What is “the Unholy Trinity”
The “unholy trinity” is an insurance industry euphemism that describes a problematic circumstance with a life insurance contract. In addition to the insurance company, there are three named parties in the insurance contract. Party #1 is the owner of the insurance policy and this person has numerous rights. They are: (1) the right to name or change the beneficiary, (2) the right to cash in, surrender or cancel a policy, (3) the right to receive policy dividends, if any, (4) the right to borrow against policy cash value, (5) the right to pledge the policy as collateral for a loan, and (6) the right to assign any rights and/or the policy itself and the right to revoke such assignments. Party #2 is the person whose life is being insured and Party #3 is the beneficiary (ies) who receives the death benefit upon the passing of Party #2.
The “unholy trinity” arises when all three of these parties are different people. Why is this a problem? If Party #1 has purchased a $1 million life insurance policy covering Party #2’s life and names Party #3 as beneficiary, at Party #2’s death, the Internal Revenue Code deems this event as Party #1 having made a taxable gift of $1 million to Party #3. This situation can create possible adverse estate tax consequences for Party #1. To avoid this potential tax trap, it is prudent to have the policy owner also be the beneficiary whenever someone other than the insured owns the policy. The use of an Irrevocable Life Insurance Trust (ILIT) may also be appropriate when the purpose for purchasing the life insurance policy is to create liquidity for the estate of the insured person. This latter situation is a common strategy when preparing for a need to pay estate taxes upon the death of the insured party.
If you would like to learn more about these and other wise financial planning moves, please contact us through our Level 5 Financial LLC website or via phone at 719-323-1240. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.
