ILIT Implementation Guide

Chapter 1: What is an ILIT?

An Irrevocable Life Insurance Trust (ILIT) is a specialized trust designed to own life insurance policies outside of your taxable estate. When properly structured, the death benefit passes to your beneficiaries free from both income and estate taxes.

Key Benefits

Estate Tax Exclusion: Removes life insurance proceeds from your taxable estate
Asset Protection: Shields death benefits from creditors and lawsuits
Control: Maintains control over how and when beneficiaries receive funds
Tax-Free Growth: Cash value grows without income tax consequences
Liquidity: Provides funds to pay estate taxes without forcing asset sales

Chapter 2: How an ILIT Works

The ILIT operates as an independent legal entity that owns your life insurance policy. Here's the typical structure:

Trust Creation: An attorney drafts the ILIT document naming a trustee and beneficiaries
Policy Acquisition: The trust applies for and purchases a life insurance policy
Premium Funding: You make annual gifts to the trust to pay premiums
Crummey Powers: Beneficiaries receive withdrawal rights (typically 30 days)
Death Benefit: Upon death, proceeds pass to trust beneficiaries tax-free

Important Note

Once established, an ILIT cannot be modified or revoked. This irrevocability is what removes the policy from your estate for tax purposes.

Chapter 3: The Three-Year Lookback Rule

If you transfer an existing life insurance policy to an ILIT and die within three years, the IRS includes the death benefit in your taxable estate. This is known as the three-year lookback rule (IRC §2035).

Strategies to Avoid the Lookback

New Policy Purchase: Have the ILIT purchase a new policy from inception
Wait Three Years: Transfer existing policies and survive the three-year period
Gift Tax Planning: Use annual exclusions to fund new ILIT policies

Best Practice

For maximum estate tax savings, establish the ILIT and have it purchase a new policy rather than transferring existing coverage.

Chapter 4: Crummey Powers Explained

Crummey powers (named after the Crummey v. Commissioner case) allow your premium gifts to qualify for the annual gift tax exclusion ($19,000 per beneficiary in 2025).

How Crummey Powers Work

You make a gift to the ILIT to pay premiums
Trustee sends "Crummey letters" to beneficiaries
Beneficiaries have 30 days to withdraw their share
If not withdrawn, funds remain in trust to pay premiums
Gift qualifies for annual exclusion

Critical Timing

Crummey letters must be sent before December 31st to qualify gifts for that tax year. Plan to send letters by December 1st to allow the full 30-day withdrawal period.

Chapter 5: Selecting Your Trustee

The trustee manages the ILIT and has significant responsibilities. Choose carefully.

Trustee Responsibilities

Apply for and maintain life insurance policies
Pay premiums from trust funds
Send annual Crummey letters to beneficiaries
Maintain trust records and file tax returns
Distribute death benefits according to trust terms

Trustee Options

Adult Child: Family member who understands your wishes
Professional Trustee: Bank or trust company (higher fees but expertise)
Friend or Advisor: Trusted individual with financial knowledge
Co-Trustees: Combination of family and professional

Who Cannot Be Trustee

You (the insured) cannot serve as trustee, as this would cause estate inclusion. Your spouse can serve as trustee with limitations.

Chapter 6: Cost Analysis

Understanding the costs involved in establishing and maintaining an ILIT helps with proper planning.

One-Time Setup Costs

Item	Typical Cost
Attorney fees for ILIT drafting	$2,500 - $5,000
Life insurance underwriting	$0 (included in policy)
Initial trust funding	$100 - $500

Annual Ongoing Costs

Item	Typical Cost
Life insurance premiums	Varies by coverage
Trustee fees (if professional)	$500 - $2,000
Tax return preparation	$300 - $800
Annual legal review	$500 - $1,500

Cost vs. Benefit

For a $10 million estate, an ILIT could save $4 million in estate taxes (40% rate). Setup and annual costs are minimal compared to potential tax savings.

Chapter 7: Implementation Timeline

Proper timing is crucial for year-end ILIT implementation. Follow this timeline:

November 1-15: Planning Phase

Consult with estate planning attorney
Meet with life insurance specialist
Determine coverage amount needed
Select trustee
Begin life insurance underwriting

November 15-30: Documentation Phase

Attorney drafts ILIT document
Review and sign trust agreement
Complete life insurance application
Medical exam (if required)

December 1-15: Funding Phase

Make initial gift to ILIT
Trustee sends Crummey letters
Life insurance policy issued
First premium payment made

December 15-31: Completion Phase

Verify policy ownership by ILIT
Document all transactions
File gift tax return (if needed)
Establish annual review schedule

Chapter 8: Common Mistakes to Avoid

1. Naming Yourself as Trustee

This causes the policy to be included in your estate, defeating the purpose of the ILIT.

2. Failing to Send Crummey Letters

Without proper notice, gifts may not qualify for annual exclusions, triggering gift tax.

3. Missing the Three-Year Lookback

Transferring existing policies without surviving three years includes proceeds in your estate.

4. Inadequate Funding

Not making annual gifts to cover premiums can cause policy lapse.

5. Poor Trustee Selection

Choosing an unreliable trustee can lead to administrative problems and policy lapses.

6. Ignoring State Laws

Some states have additional requirements for ILITs that must be followed.

7. Lack of Coordination

Failing to coordinate ILIT with overall estate plan can create conflicts and inefficiencies.

Professional Guidance Essential

ILITs are complex legal instruments. Always work with qualified estate planning attorneys, tax professionals, and insurance specialists.