Should you transfer ownership of a life insurance policy to your children?

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by Greg Gregory last reviewed August 2022
A father spends time with his son after learning more about transferring life insurance to his child

Financial protection translates to security for many parents, and knowing their children will always be taken care of financially can help provide peace of mind. Should the unexpected happen and you’re no longer able to provide for them, there’s a lot to consider when figuring out the best way to ensure your children are supported.

Life insurance is a common solution to this problem. And while it provides a financial safety net, it can also leave a large tax bill for your family if transferred improperly. If you know you’re going to be subject to federal estate tax after you die, transferring your life insurance policy to someone else can help alleviate some of those tax costs. 

Things to Consider

There are a few things to consider when making the decision to transfer the ownership of your life insurance policy: 

  • What is the amount of the life insurance policy being transferred?
  • Will any portion be subject to gift tax?
  • How will future payments be made?

How to Transfer Ownership of Your Life Insurance Policy

There are two options when it comes to transferring a life insurance policy: 

  1. Transfer ownership of your policy to any other adult, including the policy beneficiary (in this case, your child or children).
  2. Create an irrevocable life insurance trust and transfer the ownership of the policy to the trust.

Transferring ownership is generally a straightforward process that’s as simple as signing the appropriate rights documents. If you transfer the ownership of your life insurance policy and the cash value of the policy exceeds the annual exclusion limit, it’s considered a taxable gift. (The annual exclusion limit is set by the IRS and is the dollar amount allowed to be gifted in a calendar year without being taxed.) 

Once that policy is transferred, you no longer have control over the beneficiaries or coverage limit and the new owner is now responsible for the premium payments. This is why many parents wait until their children are either 18 or old enough to take over the premium payments before they transfer their life insurance policy.

If you place your life insurance policy in an irrevocable life insurance trust (ILIT), the trust takes control as the owner of the plan, pays the premiums and avoids estate taxes. You transfer funds to the trust to pay the premiums, but the trust itself makes the premium payments. The trust can also ensure the policy’s beneficiary amount is spent according to your wishes. 

When you pass away, the life insurance policy pays the beneficiary amount to the trust. The benefit is excluded from your taxable estate. The trust then distributes that death benefit to your children (or other beneficiaries) according to your governing terms. 

A life insurance trust is a good option if you don’t want to burden your children with controlling the policy or making the premium payments and/or if you’d like to set up some governing terms for the policy.

Tax Consequences of Transferring Ownership of a Life Insurance Policy to Children

Tax implications are a key factor to consider when deciding on whether to transfer ownership of your life insurance policy. For example, if you decide to transfer your policy and die within three years of the transfer date, the policy will be considered part of your entire estate and subject to federal taxation. 

There are also ways to structure the transfer (often through the “sale” of the policy to a person or a trust) to avoid federal taxes on the policy. It’s a good idea to hire a lawyer with estate planning experience because this is a more complicated legal process that must be evaluated and set up properly.

Things to Consider When Transferring Life Insurance to Your Children

As you make the decision to transfer your life insurance policy to your child or children, there are a few things to consider. Ask yourself the following questions: 

  • What is the amount of the life insurance policy being transferred?
  • What age should I transfer life insurance to my children?
  • Will any portion be subject to gift tax?
  • How will future payments be made?

SelectQuote Can Help Answer Your Life Insurance Questions

It’s important to weigh all of the pros and cons of transferring your life insurance policy. Understanding your policy and making sure you have enough coverage to leave a legacy for your children is the first step. 

At SelectQuote, we can help you weigh your life insurance options and find the peace of mind that comes with securing a life insurance policy that’s right for you, your family and your budget.

We do the shopping. You do the saving.