Irrevocable Life Insurance Trust

Question 1

If life insurance is taxable in the owner’s estate, what must be done to make it not taxable?

Answer 1

Don’t own it or have any interest in it

(AKA insured has no “incidents of ownership”)

Question 2

What goes into gifting life insurance? (4 steps)

Answer 2

1. Person gifting must absolutely assign the policy to another person/entity.
2. Transferor may have to file gift tax return
3. Wait 3 years for the transfer to become valid
4. Don’t die in 3 years!

Question 3

4 problems with other individuals owning the life insurance policy

Answer 3

1. Loss of control
2. Vulnerability of assets
3. New owner could die first
4. Difficult to find a good new owner

Question 4

What is an alternative to gifting a Life Insurance Policy to avoid Estate Tax Issues?

Answer 4

Get an irrevocable trust to own the policy

Question 5

What is a “Trust?”

Answer 5

A legally constructed entity capable of owning property and is recognized by the IRS as a separate tax entity

Question 6

True or False:

Whether a trust purchases a life insurance policy or it is gifted, the “3 year rule” is still in effect.

Answer 6

False; having a trust purchase the policy avoids the 3 year rule

Question 7

True or False

If a trust is revocable (as opposed to irrevocable), the life insurance policy is included in the estate.

Answer 7

True

Question 8

3 Names/ways of defining an irrevocable trust agreement that contains provisions specific to the administration of life insurance policies

Answer 8

1. Irrevocable Life Insurance Trusts
2. Wealth Replacement Trusts
3. Asset Replacement Trusts

Question 9

What are the “pros” of a revocable life insurance trust? (3)

Answer 9

You don’t avoid estate taxes but…

1. More Privacy
2. Owner has more flexibility in directing the use of insurance proceeds upon death
3. Avoid cost and time delays involved with probate

Question 10

2 types of Irrevocable Life Insurance Trusts and their differences

Answer 10

1. Funded ILIT - funded w/ insurance policy and additional assets (which can be used to pay premiums). Not often used
2. Unfunded ILIT - funded only w/ insurance policy more common

Question 11

“Present Interest,” “Future Interest,” “Contingent Interest…” What do these terms mean in the context of gift tax exclusions?

Answer 11

For a gift to qualify for the annual gift tax exclusion, the IRS requires that the gift must be of “present interest.”

Present Interest - enjoy immediate benefit
Future Interest - future benefit use
Contingent Interest - need an occurrence of event or subject to discretion of another

Question 12

How does an irrevocable trust with Crummey Powers work?

(4 steps)

Answer 12

1. Grantor makes a contribution to the trust
2. Trustee sends out Crummey Letters to beneficiaries: “You have a right to withdraw your portion of the contribution.”
3. Beneficiaries: acknowledge notice, but say “NO”
4. Upon lapse of beneficiary withdrawal powers, Trustee uses contribution to pay premiums

Question 13

When setting up Irreovcable Life Insurance Trusts, it’s important to have a ___ draft the trust and not ____.

Answer 13

Attorney

Not title it “Irrevocable Life Insurance Trust”

Question 14

Trust should not direct ____ of insurance.

Answer 14

the purchase

Question 15

Grantor (insured) cannot be the ___ of the Irrevocable Life Insurance Trust

Answer 15

Trustee

Question 16

What does “Incidents of Ownership” mean?

Answer 16

Incidents of Ownership include:

1. the power to change beneficiaries
2. to cash in the policy
3. to borrow against the policy

Question 17

What happens if a Grantor has an incident of ownership?

Answer 17

They get in trouble with IRS, boi

Question 18

The Trustee of an ILIT can’t be compelled to ___.

Answer 18

Pay estate taxes

Question 19

Crummey Powers should exist for ___ or more.

Answer 19

30 days

Question 20

Are multiple beneficiaries possible in an ILIT?

Answer 20

Yes

Question 21

Are Crummey gifts to minors allowed?

Answer 21

Yes

Question 22

True or False

There can be a pre-arranged understanding on the part of the beneficiaries that they will not exercise their withdrawal power.

Answer 22

False; this would invite the IRS into the situation

Question 23

True or False

Surviving spouses are only allowed to be beneficiaries if they are dependents.

Answer 23

False; They can be beneficiaries. PERIOD.

Question 24

True or False

Spouse should not be given Crummey Power

Answer 24

True

Question 25

How do you avoid triggering a gift by the beneficiaries?

(Because a Beneficiary that lets a Grantor contribution lapse could be considered a gift to the trust FROM THE BENEFICIARY).

2 ways

Answer 25

1. Limit the Crummey power to the greater of $5,000 or 5% of the trust.
2. If Crummey power exceeds above, give the beneficiary the right to direct the disposition of the excess in his/her will.

Question 26

True or False

It is better for the Grantor to purchase an insurance policy than an ILIT

Answer 26

False; you want that trust purchasing the policy if possible

Question 27

It is necessary for notices of contributions (Crummey letters) to be given to beneficiaries in what form?

Answer 27

IN WRITING

Question 28

Who should be the one paying premiums for an ILIT?

Answer 28

The trustee

Question 29

When should a notice of contribution (Crummey Letter) be sent to beneficiaries?

Answer 29

Immediately upon contribution to trust

Question 30

True or False

The lapse of a Crummey Power could potentially result in a taxable transfer on the part of the beneficiary who allows the power to lapse.

Answer 30

True