to create a lasting legacy with generational wealth. With this strategy, a succession of trustees should be outlined to ensure proper management over several generations.
Benefits of this approach:
1. Generational wealth creation: Funds in the trust can grow over time, creating a lasting financial legacy.
2. Protection for loved ones:
- For minor children, the trust acts as a guardian of their inheritance until they reach adulthood.
- For incapacitated spouses, the trust manages assets on their behalf.
3. Incremental payments: Assets can be distributed over time, protecting beneficiaries who may lack the financial expertise to manage a large sum and potentially reducing tax liabilities.
Structuring a trust in this way ensures the efficient transfer of wealth while protecting assets and beneficiaries over multiple generations.
Which Type of Trust to Choose
A revocable trust, or living trust, offers more flexibility—but less benefits—than an irrevocable life insurance trust. But you don’t necessarily have to choose one or the other. Many families choose to purchase and hold life insurance policies for family members in an irrevocable trust, but use a revocable trust for other assets like cash, stocks, or real estate.
You can still access the policy loan feature of whole life insurance policies if they’re held in an irrevocable trust—you (the grantor) decides when policy loans may be used. But a revocable trust gives you flexibility if you need to sell or move other assets, options rarely considered when it comes to insurance policies.
Remember, a revocable trust means you can cash out assets held in the trust; an irrevocable trust means your beneficiaries can cash out assets held in the trust. It’s also possible to hold the majority of your non-life insurance assets in a revocable trust and authorize the trustee of your ILIT to buy those assets with funds from policy loans, thereby moving them from the revocable trust to the ILIT at a later date.
Why Do I Need an Irrevocable Life Insurance Trust (ILIT)?
An Irrevocable Life Insurance Trust (ILIT) is an essential estate planning tool designed to hold and manage life insurance policies outside of your taxable estate. By naming an ILIT as the owner and beneficiary of your policy, you can minimize estate taxes, protect your heirs, and ensure your wealth is transferred efficiently.
In the context of The Perpetual Wealth Strategy™, an ILIT is more than just a tool—it’s a strategic step in preserving your financial legacy. By integrating an ILIT into your plan, you create a tax-efficient structure that protects your life insurance proceeds while allowing them to grow and serve future generations.
7 Advantages of an Irrevocable Life Insurance Trust
An Irrevocable Life Insurance Trust (ILIT) offers powerful benefits for wealth preservation, estate planning, and generational financial security. Here’s how this strategic tool can enhance your financial plan:
1. Minimizes or eliminates estate taxes
When an ILIT owns your life insurance policies and other assets, they are excluded from your taxable estate. This can significantly reduce or eliminate estate tax liability. For policies with death benefits in the millions, removing them from your estate can dramatically decrease the tax burden on your heirs, ensuring more of your wealth is passed on intact.
2. Helps avoid gift taxes
Contributions made to an ILIT by the grantor are typically treated as gifts to beneficiaries. In most cases, these contributions don’t require the filing of a gift tax return, simplifying the funding of policy premiums. Additionally, these contributions allow the trustee to purchase more assets within the trust, enhancing its overall value.
3. Avoids probate
Unlike assets governed by a will or those held in qualified retirement accounts like 401(k)/IRA plans, ILITs bypass the probate process. This ensures that life insurance proceeds are immediately available to beneficiaries upon the grantor’s passing. The funds can also be directed by the trustee to cover outstanding debts, taxes, or end-of-life expenses, easing financial stress for your family.
4. Increases asset protection
Assets held in an ILIT enjoy heightened protection from legal claims, civil suits, bankruptcy, and even family disputes, such as those arising during divorce proceedings. While asset protection laws vary by state, ILITs are widely recognized as one of the most secure strategies for shielding wealth. Asset protections may vary by state, but generally an ILIT is one of the most secure strategies for protecting wealth.
5. Creates a path to generational wealth
ILITs are essential for fostering long-term wealth and ensuring financial responsibility among beneficiaries.
- Structured distributions: The trust allows you to control how and when funds are distributed, such as for milestone events like education, a first home, or the birth of a child. Payments can also be spread out over time, preventing mismanagement of a large lump sum.
- Avoiding generation-Skipping taxes: By funding additional life insurance policies through the trust, you can pass wealth to grandchildren and future generations without incurring the 40% generation-skipping transfer tax (GSTT).
- Building legacy wealth: Proceeds from policies within the trust can be reinvested, creating a cycle of growth that benefits multiple generations.
6. Increases control over policy proceeds
An ILIT gives the grantor comprehensive control over how policy proceeds are managed and distributed.
- Specify whether dividends and interest from whole life policies should fund premiums or purchase additional insurance.
- Dictate the use of policy loans and the timing and purpose of death benefit distributions.
- Ensure that assets within the trust are managed according to your wishes, even after your passing, by appointing a reliable trustee.
7. Preserves government benefit eligibility
For dependents with disabilities or others relying on government aid, an ILIT can provide financial support without jeopardizing eligibility for benefits like Social Security or Medicaid.
