You, like many other Ohio residents, likely have a life insurance policy. You may have taken out this policy to better ensure that your surviving family will have the financial means to carry on without you in the event of your demise. Taking such a proactive step could have many benefits.
You may want to remember, however, that the payout from a life insurance policy could impact the value of your overall estate. As a result, if the payout boosts the value enough, your remaining estate could face taxation, which means your surviving family may have less remaining assets than expected. Fortunately, you could take steps to protect the policy from taxation by utilizing a specific type of trust.
Irrevocable life insurance trust
You may know that a trust can help protect assets by essentially removing them from the estate and into the ownership of the trust. With an irrevocable life insurance trust, the same type of action takes place. If you already have a life insurance policy, you could transfer it into the ILIT. If you do so, you no longer have control over the policy or its eventual payout because the trust is irrevocable, which means you cannot change or dissolve it. Additionally, someone else must act as trustee.
The reason for the irrevocable nature of the trust relates to avoiding incidents of ownership. If you retained the ability to change the trust or somehow benefit from its contents yourself, the Internal Revenue Service would still consider you the owner, meaning that the policy would remain part of your estate and potentially taxable.
While taking the action of placing a life insurance policy into an ILIT is a viable option, certain contingencies do exist. For instance, if you place an already existing policy into the ILIT, the IRS may still count the payout as part of your taxable estate if you die within three years of carrying out this action. However, if you create an ILIT and have the ILIT purchase a new policy straight out, this contingency is eliminated. You would simply have to provide the trust with funds to pay premiums.
An ILIT does not fall into the category of a standard trust, so you may need to do your research before deciding to utilize this option. Fortunately, you can discuss this and other planning options with an attorney knowledgeable in both estate planning and taxation who could provide you with advice and guidance.