Key takeaways

  • Placing life insurance in a trust transfers ownership of the policy to a legal entity, allowing a designated trustee to manage and distribute the death benefit according to your exact instructions, and prevents life insurance proceeds from going through lengthy probate court processes.

  • Irrevocable life insurance trusts (ILITs) permanently transfer the policy out of your estate, helping protect assets from creditors and shielding proceeds from federal estate tax liabilities.

  • Revocable life insurance trusts offer full flexibility to alter terms or beneficiaries as your needs change, making them useful for managing payouts to minor children or dependents without tax shelter benefits.

  • Using permanent whole or universal life policies to fund a trust can help ensure a reliable, lifelong benefit, whereas term policies risk expiring and leaving the trust unfunded.

Trusts can serve as a critical component in estate planning, helping you to protect both your assets and those of the people most important to you. Used in combination with wills and guardianship documents, they can be essential elements in your estate plan. Trusts come in a number of structures, but they frequently include life insurance. Estate planning can be a complex topic, and you'll need the help of an experienced legal professional to set up a trust. This article is not comprehensive in scope and doesn't provide advice on what you should do in your situation. Instead, it's meant to be a simplified introduction to the subject that helps explain two things:

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  1. The purpose of a life insurance trust.

  2. The two basic kinds of trusts and how they work.

What is a life insurance trust, and how is it used?

A trust is a legal vehicle that allows a third party (called a trustee) to hold and manage assets in a way that serves the interests of one or more beneficiaries. A life insurance trust is a specialized legal arrangement created when an individual transfers the ownership of their term or whole life insurance policy to a trust. The trust owns the insurance policy, and the trustee manages its benefits. When the insured person dies, the policy’s death benefit is paid to the trust and distributed under the trust terms, giving control over how and when beneficiaries receive funds. A unique feature of trusts that many find appealing is that they help control asset distribution to beneficiaries in the manner and time the grantor (the person who sets up the trust) chooses. So, for example, the trust can dictate the release of funds to different beneficiaries as certain milestones are reached, for example, as each grandchild turns 18, goes to college, gets married, and so on. Life insurance proceeds held this way are generally not subject to income taxes.

Although life insurance trusts can technically be created with term or permanent life policies, permanent life insurance policies, such as whole life with a guaranteed death benefit from a reputable life insurance company, are commonly used. Forming trusts with term insurance policies can be problematic if the term ends before the insured person dies. The trust could be left unfunded, with nothing to distribute to beneficiaries — leaving them financially vulnerable. Using a permanent universal life policy can also be problematic because the death benefit amount typically isn't guaranteed. Under certain circumstances, it can fluctuate, leaving the trust underfunded.

Trusts — whether funded with life insurance or not — are often viewed as financial tools used by the wealthy for estate tax purposes. However, they can be valuable even if you aren't rich, especially if you have young children or children with special needs and want to control access to your assets if you die unexpectedly. In estate planning, a life insurance trust may also be used to keep proceeds outside the taxable estate. Working with an experienced financial advisor or estate planning attorney can help in understanding policy options and ensuring the trust is set up correctly.

The two basic types of life insurance trusts and how they can be used

Generally speaking, trusts that are created for estate planning purposes are either irrevocable or revocable. In either case, the trust owns the assets that it holds, the trustee manages those assets while the insured is alive, then oversees the distribution of trust assets (such as the death benefit) to trust beneficiaries following the insured’s death. While both types of trusts share similar ownership and general management conditions, they have distinct characteristics — the most significant being the degree of control and flexibility allowed.

