To Our Clients:
This letter addresses an issue with respect to the funding of an irrevocable life insurance trust (“ILIT”) to pay insurance premiums, as well as gifts to other irrevocable trusts in 2010. As we advised you earlier this year, under current law, the federal estate and generation-skipping transfer (“GST”) taxes are not applicable in 2010.
Often, an ILIT will be set up so that the beneficiaries have withdrawal rights, in order for the transfers to the trust to come within the gift tax annual exclusion. However, even though there is no taxable gift, the transfer often requires the use of the donor’s exemption from GST taxes (the “GST Exemption”), if the ILIT is to continue beyond more than one generation and not be subject to GST taxes. For that reason, a donor to an ILIT will often file annual gift tax returns to allocate GST Exemption to the ILIT. If a donor intends to allocate GST Exemption to gifts to an ILIT then the following discussion is important.
Because the GST tax law is not applicable in 2010, a donor does not have any GST Exemption to allocate in 2010. Therefore, a donor cannot timely allocate his or her available GST Exemption to an ILIT, for a transfer made to the ILIT in 2010. The result is that any gifts made to an ILIT in 2010 will cause the ILIT to be partially subject to GST tax in the future. Since insurance premiums are usually paid annually, there are a few alternatives to allow the ILIT to have the funds needed to pay the premiums without subjecting the ILIT to GST tax:
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To the extent the insurance policy owned by the ILIT has cash surrender value that can be borrowed against, borrow the amount needed for the current year’s premium from the policy.
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Instead of the donor making a gift to the ILIT for the annual premium, the donor could lend the funds to the ILIT. The loan could be repaid next year either by a gift to the ILIT when the GST Exemption is available or ultimately from the death benefits from the policy.
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If the GST Tax is not reinstated in 2010, the donor could make a gift to the ILIT and plan to make a late allocation of GST Exemption as of January 1, 2011, when the GST tax is again applicable. However, this strategy will not be effective if the donor dies during 2010, or if the donor does not have sufficient GST Exemption to allocate to the ILIT at that time, if the assets in the ILIT appreciate substantially during this year.
The concerns outlined in this letter would likewise be applicable for 2010 transfers to an irrevocable trust, other than an ILIT, to the extent the donor intended to allocate GST Exemption to the transfers.
We urge you to contact us before making any gifts to an ILIT or other irrevocable trust in 2010.
GUNSTER PRIVATE WEALTH SERVICES
