You have life insurance, but that might not be enough.
What happens when you need to protect yourself from the tax man?
Creditors? Prying eyes?
You need something a tab bit more secure. What about an irrevocable life insurance trust?
Irrevocable Life Insurance Trusts: Advantages and Disadvantages
Life insurance trusts have many features and benefits, but they also have several important drawbacks.
Ultimately, you have to weight the pros and cons to get a clearer picture of what would be best for you.
Pros vs. Cons
Whenever you’re buying any financial product or an insurance policy, you need to decide if the cost is worth the benefits.
Most times, these aren’t small investments, they are going to be long-term and a significant amount of money. It’s not something you should into blindly.
Pro: You lower your estate tax liability.
Life insurance death benefits are counted toward your estate tax calculation. Right now, the federal estate tax exemption is rather large, but that might change in the future.
Even so, it’s easy to buy enough life insurance to kick you into estate tax territory. An irrevocable life insurance trust can dramatically change your estate tax liability by removing the death benefit from the estate tax calculation.
Con: It’s expensive.
When you first hear about a life insurance trust, it almost sounds like a no-brainer.
But, like anything, there’s a cost – and here’s where you really need to sit down and think about whether or not it’s really worth it.
Setting up a life insurance trust can cost several thousand dollars. If you don’t really have an estate tax problem, or you don’t foresee yourself having a sizable estate, then it may not be worth the legal fees to set one up.
Likewise, if the amount you spend in legal fees and trustees is more than what you would pay in executor fees and estate taxes, it may not be worth it to go through the hassle to set up a trust.
Pro: More Control Over Distribution.
If you have children and you want them to be the beneficiary of the plan, you can set up an irrevocable trust to have some control of when they receive the money.
This is especially beneficial if they are young children.
Let’s say something awful were to happen to you, if you have an irrevocable trust, you can determine when the money is given to your kids. You can put an age limit on the trust, or you can set up payments instead of the money being delivered in one lump sum.
If you’re planning of the future of your kids, a trust allows you to make those plans in case the worst were to happen.
Pro: You’re protected from creditors.
While life insurance is protected from creditors in many states, the rules and regulations vary wildly from state to state.
In some states, you have no protection at all. In other states, protections are limited significantly.
For example, some states only protect several thousand dollars worth of death benefit in a life insurance contract.
With a life insurance trust, this is a moot point. You’re wholly protected because you don’t own the life insurance policy – your creditors cannot come after anything you do not own.
The insurance trust owns the policy. If you draft the trust with spendthrift provisions, you further protect your beneficiaries from creditors making claims against them for debts.
Additionally, you limit or prevent beneficiaries from assigning part or all of their inheritance to a creditor for the satisfaction of your debts.
Con: It’s inflexible.
There’s a reason why it’s called “irrevocable.” Once the trust is established, you don’t have control over the life insurance policy or, if it’s a permanent policy, its cash value.
While you can change the trustees (the person or people who manage the trust), you cannot reassign the policy to another trust or entity. For all intents and purposes, you are no longer the owner of the policy.
Pro: You get to maintain your privacy.
While life insurance policies are private contracts, some people leave their policy proceeds to the estate or make mention of the policy in their will. If this happens, then it’s a matter of public record.
If you don’t want creditors, or anyone else, to go poking around in your financial affairs after you’re deceased, use a life insurance trust to protect yourself.
Once the policy has been transferred, it’s safe from prying eyes.
Con: It’s complicated.
It’s not easy to set up a life insurance trust. Many clients believe that they can do this themselves.
Not true. You need the services of a skilled attorney and a life insurance agent to pull this off.
This isn’t to say you should stay away from any complicated or complex financial products, but we think it’s vital you understand how your money is being used and managed.
If you don’t understand what you’re money is doing, you could end up with some serious problems.
Alternatives to Irrevocable Trusts
As you can probably see, there are more negatives than there are positives. This is why these trusts don’t work well for most applicants.
Chances are, you’re one of them. Luckily, we can offer plenty of suggestions.
Now, having a term insurance plan doesn’t mean you can’t have an irrevocable trusts. These two things can be used in tandem.
Policyholders can use a term plan to fund an irrevocable trust, but it’s normally not our go-to route.
If you want more flexibility and a cheaper option, we highly recommend buying a term policy.
While an irrevocable trust tends to be on the expensive side, term plans are cheap coverage. A standard term plan is going to be significantly less expensive than setting up a trust.
You will also have more flexibility with a term plan. If you hold the plan for 5 years and then decide you need to change the beneficiary, that’s completely okay.
Not only can you change the beneficiary, but it’s easy to do so.
Need Advice, or Have Questions?
All of this can seem like complete nonsense to someone who doesn’t understand the jargon and nuts and bolts of insurance or finances.
We are here to translate all this gibberish for you. You shouldn’t have to earn a finance degree to manage your income and protect your family with insurance.
If you’re still left with questions or you don’t understand what any of this means, we would love to help you.
At BestLifeQuote, we don’t want to get your life insurance as quickly as possible. We want to spend the time to understand your life insurance needs.
Call us today for a quote at 1-800-712-8519.
