Why Do I Need a Special Trust for My Life Insurance?
Most people make the assumption that life insurance benefits are “tax free.” This is not altogether true. In most cases, life insurance proceeds are not subject to Federal Income Tax. BUT.... Life Insurance is subject to the Federal Estate Tax.
People whose estates are subject to the Federal Estate Tax, and who have purchased life insurance specifically to pay the taxes on the estate, may find that the life insurance proceeds themselves are subject to tax. One half of every insurance dollar may go to the government.
The trusts designed to protect the proceeds from life insurance policies are called Irrevocable Life Insurance Trusts, or “ILITs.”
Timing is a critical factor with life insurance trusts. If the trust is in place, and the Trustee makes the application for insurance on your life, the proceeds of that policy will never be subject to the Federal Estate Tax. However, if you transfer an existing policy into a life insurance trust, the IRS has a three year look-back period during which the proceeds are subject to tax.
If trusts are being established for a husband and wife, then special care must be taken not to fall victim to tax inclusion based on the Reciprocal Trust Doctrine.
Who's the beneficiary of YOUR life insurance?
Make sure it isn't Uncle Sam!
