When creating an estate plan, some families and individuals opt to utilize an irrevocable life insurance trust (ILIT) in order to reduce the overall size of their estate. This is done by giving up ownership and control over the policy. Instead, the policy is held in an irrevocable trust. If handled properly, the proceeds of the policy will not be subject to estate tax after the death of the insured and during the administration of his estate. However, there is an important exception to be aware of, known as the three-year look back rule.
Understanding the Three-Year Look Back Rule
If an irrevocable life insurance trust is created by purchasing a new policy in the name of the trust, the look back rule does not apply. Sometimes, however, a previously existing life insurance policy is used to fund the newly created irrevocable life insurance trust; the owner of the policy transfers it over to the new trust. Unlike new policies, these previously existing policies are subject to the look back period. When does this rule apply? Following is an overview:
- The life insurance policy was previously owned by a person or entity other than the irrevocable life insurance trust
- The life insurance was not a new policy purchased and owned by the trust on the insured’s life
- Less than three years after the policy on his life was transferred to the trust, the insured passed away
Under these circumstances, the proceeds of the policy may be subject to estate tax.
Administering an irrevocable life insurance trust and an estate that may face estate taxes requires the guidance of experienced professionals. Trustees must act properly in order to ensure that the best interests of the trust and its beneficiaries are protected. Fortunately, trustees are typically permitted to seek legal, tax, and financial guidance. This means that in addition to an attorney, you may also want to consult with an accountant and financial planner for assistance. Consider location when you make these decisions. For example, if you are located in the Anaheim area, it will be most convenient to find professionals who are close by. We encourage you to reach out to us for assistance today—start a live chat with us!