An efficiently designed gifting program funded with life insurance can help you to transfer your wealth, limit your exposure to transfer taxes, and maximize your financial legacy.

Read on to learn how combining a gifting strategy with an irrevocable life insurance trust (ILIT) can help you to make the most of your legacy.

Transferring Wealth and Enhancing Legacies: Annual and Lifetime Gifts

One of the best ways to enhance your legacy and minimize your exposure to transfer taxes is by combining:

• A gifting strategy, and
• An irrevocable life insurance trust (ILIT)

An ILIT is an effective estate tax reduction technique. Gifting, combined with an ILIT, allows you to meet other planning goals such as avoiding probate and increasing creditor protection. Additionally, an ILIT gives you greater control and flexibility over how your assets will be distributed.

Moreover, a lifetime gifting strategy, in conjunction with life insurance, may also increase the total amount passed on to your heirs.

Let’s discuss how U.S. transfer taxes can affect these life insurance strategies. 

Understanding U.S. Transfer Taxes

The U.S. federal government imposes a tax on the transfer of wealth above certain amounts. There are three distinct types of “transfer taxes” that may apply: 

Estate Tax

On the transfer of property at death.

Gift Tax

On the transfer of property during life.

Generation-Skipping Transfer (GST) Tax

On the transfer of property (during life or at death) to individuals who are more than one generation removed from the donor, commonly referred to as “skip persons” (e.g., a grandchild).

In addition to federal taxes, several states impose a state-level estate tax or inheritance tax, depending on where you live or own property.*

Maximizing Your Legacy Using Life Insurance

So, this considered, what can you do? What tools are available to you to maximize your legacy? Life insurance can be a perfect fit.

Implementing a gifting plan to fully utilize your available exemptions can help to significantly minimize or eliminate exposure to estate taxes.

One very efficient strategy is to make gifts to an ILIT using annual exclusion gifts and/or some of your lifetime exemption and have the ILIT trustee use the gifted funds to purchase life insurance. The steps are as follows:

1. Your attorney drafts an ILIT.
2. You fund the ILIT with annual exclusion gifts of $16,000 (in 2022) for each beneficiary of the trust, which can include children and grandchildren. You may use your lifetime exemption to gift larger amounts to the trust. 
3. The ILIT trustee purchases an insurance policy on your life (or the joint lives of you and your spouse). The ILIT is the policy owner and beneficiary, with premiums paid from the gifted funds.
4. At your death, the ILIT receives the death benefit free from income, estate, and GST taxes. By funding the ILIT with life insurance, you not only remove the gifted assets from your estate, but the policy’s death benefit creates an income tax-free pool of money, potentially increasing the overall benefit you pass on.

How Life Insurance Can Help

Life insurance can offer a variety of benefits. Some include the following:

• Income tax-free death benefit: Death benefit is received income tax-free and can be used to help pay estate taxes (if any) and secure a legacy for your beneficiaries.¹
• Access to tax-free income: Cash value that accumulates inside a permanent life insurance policy can be accessed tax-free and distributed to beneficiaries.²
• Competitive rate of return: Life insurance death benefit can provide a higher net rate of return compared to other options through life expectancy.³

Gifts may be made directly to beneficiaries or to a trust. When gifted to an ILIT, the assets will be excluded from estate tax for multiple generations (in many jurisdictions), and the trust structure provides additional benefits⁴,  including:

1. Enhanced inheritance protection
2. Flexibility and access
3. Easy funding
4. Increased creditor protection

What We Do

At Acumen Insurance Solutions, we know that a properly designed gifting program funded with life insurance can help you transfer wealth and enhance your legacy. Interested in learning more? Read on to learn the difference between term life insurance and permanent life insurance.

*Check your state’s regulations to verify what state-level estate tax or inheritance taxes are imposed.

Footnotes

¹ Life insurance death benefit proceeds are generally excludable from income tax, with a few exceptions including transfer for value.

² Loans and withdrawals will reduce the death benefit and cash surrender value and may cause the policy to lapse, which may cause recognition of taxable income. Policies classified as MECs may be subject to tax when a loan or withdrawal is made plus a 10% federal tax penalty if taken prior to age 59 1⁄2.

³ IRR on death benefit is equivalent to an interest rate at which an amount equal to the illustrated premiums could have been invested outside the policy to arrive at the net death benefit of the policy.

⁴ Acumen Insurance Solutions is not a law firm and does not provide tax or legal advice. Please consult your tax and legal professionals.