The Tax Cuts and Job Act of 2017 changed the tax code in a number of important ways. However, one overlooked aspect is how the law impacts estate planning strategies, especially with regard to irrevocable life insurance trusts, or ILITs.
The ILIT has long been a staple of estate planning strategies. It's often used by those who face federal estate taxes. An individual can gift money to the ILIT to pay life insurance premiums. Upon the individual's passing, the life insurance death benefit is paid to the trust, which then uses the funds to pay taxes and other estate costs.
The Tax Cuts and Job Act increased the federal estate tax exemption to $11.2 million per individual and $22.4 million per married couple. That reduces the number of individuals who face estate tax exposure, so there may be people who have an individual life insurance trust but no longer need it.
In such a circumstance, the trustee has a number of options. The trustee could simply stop paying premiums on the policy. At some point, the policy may lapse, and the cash value would be distributed. The trustee could also reduce the life insurance benefit amount so that the policy would be supported with existing cash value. Of course, the trustee could surrender the policy and take the cash value in a lump sum distribution to the trust.
Another often-overlooked option is a life settlement, which is a process in which a client sells a life insurance policy to a third party in exchange for an immediate lump sum amount. This may be the only option available for convertible term policies that don't have cash value.
There's no right answer for everyone. Each decision should be based on the unique needs and goals of the client, trustee and trust beneficiaries. An experienced estate planning attorney may advise a client and trustee on their options and help them reach the most appropriate decision.