Throw Back Thursday – A Simple Idea, No Crummey Letters

An Irrevocable Life Insurance Trust (ILIT) provides an estate with funds to help pay estate tax obligations. In most cases, spouses create an ILIT, designate a trustee and name their children as beneficiaries. The advantage of using life insurance to fund the trust is that if properly structured the death benefit can avoid estate taxes and income taxes.

A “Crummey”  ILIT takes its name from a famous tax case involving Reverend Crummey. See Crummey v. Commissioner.  The case set the ground work to make it possible to gift premiums to the trust without having to pay gift taxes. To pay the annual premiums on the policy, you can put in up to $14,000 per person for your family members.  Since you are essentially buying a policy that benefits your family, those premium payments would normally be considered gifts to your beneficiaries.  However, done properly, you pay no gift tax on those payments, and when you die the trust will receive the policy proceeds free of estate tax.

The big catch is administrative.  Technically, the trustee of the trust should send out “Crummey letters” each year informing beneficiaries they can withdraw the gifted amount during a specified window, perhaps 30 days.  Usually, the beneficiary leaves the money in the trust.  But the IRS considers it a tax-free gift only if the person has the right to take it in the short-term.  An annual Crummey letter proves it even if none of the kids follows up on it—as you generally hope they won’t.

The Crummey power idea—giving the beneficiary the right to withdraw money which you hope they will never exercise—can be added to various other trusts too.  However, the place most people fail is in bothering to send out the annual letters, and documenting that they did.  One recent Tax Court case, Estate of Turner v. Commissioner, didn’t spoil the deal over the failure to send letters, but you can’t count on the IRS agreeing with that result.  Get reliable professional help with such trusts, and make sure the duty to send out the annual letters is very clear so it doesn’t fall between the cracks.

So, with the complications of Crummey Letters, wouldn’t it be nice to find a simple way to implement an ILIT without the hassle of Crummey Letters? An ILIT using the Lifetime Gift Exemption may be the answer. Commonly referred to as the Simple ILIT this concept should be explored if any consideration regarding the annual gift exclusion could be an issue (like the kids won’t cooperate or there are not enough kids to fund the ILIT ) – a Simple ILIT with no Crummey Letters may make more sense.

A Simple ILIT uses the Lifetime Gift Exemption rather than the Annual Gift Exclusion.  With the current Lifetime Gift Tax Exemption at $5,250,000 – it makes sense in most cases to use the lifetime exemption to fund the ILIT rather than the annual Crummey Gifts. In the Simple ILIT as gifts are made to the trust – either one lump sum or on-going gifts – the person making the gift uses his lifetime exemption rather than the annual gift exclusion. This keeps it simple and offers some other advantages:

  • Children do not have to know and additional beneficiaries do not have to be sought
  • Because children’s spouses are not needed as beneficiaries, divorce complications are eliminated
  • Since children are not offered a present gift, the concept does not have to be re-sold every year that the gift is made
  • Since annual premiums are not required to take advantage of the annual gifting amounts, larger premiums can be put into the policy

Keep in mind, with this strategy an annual gift tax return (IRS Form 709) must be filed to inform the IRS that part of the lifetime exclusion is being used so gift tax is not triggered. Also, by using this strategy you also use up some of the unified credit exclusion for estate tax purposes so a full analysis must be done. But for many estates that need this type of planning this idea works very well and keeps it SIMPLE.

About Jeffrey Berson

40 years in and around the industry has made Insurance a part of my DNA. I have had the pleasure of working with and for some of the greatest minds in our industry. My "Bersonal" View is an attempt to capture some of the best ideas, the best concepts and the best practices in a way that can lead to success for others. It will certainly be my point of view, so please...don't take it "Bersonal".
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