The federal estate tax can cut into your family’s financial future considerably. The maximum rate of the tax has gone up to 40% this year, and the exclusion sits at $5.25 million.
What this means is that the portion of your estate that exceeds $5.25 million is potentially taxable. We say “potentially” because there are steps that you can take to decrease your estate tax liability.
If you are in possession of an insurance policy on your life, and you are the owner, remember the death benefits are includible in your taxable estate…even if another person is named the beneficiary and will receive the proceeds. One step you can take to remove those insurance proceeds from being taxable is to create an irrevocable life insurance trust, or ILIT.
When you place insurance policies that you own personally into the trust you are divesting yourself of the assets. You no longer retain incidents of ownership, therefore the Internal Revenue Service would not consider those policy proceeds to be part of your taxable estate.
You do have to be aware of the three-year rule that governs transfers of policies into these trusts. If you were to pass away within three years of the transfers the strategy would fail and the proceeds would still be a part of your estate for tax purposes.
Due to the above you could choose to create the irrevocable life insurance trust and then have the trustee that is administering the trust purchase the policies on your life. You would not own them, and you did not transfer them, so the three-year rule would not apply.
To learn more about these trusts and other tax efficiency tools feel free to contact our firm to schedule a free consultation.
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Parman & Easterday