All About ILITs: Your Complete Guide to Life Insurance Trusts

What is an ILIT? (Irrevocable Life Insurance Trust Explained)

An ILIT is a specialized type of irrevocable trust designed specifically to hold and manage life insurance policies. Think of it as a protective container that keeps your life insurance proceeds from being taxed as part of your estate. Once you create an ILIT and transfer your life insurance policy into it, the trust becomes the owner—not you. This strategic move can lead to significant tax savings for your heirs.

Why ILITs Are More Important Than Ever: The 2026 Estate Tax Change

Currently, both Connecticut and federal estate tax exemptions stand at $13.6 million per person. However, here's the crucial detail many people don't realize: this generous exemption is set to sunset on December 31, 2025. Without new legislation, the federal exemption will drop to approximately $7 million (adjusted for inflation) in 2026.

This dramatic change means many more families will suddenly face estate tax exposure. An ILIT could be your solution to this looming tax challenge, especially if your life insurance benefit pushes your estate into taxable territory.

How an ILIT Can Save Your Family Money on Estate Taxes

Here's why an ILIT matters: without one, your life insurance death benefit counts toward your taxable estate. How does it work? An ILIT is created to hold your life insurance policy. When your life insurance policy is owned by an ILIT instead of you personally, the death benefit stays outside your taxable estate. For example, a $2 million life insurance policy held in an ILIT could save your heirs hundreds of thousands in estate taxes, especially after the 2026 changes take effect.

Setting up an effective ILIT requires careful planning and ongoing management. Here are the crucial elements:

• The trust is irrevocable—once created, you cannot change your mind or reclaim control of the policy. You'll need a trustworthy person as trustee to manage the trust's responsibilities.

• Proper funding is essential for premium payments. This typically involves making annual gifts to the trust to cover the premiums, requiring careful attention to gift tax rules and "Crummey notices" to beneficiaries.

Do You Need an ILIT? Take This Quick Assessment

You might consider setting up an ILIT if you answer "yes" to any of these questions:

1. Does your estate (including life insurance) approach or exceed the current $13.6 million estate tax exemption?

2. Will your estate (including life insurance) exceed $7 million when the exemption drops in 2026?

3. Do you want to provide tax-free liquid funds to your heirs?

4. Are you looking to create a structured distribution system for your insurance proceeds?

5. Do you need to protect your life insurance payout from creditors?

Take Action Today to Protect Your Life Insurance Benefits

If you're considering an ILIT, professional guidance is crucial. The rules are complex, and proper setup determines your tax benefits. The upcoming changes to estate tax laws make it even more important to plan ahead. Of course, not everyone needs an ILIT. If your estate is well-below the federal and Connecticut estate tax limit, you probably don’t need one; instead, you should designate your spouse or living trust as beneficiary. Whatever you do, do not leave your policy to your estate! This subjects the policy to creditor claims and requires it to pass through probate - both of which would be avoided if you used an ILIT or designated your spouse/living trust as beneficiary.

Remember, estate planning isn't one-size-fits-all. Your neighbor's solution might not be right for your family. Your ILIT decision should be part of a comprehensive estate plan that considers your unique financial situation, family dynamics, and long-term goals—especially in light of the 2026 changes. Set up a consult in my Wilton office or we can chat over Zoom to determine if an ILIT makes sense as part of your overall estate plan.