How Life Insurance Complicates Estate Planning, And How To Deal With The Complications
Posted on: 26 March 2016
Buying life insurance is one of the best ways of guaranteeing financial security for your family. However, it needs careful planning for it not to complicate your estate planning initiatives. If you aren't careful, then your life insurance may complicate your estate planning in these two major ways:
Increased Tax Liability
Upon your death, you want every asset, including the death proceeds from your life insurance, to go to your beneficiaries. However, the government also wants its dues, which means it must tax your estate including the payouts from your life insurance. The amount of payout is likely to be big considering that most people buy life insurance to cover their debts, replace their income, and meet any other future financial liability. Even for an average person, this can run into hundreds of thousands of dollars, which translates to a huge tax burden for your beneficiaries.
Negative Effects of Financial Windfall
Life insurance benefits are usually paid out soon after death. According to some statistics, most insurance companies release the money between 30 and 60 days after receiving the claim. This may not be good for somebody who isn't used to controlling large amounts of money. Imagine your son, who only depends on his monthly salary, suddenly getting his hands on something like $800,000.
This may not be a problem for some people, but others may find the sudden windfall overwhelming. Without careful management, your beneficiaries may soon run out of money, and your life insurance may not benefit them as you intended.
This doesn't mean that life insurance is always a burden to estate planning. With a good strategy, you can avoid the above challenges and have your beneficiaries benefit from both your estate and your life insurance payouts. An effective way of doing this is to create an Irrevocable Life Insurance Trust (ILIT).
How ILIT Helps
An ILIT is a trust fund you create specifically for owning and managing your life insurance policy. It is called irrevocable because you cannot modify or cancel the arrangement once you have created it. This means once you transfer your life insurance money to the trust, you cannot remove it under any condition, and it will not go to your estate too. This means it will not create any tax burden for your estate's beneficiaries.
Not only that, but you can also structure how and when your beneficiaries will receive the money. This way you avoid having your beneficiaries struggle with the sudden receipt of a large amount of money. To learn more about life insurance and how to structure it in the way that's best for your estate, contact an attorney like Jolein A. Harro, P.C.
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