After you die, any assets you owned in your individual name at the time of your death will be listed on your federal tax return. If the value of your estate exceeds the inheritance tax limit for that year, inheritance tax is due. In 2011, the threshold for estate taxes will be $1 million and the estate tax will be a whopping 55 (fifty-five) percent. Wealth tax must be paid in cash within nine (9) months of death. For every dollar you exceed the first million, your estate will be taxed at 55 cents. A million dollars may sound like a large amount of money, but it’s actually quite small when you consider that it includes life insurance proceeds, the value of your home, stocks, bank accounts, retirement accounts, jewelry, paintings, and everything else you own. the moment you died you might have had a title to your name.
One way to make cash available to pay for these taxes and other expenses is through life insurance proceeds. The proceeds can be paid to the federal government instead of your heirs having to liquidate assets to pay the estate tax assessment. Life insurance policies provide an income tax-free death benefit, but the value of the benefit is added to the total assets in the estate if they are not structured properly. This creates an endless cycle of taxes and insurance. The way to avoid this outcome, limit or eliminate your estate taxes, and provide tax-free money to your beneficiaries is to hold the life insurance policies in an Irrevocable Life Insurance Trust, or ILIT.
An ILIT combines the protection of a trust with the liquidity of life insurance benefits. By taking advantage of the $13,000 per year gift tax exclusion, you can donate assets to the ILIT annually to cover insurance premiums with no tax implications. Upon your death, the proceeds will go to your heirs free of all income tax and inheritance tax. This provides the necessary liquidity that your heirs need to pay for your funeral expenses, inheritance taxes, fees and settlement costs.
Upon your death, the ILIT trustee will make appropriate distributions of cash proceeds to cover debt, taxes, and funeral expenses. The trustee can even buy some or all of your business with the cash proceeds and run the business professionally until your kids are old enough to take over. The trustee can also make appropriate loans to the spouse, children and the company.
An ILIT offers flexibility and tax benefits. For more information about ILITs and to determine if they are the right vehicle for you, contact your estate planning attorney in South Florida.