Life Insurance TrustsThe purpose of a life insurance trust is to avoid federal estate taxes on life insurance proceeds owned or controlled by the decedent. Anyone who buys their own life insurance, or has it provided by their employer, will usually have the face value of the insurance included in their estate for federal estate tax purposes. For information about federal estate taxes, click here: Estate Taxes
How can estate taxes be avoided? If the insurance is not owned by the decedent or by his or her spouse, relatives, or employees, the insurance will not be considered part of the estate for estate tax purposes. This can be accomplished by setting up an irrevocable life insurance trust whose trustee buys the insurance and pays the premiums for the insurance.
How does a life insurance trust work? The trustor sets up the trust and names a trustee, who will buy the insurance for the trust, using funds contributed to the trust by the trustor. After the trustor's death, the proceeds of the insurance are paid to the life insurance trust, and then distributed to the beneficiaries of the trust, who often are the trustor's children. If the trust has been administered properly, the proceeds of the insurance will be distributed free of federal estate taxes to the beneficiaries.
Can existing life insurance be used for this type of trust? Yes, but there is a three-year waiting period before the insurance proceeds will be excluded from the estate of the decedent for estate tax purposes.