We’ve spent decades protecting our clients from the eroding effects of estate taxes, advising them to keep their life insurance outside of the estate, in an irrevocable life insurance trust (ILIT), in order to leverage the tax advantages of the death benefit.

We felt comfortable with this strategy, even if our clients’ total estate value was only $2 million or less. Now, the new tax law excludes estates under $10.5 million for married couples ($5.25 million for singles) from having to pay estate taxes. Should this concern our clients, who’ve spent valuable time and resources on crafting a trust with their lawyers, who are now positioned against a threat that no longer exists?

Of course it should. Any changes in tax law should concern our clients, and they should be aware of their alternatives.

A delicate balance

Estate planning is a delicate balance between what could possibly happen and what will certainly happen at some indefinite point in the future. As our clients get older, regulatory changes can have a more dramatic impact on their plans. Essentially, they have less time to reposition assets and create new strategies to maximize their benefits around the changes. The key to powerful planning is having a clearly defined reason for every strategy and recommendation we make for a client. That way, if the reason no longer exists, the strategy can be re-examined or dissolved.

Traditionally, an irrevocable life insurance trust was a strategy that used life insurance to pay for projected estate taxes upon death. With the unlimited marital exemption, the trust would pay the proceeds of the policy upon the second death, making the estate “whole” for the children beneficiaries. Recently, ILITs have been used more as a strategy for leveraging assets. In a low interest rate environment, life insurance became an even more attractive way to leave a legacy with a guaranteed rate of return. A small premium can produce a large, tax-free benefit.

Your clients may have several valid reasons for keeping the trust in place.

First of all, nothing is permanent. If the government decides to reduce the threshold again in the future, the trust will continue to retain the policy and death benefit proceeds outside of the estate. 

A trust can be a way for your clients to pass along their specific intentions for how and when the policy benefits are to be paid to the beneficiaries.

The ILIT can pay an income to the beneficiary while keeping the remaining assets protected from creditors.

If you have a client who doesn’t trust their new son-in-law or daughter-in-law, the trust provides additional protection for the beneficiary in the case of divorce.

What if you decide an ILIT is not right for you? Even an irrevocable life insurance trust can be dissolved via a Family Settlement Agreement with signatures from all parties. Your client should always consult with their lawyers and tax advisors prior to acting on this or any information. Talk to your clients about why they set up a trust in the first place. Then help your client decide if the strategy is still appropriate to meet their concerns.

 

For more, see:

The future of life insurance taxation

10 estate planning tax facts you need to know

The ins and outs of owning life insurance in a QRP