Irrevocable trusts

As its name implies, once an irrevocable trust is established, it can't be modified or canceled. So, for example, as the grantor, you will no longer have access to a whole life policy's cash value, which might otherwise be used to help fund retirement or other expenses.1 While irrevocable trusts limit control over your assets, that can actually be beneficial for those with substantial wealth because a life insurance trust may minimize estate taxes and mitigate associated tax liabilities. That's why very high-net-worth individuals commonly pursue irrevocable life insurance trusts for estate planning, including for potential tax benefits. According to Investopedia, this legal entity can be used to help preserve family wealth by providing seven specific kinds of financial and legal advantages:

  1. Mitigating estate taxes: The trust owns the insurance policy, so life insurance proceeds in a properly structured irrevocable trust are generally not subject to estate taxes, which can help reduce the estate tax burden for beneficiaries.

  2. Eliminating gift taxes: It allows the trust transfer to be treated as a present gift that may not be taxed, as opposed to a future gift that is.

  3. Preserving government benefits: It helps preserve eligibility for any beneficiaries that may receive asset-dependent benefits from the state or federal government.

  4. Protecting assets: It can limit the amount of funds that creditors may pursue.2

  5. Controlling distributions: As noted, the trust controls when and how beneficiaries are paid.

  6. Planning for generational legacies: A trust can provide for future generations that haven't yet been born and help them inherit tax-efficient wealth.

  7. Shielding from tax penalties: The policy’s cash value and death benefits may not be taxed.

In some cases, an ILIT may also be an effective estate planning tool for people with young children, because life insurance benefits typically cannot be paid directly to minors. With an ILIT, if you die, the trust manages and controls funds from the death benefit until your children reach adulthood. However, if you don't have a need to take assets out of your estate, a revocable trust may be a better choice because it gives you more control over your assets.

Revocable trusts

These legal entities give you greater control over your assets. You can change, amend, or even terminate a revocable trust at any time, which gives you flexibility regarding the division of your assets since you can change things as your situation evolves. Revocable trusts are typically used to control the flow of assets to minor children, young adults, or children with special needs. For example, if you have reservations about leaving a large sum of money to an 18-year-old child, a trust can help calm your fears by paying out the inheritance in installments over an extended period of time. This may help ensure that they won't spend their entire inheritance all at once. Though life insurance isn't essential for trust formation, it can be useful to fund these trusts because the benefits are paid almost immediately. This prevents the delays and uncertainty associated with estate administration because trusts are not probated and allows the liquidation of other estate assets (such as a house or stocks) to occur when the timing is more favorable. A revocable life insurance trust (RLT) can be particularly beneficial for those seeking more control over their life insurance policies, as it allows the grantor to change the trust at any time, providing more control over the life insurance policies within their estate planning strategy.

This type of trust may also be a good strategy to consider if you have a special needs child who will require care long after you're gone. A revocable special needs trust holds funds for your child and defines when and how that should be spent. Life insurance proceeds aren't taxed as they go into the trust, and the trustee manages those funds (along with any other assets in the trust) and pays money out according to your (the grantor's) wishes. Because the trust actually owns those assets, it can help preserve your child's eligibility for essential government benefits, including programs like Medicaid, which can be restrictive and means-tested.

Funding a life insurance trust

Funding a life insurance trust involves a few critical steps, starting with transferring the ownership of a life insurance policy to the trust. This can be achieved by either purchasing a new life insurance policy and naming the trust as the owner and beneficiary or by transferring an existing policy to the trust. Transferring assets this way can have estate-tax consequences, including the three-year rule for ILITs. The trust can also be funded with various assets, including cash, stocks, bonds, and other investments.

When considering which type of life insurance policy to use, permanent policies are generally preferred for trusts. These policies provide a guaranteed death benefit and can accumulate cash value over time, making them a reliable choice for funding a trust.3,4 On the other hand, term life insurance policies may not be as suitable because they expire after a certain period, potentially leaving the trust unfunded if the term ends before the insured person passes away.

Tax implications of life insurance trusts

Life insurance trusts can have significant tax implications, both during the grantor’s lifetime and after their death. During the grantor’s lifetime, the trust may be subject to income tax on the earnings of the life insurance policy. Additionally, if the grantor transfers assets to the trust, those transfers may be subject to gift tax.

