Insurance Curator Irrevocable Life Insurance Trusts (ILITs) are a cornerstone planning tool for high-net-worth (HNW) clients who want to transfer wealth efficiently and keep life insurance proceeds out of the taxable estate. This article compares grantor and non‑grantor ILITs, lays out the primary U.S. tax implications, and gives practical best practices for advisors and families in major markets such as New York City, San Francisco, Los Angeles, Dallas, and Miami.
Quick summary: which ILIT type for which objective?
- Grantor ILIT — Grantor pays income tax on trust income (if the trust is treated as a grantor trust for income tax). This preserves ILIT assets (no trustee or beneficiary payments to pay tax) and can be attractive for wealthy clients who want to maximize the trust’s growth net of taxes.
- Non‑Grantor ILIT — Trust is its own taxpayer. Common when the grantor prefers the trust to be fully independent for income tax reasons or to avoid certain grantor trust consequences.
Read more about the nuts and bolts in our ILIT primer: ILITs Explained: A Step-by-Step Guide for High Net Worth Estate Planning.
Legal and tax foundations (U.S. federal)
- Federal estate tax: life insurance proceeds are excluded from the insured’s estate when owned by an ILIT, provided no "incidents of ownership" are retained by the insured under Internal Revenue Code (IRC) sections such as 2033–2035 and 2042. For official federal guidance, see the IRS estate and gift tax overview: https://www.irs.gov/businesses/small-businesses-self-employed/estate-and-gift-taxes.
- Gift tax/annual exclusion: ILIT funding typically uses gift-giving to pay premiums. Annual exclusion rules allow donors to exclude gifts up to the per‑donee annual exclusion (for recent guidance, see the IRS gift tax page: https://www.irs.gov/businesses/small-businesses-self-employed/gift-tax). For 2024 the annual exclusion was $18,000 per donee — confirm current years when preparing client filings.
- Crummey powers: to qualify premium gifts as present‑interest gifts eligible for annual exclusion, ILITs commonly use Crummey withdrawal powers and timely notices. See our deep dive on this technique: Crummey Powers and Annual Exclusion Gifting: Making ILIT Contributions IRS-Proof.
Grantor ILITs — key tax consequences and tradeoffs
Benefits:
- Income taxes paid by the grantor: The trust’s taxable income (if any) is reportable on the grantor’s individual return — an economic benefit to beneficiaries because trust assets grow without being reduced by trust‑level taxes.
- Simpler administration: No Form 1041 trust income tax payments; administrative costs can be lower for tax compliance.
- Wealth accumulation for beneficiaries: Particularly attractive where trust holds permanent policies with cash value growth or distributions intended to be left intact.
Risks / considerations:
- Grantor trust status must be carefully structured: Certain retained powers (ability to revest ownership, swap powers, etc.) can cause income taxation and — if poorly structured — create estate inclusion exposure.
- Potential estate inclusion if “incidents of ownership” retained: Grantor tax treatment does not automatically mean estate exclusion — keep retained ownership incidents off the insured to avoid inclusion under IRC §2042/§2036.
- MEC and policy design: If a policy becomes a Modified Endowment Contract (MEC), distributions may have adverse tax consequences; counsel should coordinate with carriers.
Typical HNW use case: a 60‑year-old with substantial liquid net worth who will pay trust income taxes to preserve the policy cash value for heirs.
Non‑Grantor ILITs — key tax consequences and tradeoffs
Benefits:
- Trust is independent taxpayer: No grantor powers mean the trust is responsible for any taxable income, which can be desirable for clients who do not want the ongoing tax reporting or complications of grantor trust status.
- Cleaner separation for creditor/Medicaid/state law reasons: In some states, non‑grantor structures may better support asset protection/Medicaid planning (state law varies widely).
Risks / considerations:
- Trust-level taxes: If the ILIT realizes taxable income (rare if the trust only holds life insurance), the trust pays steep trust tax rates; however, life insurance death proceeds are generally excluded from gross income under IRC §101(a).
- Potential loss of the “pay income tax” advantage: Paying trust income tax at the trust level reduces the growth available to beneficiaries.
Typical HNW use case: a client who wants formal separation and prefers not to be taxed personally on trust income, or who has state considerations that favor a non‑grantor posture.
