The irrevocable life insurance trust (ILIT) has long been a staple of estate planning. This tool is
designed to hold life insurance policies and remove the death benefit proceeds from an
individual’s taxable estate (meaning that the value is not subject to estate tax) while also
providing liquidity to cover estate taxes, the deceased person’s debts, or other expenses that
arise at death.
However, due to the dramatic rise in the federal lifetime gift and estate tax exemption over the
past few decades, ILITs are losing some of their luster. What was once perceived as a go-to
wealth preservation strategy may now feel like an encumbrance laden with administrative
complexities that outweigh its original tax-saving purpose, leading many to wonder whether an
irrevocable trust can be undone and, if so, how.
Several strategies can be used to undo or “unwind” an ILIT, and doing so may be appealing
given the current high exemption amount. However, before making any changes, it is important
to consult an estate planning attorney to assess whether—and when—such a move fits your
long-term goals.
How ILITs Work
An ILIT is an estate planning tool that allows individuals to pass life insurance proceeds on to
their loved ones without those proceeds being included in their taxable estate and thus subject
to estate taxation. Creating and maintaining an ILIT involves the following steps:
● The grantor (the person who creates the trust) establishes the ILIT, selects a trustee to
manage it, and funds the trust either by transferring an existing life insurance policy to it or
by making cash gifts to the ILIT for the purchase of a new policy.
○ When the grantor transfers an existing policy to the ILIT, the Internal Revenue Service
(IRS) three-year rule applies: If the grantor dies within three years of the transfer, the
policy proceeds are pulled back into the grantor’s taxable estate, negating the estate tax
benefit.
● Each year, the grantor transfers funds to the trust to pay the life insurance policy’s annual
premiums. To prevent these transfers from counting against the grantor’s lifetime gift and
estate tax exemption or triggering the gift tax, the grantor may use the annual gift tax
exclusion ($19,000 per beneficiary in 2025). For the transfers to qualify for the exclusion, the
trustee must send Crummey notices to the beneficiaries annually. These notices inform the
beneficiaries of their temporary right to withdraw the gifted amount. Though this right is
typically not exercised, providing the notice is required for the gift to be treated as a present
interest under IRS rules.
● Upon the grantor’s death, the life insurance death benefit is paid to the ILIT, and the trustee
then manages the funds for the ILIT’s beneficiaries (usually the grantor’s spouse or children)
according to the trust’s terms.
● Because the trust, not the grantor, owns the policy, the death benefit is excluded from the
grantor’s estate and therefore avoids federal estate tax, assuming that the three-year rule

does not apply to life insurance policies purchased before the ILIT was created. The
proceeds also bypass probate.
In short, when you (the grantor) transfer a life insurance policy to an ILIT, the trust (not you)
owns the policy. This keeps the life insurance proceeds out of your taxable estate and allows
them to pass without estate tax or probate delays to your chosen beneficiaries, such as your
spouse, children, or other loved ones, according to the rules you establish in the trust.
This approach was especially valuable when estate tax exemptions were lower and more
estates faced significant tax liability. However, with current exemption amounts at historic highs,
the need for an ILIT has become far less common.
ILITs and Rising Exemptions
The gift and estate tax exemption is the total amount you can transfer—either by gifting assets
(money and property) to others during your lifetime or leaving assets to them after your
death—without triggering federal gift or estate taxes. These two types of transfers (those made
during life and those made at death) share the same exemption, known as the unified
exemption.
As of 2025, this exemption is $13.99 million per person (or $27.98 million per couple). That
means you can give or leave behind at your death up to those amounts without facing any
federal transfer tax. For example, if you give your children $3 million while you are alive, you
would still have $10.99 million of exemption remaining at your death. However, anything you
transfer beyond the exemption could be taxed at a rate of up to 40 percent.
The current high exemption amount is one reason an ILIT might now be unnecessary for many
estate plans, since all but the largest estates now fall below the taxable threshold. However, this
has not always been the case; past rules were far less generous.
● In 1997, the exemption was just $600,000. Estates above that amount faced taxes of up to
55 percent.
● By 2006, the exemption had risen to $2 million, and by 2009 it had increased to $3.5 million.
● Congress set the exemption at $5 million in 2011 and began adjusting it annually for
inflation.
● Under the Tax Cuts and Jobs Act (TCJA) of 2017, the exemption was temporarily doubled
from $5 million to $10 million and continued to grow each year with inflation adjustments.
● Today, the exemption sits at an all-time high of $13.99 million per person. Estates
exceeding the exemption are currently taxed at a top federal rate of 40 percent.
The sharp increase in the exemption has made federal estate taxes a nonissue for more than
99 percent of households and has led some to reconsider once-popular planning strategies,
such as the ILIT, aimed primarily at estate tax reduction.
However, the increases in the exemption amount are not necessarily permanent. The
TCJA provisions that raised the exemption in 2017 are set to expire at the end of 2025 unless
Congress acts. If it does not, the exemption will revert to pre-2018 levels adjusted for