- Structured distributions: By dispersing funds incrementally rather than in a lump sum, the trust ensures dependents receive a steady income while maintaining access to essential government programs
How Irrevocable Life Insurance Trusts Work
Control: As the grantor of the trust, you have the control to decide how money is distributed and to whom; your trustee is legally bound to comply with what’s outlined in your trust documents, but once the trust is set up, your control is limited. It’s important to work with a legal team who specializes in trusts, as well as your tax accountant and insurance advisor to ensure a trust meets your needs before it is finalized.
Naming your trust as beneficiary of your insurance policies gives you control over how the death benefit of those policies are spent, so while you no longer own your policies (the trust owns them) you gain control in that you determine exactly what happens with your death benefit after you die, whether that’s buying more assets, going toward your children/grandchildren’s college education, distributed in incremental payments to family members, etc. And unlike a will, which is subject to probate and takes time to execute, your trust immediately receives payouts from your insurance company so funds can be quickly put to use.
Funding: You, the grantor, are responsible for funding your irrevocable life insurance trust. You can fund it by transferring insurance policies and other assets, which can include cash, business interests, real estate, stocks, or collectibles. You can also provide funds for the trust to purchase new assets.
In some cases, like insurance and real estate, you continually fund your ILIT by providing your trust with money to pay your insurance policy premium. Likewise, you would provide your trust with money to pay for mortgages and property taxes on real estate owned by the trust.
Transferring existing insurance policies: If you already have an insurance policy and wish to transfer it to an irrevocable life insurance trust, keep in mind that if you pass away within three years of the transfer, the policy will still be considered part of your estate. This affects the taxation of your estate because the insurance policy increases the estate’s value.
Buying insurance policies: If you don’t already have life insurance but are considering it, whether to help build and protect your wealth or to use as your own private family bank, setting up an irrevocable life insurance trust and naming the trust as the policyholder gives you all the benefits of an ILIT without having to worry about the three-year lookback period.
Typically you apply for a life insurance policy and once it has been approved, a request for change in ownership is submitted to the insurance company, listing the trust as the policyholder. This is done before the policy is actually issued, so before premiums are paid and before the policy has accumulated any cash value. Then the policy is issued to the trust by the insurance company. The same process can be used for your spouse, children, parents or anyone else with whom you have insurable interest.
Dissolving a trust: When a trust no longer holds assets, it is dissolved. If your irrevocable life insurance trust only holds life insurance policies and the death benefits are all distributed after you pass away, your ILIT dissolves. By this same logic, if you’re still living and your insurance policies lapse—the premiums are no longer paid—the trust would be depleted. Your trust must hold assets to remain in effect.
When to Set Up an Irrevocable Life Insurance Trust
Most people set up irrevocable life insurance trusts between the ages of 40 and 60. You want to have a good idea of what your estate will be worth, who the beneficiaries of the trust will be, and still be healthy enough to qualify for life insurance at a favorable rate. If you have existing insurance policies you wish to transfer to an ILIT, you want to do it before you’re old enough for the three-year lookback period to become a viable concern.
Your Irrevocable Life Insurance Trust Team
Your wealth strategist
The Wealth Strategists at Paradigm Life can help you determine how much life insurance you need for your family’s estate. They work with the nation’s top mutually owned insurance providers to find you the best coverage for your financial goals, and consultations are always complimentary. Your Wealth Strategist can also connect you with other financial and legal professionals as needed for additional help setting up your irrevocable life insurance trust.
Your estate planning attorney
Trusts are legally binding documents and need to be established by a qualified attorney. The right estate planning attorney can help you choose your trustee(s) and beneficiaries and help you outline your trust so that your wishes and your family’s needs are all met. This includes determining how assets are handled, when policy loans may be used, how death benefits will be distributed, and much more.
Conclusion
If you already own life insurance or are considering purchasing life insurance, an irrevocable life insurance trust may help your family keep more of your hard-earned money, particularly if you have a large estate. Further, it ensures the death benefit of your insurance policy is used exactly how you wish. Trusts can be ideal ways to create a lasting legacy with generational wealth and are key tools for wealthy families.
At Paradigm Life we can customize a policy to fit your financial situation. Our expert Wealth Strategists are available to answer your questions and show you customized illustrations, outlining an individual plan of action to help you achieve your goals. 
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FAQ
Q: What is an Irrevocable Life Insurance Trust (ILIT) and why is it used?
A: An ILIT is a trust specifically designed to hold and manage life insurance policies. It is used for estate planning purposes, offering benefits like minimizing or eliminating estate taxes and providing increased asset protection.
Q: How does an ILIT differ from other types of trusts?
A: Unlike revocable trusts, once an ILIT is set up and funded, it cannot be altered or revoked by the grantor. This irrevocability offers unique advantages such as better protection from estate taxes and legal judgments.
Q: What are the key benefits of setting up an ILIT?
A: Key benefits of an ILIT include minimizing or eliminating estate taxes, avoiding probate, increased asset protection, creating pathways to generational wealth, and maintaining control over policy proceeds after the grantor’s death.