Table: Grantor vs Non‑Grantor ILIT — at a glance
| Feature | Grantor ILIT | Non‑Grantor ILIT |
|---|---|---|
| Income tax liability | Grantor pays | Trust pays |
| Estate tax inclusion risk | Low if no incidents of ownership retained — but structure must be correct | Low if properly funded and no retained incidents |
| Annual gift tax/Form 709 required? | Yes for premiums beyond annual exclusion | Yes |
| Best for | Clients willing to pay income tax to preserve trust assets | Clients preferring full separation |
| Administration complexity | Moderate | Moderate-high (trust-level tax compliance) |
Practical pricing and market touches for HNW clients (U.S. markets)
Costs vary widely by age, product, underwriting class, and policy size. Below are realistic illustrative ranges used by advisors when planning with HNW clients in major U.S. metros (San Francisco, Los Angeles, New York City, Dallas, Miami):
- Major permanent life insurers commonly used by HNW planners: MassMutual, Northwestern Mutual, Prudential, John Hancock.
- Example premium ranges (illustrative): a $5M permanent universal life or survivorship policy for a healthy 50–60 year-old might require annual premiums in the $25,000–$300,000 range depending on single-pay vs flexible-pay funding and underwriting.
- Single-premium guaranteed UL or funded survivorship policies often require $250,000 to $2M+ in up-front funding for larger face amounts used in estate planning.
- ILIT setup and administration:
- Trust drafting and planning (NY, CA, TX): for HNW bespoke ILITs expect attorney fees commonly in the $5,000–$25,000 range depending on complexity and coordination with wealth transfer strategies.
- Trustee & administration fees: corporate trustee fees often 0.5%–1.2% of trust assets annually; private trustee arrangements may be negotiated and include minimum annual fees ($5,000–$15,000).
- Premium financing: when used, lenders and carriers add financing interest and fees — structure and compliance reviews are essential (see our note on premium‑financing risks).
Because pricing is highly individualized, advisors in NYC, San Francisco, Los Angeles, Dallas, and Miami should obtain firm quotes from carriers and premium financing lenders during illustration and feasibility reviews.
State considerations: some high-impact examples
- California: no state estate tax, but state income tax is high — consider grantor tax payment effects for CA residents (San Francisco, Los Angeles).
- New York: state estate tax with a lower exclusion than federal — ILITs are commonly used by NYC clients to reduce NY taxable estate exposure.
- Texas / Florida: no state income tax; planning focus often on portability, federal exposure, and creditor protection.
Always coordinate ILIT location, trustee seat, and trust law choices with estate counsel in the insured’s state.
Best practices checklist for HNW advisors
- Use Crummey powers and timely notices; document gift receipt and withdrawal window for each donee. See our Crummey guide: Crummey Powers and Annual Exclusion Gifting: Making ILIT Contributions IRS-Proof.
- Avoid retained incidents of ownership — no ability to borrow, pledge, or direct policy ownership or death benefit access by the insured.
- When premium financing or sales to an ILIT are considered, run thorough estate inclusion (IRC §2036) and economic analyses. Review our financing-focused design guidance: ILIT Design for Premium-Financed Policies: Compliance and Estate Inclusion Risks.
- Document trustee powers, distribution standards, and successor trustee language to minimize state law frictions. See trustee governance considerations: ILIT Governance: Trustee Selection, Distribution Rules, and Policy Management.
- Coordinate carrier illustrations with trust cash‑flow rules; confirm MEC status risk and surrender charge schedules before funding.
- File Form 709 for gifts that exceed annual exclusions; maintain Crummey letters in trust records.
Further reading and authoritative resources
- IRS: Estate and Gift Taxes — https://www.irs.gov/businesses/small-businesses-self-employed/estate-and-gift-taxes
- Tax Policy Center — What is the estate tax? — https://www.taxpolicycenter.org/briefing-book/what-estate-tax
For practical ILIT operational guidance and common implementation pitfalls, see:
- ILITs Explained: A Step-by-Step Guide for High Net Worth Estate Planning
- Crummey Powers and Annual Exclusion Gifting: Making ILIT Contributions IRS-Proof
- ILIT Design for Premium-Financed Policies: Compliance and Estate Inclusion Risks
When advising HNW clients in specific U.S. markets (New York City, San Francisco, Los Angeles, Dallas, Miami), coordinate carrier quotes, state-law counsel, and tax modeling. Properly structured ILITs (grantor or non‑grantor) remain a powerful mechanism to deliver liquidity to heirs while preserving estate-tax efficiency — but only when tax, trust, and insurance design are tightly aligned.