After the grantor’s death, the death benefit of the life insurance policy may be subject to estate tax. Federal estate taxes generally become a concern when an estate exceeds the exclusion amount, which is $15 million per individual in 2026.5 However, if the trust is properly structured, the death benefit can be excluded from the grantor’s estate for estate tax purposes, and an ILIT can also provide liquidity through life insurance proceeds to help pay estate taxes, legal fees, and other expenses. This exclusion can help mitigate estate tax liabilities, ensuring that the trust assets pass to the beneficiaries with reduced tax burdens.

Given the complexity of tax laws and regulations surrounding life insurance trusts, it’s essential to work with an estate planning attorney or tax professional to set up and structure the trust properly. They can help you understand the tax implications and ensure that the trust is structured in a way that helps mitigate tax liabilities. An experienced attorney can navigate the intricate tax landscape, ensuring compliance with all applicable laws and helping you achieve your estate planning goals.

FAQ

Frequently asked questions about life insurance trusts

Most people do not need to place their life insurance in a trust. This is because life insurance trusts can be expensive to form and can create significant tax and legal ramifications. They can also add unnecessary complexities to estates. However, if you have substantial wealth you want to protect, a life insurance trust could be a valuable tool for estate planning. It can also be useful if you want to leave money to underage children or children with special needs. An experienced financial advisor or knowledgeable attorney can help you determine if you should pursue this option.

It can provide a number of benefits. If you have substantial wealth, it may help shield your beneficiaries from having to pay estate taxes on life insurance proceeds, helping to preserve family wealth across generations. It can also help ensure that your loved ones are taken care of when and how you want after you pass away, especially if they cannot manage assets on their own. Finally, when life insurance and other assets are placed in a trust, they bypass the often lengthy and burdensome probate process that ordinary wills are subjected to.

Generally speaking, once established, irrevocable trusts cannot be changed. So, for example, if you think you may need to access the cash value of your life insurance policy at some point in the future, then putting it in an irrevocable life insurance trust may not be your most suitable option. A revocable trust can be changed, but there may be significant legal fees for doing so. That’s why trusts are most often used by those with significant wealth and specific estate planning objectives, as opposed to others whose financial needs may change.

This article is for informational purposes only. Guardian may not offer all products discussed. Please consult with a financial advisor to understand what life insurance products are available for sale.

“Financial advisor”/ “advisor” is used generally to describe insurance/annuity and investment sales and advisory professionals who may hold varied licensing as insurance agents, registered representatives of broker-dealers, and investment advisory representatives (IAR) of registered investment advisors, respectively. Only those representatives who use advisor in their title or otherwise disclose their status and meet the necessary licensing or registration requirements provide investment advisory services.

1 Some whole life policies do not have cash values in the first two years of the policy and don't pay a dividend until the policy's third year. Talk to your financial advisor and refer to your individual whole life policy illustration for more information. 

Policy benefits are reduced by any outstanding loan or loan interest and/or withdrawals. Dividends, if any, are affected by policy loans and loan interest. Withdrawals above the cost basis may result in taxable ordinary income. If the policy lapses, or is surrendered, any outstanding loans considered gain in the policy may be subject to ordinary income taxes. If the policy is a Modified Endowment Contract (MEC), loans are treated like withdrawals, but as gain first, subject to ordinary income taxes. If the policy owner is under 59½, any taxable withdrawal may also be subject to a 10% federal tax penalty.

2 State creditor protection for life insurance policies varies by state. Contact your state’s insurance department or consult your legal advisor regarding your individual situation.

3 All whole life insurance policy guarantees are subject to the timely payment of all required premiums and the claims-paying ability of the issuing insurance company. Policy loans and withdrawals affect the guarantees by reducing the policy’s death benefit and cash values.

4 Some whole life policies do not have cash values in the first two years of the policy and don't pay a dividend until the policy's third year. Talk to your financial representative and refer to your individual whole life policy illustration for more information.

5 What's new — Estate and gift tax, Internal Revenue Service, July 23, 2026