inflation—estimated to be around $7 million per person—starting in 2026. Even if tax legislation
passes in 2025, it is uncertain what the future exemptions will be.
Breaking the Trust: Ways to Exit an ILIT That No Longer Fits
Despite its name, an ILIT can sometimes be unwound. While it is not as easy as shredding a
document, there are legal mechanisms available to unwind an ILIT. The best approach depends
on the trust’s language, state law, and whether the policy itself is still needed. The following
strategies, each with its own legal and tax implications, can be used to unwind an ILIT.
● Swap the insurance policy with an asset of equal value. If the trust document includes a
power of substitution and if state law permits, the grantor may be able to exchange the life
insurance policy with another asset of equivalent fair market value, such as cash or
securities. This substitution right, if properly structured, can cause the trust to be treated as
a grantor trust, meaning that the grantor is considered to be the owner of the trust’s assets
for income tax purposes. To avoid unintended gift tax consequences, a professional
appraisal should be obtained to ensure that the substituted asset’s fair market value is
equivalent to the policy’s value.
● Let the policy lapse by stopping premium payments (commonly used for term life
policies). If premium payments on a term life insurance policy are discontinued, the policy
will lapse and no death benefit will be paid. This is often the most cost-effective way to
discontinue policies with no cash value. If the policy is the trust’s only asset, letting it lapse
could lead to it being terminated, depending on what the trust says.
○ Trustee’s power to terminate a small or uneconomical trust. Many ILITs include
provisions that allow the trustee to terminate the trust if its value is too low to justify
administrative costs. This often applies to trusts holding lapsed term life insurance
policies. Any remaining assets must be distributed in accordance with the trust’s terms.
● Surrender or sell permanent life policies. The trustee may be able to surrender a
permanent life insurance policy for its cash value, which can then be retained or distributed
in accordance with the trust’s terms. However, surrendering a policy may trigger income tax
if the cash value is more than what was paid into the policy. The trustee can also sell the
policy to the grantor (if the trust and state law allow it) or a third party. The sale must reflect
fair market value, and the transaction must be handled with fiduciary care to protect the
beneficiaries’ interests.
○ Life settlement transaction (for older insured individuals). When the grantor of the
ILIT—who is also the insured person—is older (typically age 60 or older), the trustee
may be able to sell the life insurance policy to a third-party buyer in a life settlement.
This sale gives the ILIT a lump-sum payment, which can be kept, distributed to
beneficiaries, or used to close the trust if the terms allow. The sale may result in taxable
income, depending on how much was paid into the policy and how much is received.
● Distribute the policy or its cash value to beneficiaries. Depending on the circumstances,
the life insurance policy may be distributed to the beneficiaries by the trustee or by
unanimous agreement of the beneficiaries, potentially leading to the trust’s termination.

○ Trustee’s discretionary distribution and termination power. Some ILITs give the trustee
the authority to terminate the trust or distribute all remaining assets to the beneficiaries,
though this action may sometimes require approval from an independent trustee. The
trustee must be aware that unequal distributions, such as transferring the policy to a
single beneficiary, may disadvantage others, especially if the trust has residuary
beneficiaries. This could lead to disputes, so the trustee must handle the distribution
carefully and fairly.
○ Consent termination by grantor and beneficiaries. In many states, an ILIT can be
terminated with the unanimous consent of the grantor (if still living) and all beneficiaries.
However, termination can be challenging if any beneficiaries are minors, incapacitated,
or unreachable, as their consent may be required to complete the termination.
● Obtain court approval for distribution or termination. When no internal trust mechanism
for distribution or termination is available, or if there is disagreement among beneficiaries,
trust termination may be possible with court involvement.
○ Petition based on legal grounds. A court may allow termination if the ILIT was created
under fraud, mistake, or misrepresentation, or if the trust terms include specific
termination triggers (e.g., grantor and beneficiary consent).
○ Beneficiary-driven court petition. In many states, beneficiaries can petition the court to
terminate the ILIT, even without the grantor’s consent—especially if the grantor is
deceased—provided that all beneficiaries agree and can demonstrate that ending the
trust will not defeat its material purpose. However, courts may reject the request if they
find that the trust’s original purpose, such as maintaining life insurance for estate tax
planning, remains valid.
Here are some critical points to consider when deciding whether to terminate an ILIT or keep it
active:
● Trust document review. The trust’s terms dictate permissible actions.
● Tax implications. Swaps, sales, or surrenders may trigger income or gift taxes. In addition,
returning assets to the grantor’s estate could increase future estate tax liability.
● Fiduciary duty. Trustees must act in the beneficiaries’ best interests, which means that
decisions such as allowing a policy to lapse or making distributions must be legally
defensible.
● Beneficiary consent. Many actions require beneficiary agreement, especially if they alter
expected benefits.
● Future planning. Before unwinding, consider whether modifying the trust through
decanting, court approval, or other legal means better serves the grantor’s intent. For
example, redirecting the trust’s assets to charitable purposes may fulfill the grantor’s wishes
more effectively than full termination.
Is It Wise to Unwind Now?

An ILIT that was originally created to minimize estate tax exposure may still serve a purpose
even if it feels unnecessary right now. Unwinding too early could backfire if the exemption drops
and your estate ends up taxable again. On the other hand, if your net worth is well below the
estimated future post-TCJA exemption, keeping the ILIT could be costly.
Trust and nontrust alternatives to an ILIT—such as a charitable trust, a revocable living trust, a
dynasty trust, direct policy ownership with beneficiary designations, gifting strategies, and
premium-financed life insurance—are worth considering.
For now, it is a good idea to review your current estate plan with an attorney, explore unwinding
strategies, have alternatives ready to go, and be prepared to act as the political and financial
landscape evolve.