Life Insurance: Policy Ownership Considerations
November 26th, 2010
While it is common to think of life insurance planning in terms of type and amount of coverage, a more complete analysis also includes policy ownership. In many cases, the proceeds of a life insurance policy may be unnecessarily included in your estate—unless you plan ahead.
Without insurance, many estates fall below the level at which they will be subject to Federal estate taxes. Under current law, the estate tax is repealed for 2010. However, according to the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), the Federal estate tax will be reinstated in 2011, with an applicable exclusion amount of $1 million, unless Congress passes legislation this year. Estates that exceed this amount will be subject to Federal estate taxes. The proceeds of life insurance can increase the value of your estate to a level where the Internal Revenue Service (IRS) will make substantial claims. In 2011, the Federal estate tax may reach as high as 55%.
Fortunately, you can prepare for the possibility of Federal estate taxes. There are two ways to keep insurance proceeds out of your estate:
- Give your insurance policies to someone else, generally your beneficiary(ies).
- Transfer the policies to a trust.
Either option, if done properly and in a timely manner, will decrease your Federal estate tax. You may not need to worry about changing ownership of a policy that names your U.S. citizen spouse as the sole beneficiary. The unlimited marital deduction allows your spouse to inherit the policy proceeds without estate taxation. However, you may benefit from transferring your policy out of your estate if the purpose of the insurance is to help pay estate taxes or provide for heirs other than your spouse. Keep in mind that if the transfer is done within three years of your death, the policy proceeds are generally still considered part of your estate, regardless of ownership. Thus, proper planning is necessary to help ensure that you achieve your desired results.
The paperwork involved in changing insurance policy ownership is relatively simple. However, you do have to sign away all rights to your policies, which means the gift must be absolute and irrevocable. You cannot change your beneficiaries, and in the case of policies with cash value, you no longer have the right to borrow against them or surrender them for their worth in cash. Ownership of individual and, in most cases, group insurance can generally be transferred to anyone who is old enough to handle money. Depending on your particular circumstances, it may be advisable to give a policy directly to a beneficiary or, in the case of a minor, to a Before signing away insurance, it is important to carefully review the consequences. For specific guidance, consult your qualified tax and legal professionals. Gifting insurance may have trust that is designed for the benefit of a child. gift tax consequences if the transfer is to anyone other than your U.S. citizen spouse. In 2010, the annual gift tax exclusion is $13,000 per gift by any single donee and $26,000 for gifts made jointly by husband and wife.
For those in higher tax brackets, one useful technique to shelter large policies from estate taxes—and to protect the interests of minor beneficiaries—may be to transfer ownership to an irrevocable life insurance trust (ILIT). When you die, the trustee named by you will distribute income to your beneficiaries or use the proceeds to pay estate taxes. Again, be sure to consult with your tax and legal professionals for specific guidance. The decisions you make regarding policy ownership are no less important than the decisions you make regarding what type of policy and how much insurance you need to fulfill your objectives. When planning your insurance program, take care to cover all the bases.
For guidance, turn to the team at Marlborough Savings Bank. Our branch managers and financial planning area are here to help.
