Understanding Life Insurance Trusts
How to Reduce or Eliminate Your Estate Tax Cost
13. Where does the trustee get the money to purchase a new insurance policy?
From you, but in a special way. If you transfer money directly to the trustee, there could be a gift tax. But you can make annual tax-free gifts of up to $12,000 ($24,000 if your spouse joins you) to each beneficiary of your trust. (Amounts may increase periodically for inflation.) If you give more than this, the excess is applied to your federal gift/estate tax exemption.
Instead of making a gift directly to a beneficiary, you give it to the trustee. The trustee then notifies each one that a gift has been received on his/her behalf and, unless he/she elects to receive the gift now, the trustee will invest the funds - by paying the premium on the insurance policy. Each beneficiary must understand the consequences of taking the gift now; for example, it may reduce the trustee's ability to pay premiums.