Who Should Own a Life Insurance Policy: Trusts and Estate Tax

For most people, the best owner of a life insurance policy is the insured — you own the policy on your own life, name your own beneficiaries, and keep full control. The reason to choose anyone else is almost always tax: if the death benefit would push your estate above the federal estate tax exemption, keeping ownership in your own hands can cost your heirs up to 40% of the excess. In that case, ownership belongs with an irrevocable trust, a spouse, an adult child, or a business, depending on what the policy is meant to do. The right answer to who should own a life insurance policy is the person or entity whose ownership produces the tax result you want without creating a control problem you can’t live with.

What the Owner Actually Controls

The policy owner is legally separate from the insured (the person whose life is covered) and the beneficiary (who receives the payout). One person can fill all three roles, and often does, but the roles can be split, and splitting them is where planning happens.

The owner can name and change beneficiaries, surrender the policy for its cash value, cancel coverage, assign the policy as collateral, or borrow against accumulated cash value on a permanent policy. None of that requires the insured’s or the beneficiary’s consent. Federal regulations bundle these powers together as “incidents of ownership.”¹ Whoever holds any of them at death causes the entire death benefit to be counted in that person’s taxable estate. That single rule is what makes ownership a tax question rather than a paperwork question.

When You Should Own the Policy Yourself

If your total estate — including the death benefit — will comfortably stay under the federal estate tax exemption, owning the policy on your own life is the right choice. The 2026 exemption is $15 million per individual.² A married couple can effectively double that with proper planning. Most policyholders are nowhere near those numbers.

Self-ownership gives you flexibility that no other structure matches. A divorce, a new child, a change in financial priorities, a shift in which charity you care about — any of these can be handled with a beneficiary change form. You can tap cash value on a permanent policy if you need it. You can cancel coverage that no longer fits. No trustee sign-off, no coordination with a family member, no legal fees to redraft documents.

The tradeoff is that the death benefit sits inside your taxable estate. If your estate is well under the exemption, that costs you nothing.

When a Spouse or Family Member Should Own It

Having someone else own the policy on your life is the simplest way to keep the death benefit out of your estate. A spouse owning a policy on your life, or an adult child owning a policy on a parent’s life, are the common versions. The one legal requirement is insurable interest: at the time the policy is issued, the owner must stand to suffer a real financial loss from the insured’s death. Spouses, children, and business partners generally qualify without difficulty.

The cost is control. Once your spouse or child owns the policy, you cannot change beneficiaries, borrow against cash value, or cancel coverage. Every decision is theirs. This structure works when the relationship is stable and the owner’s judgment is one you trust indefinitely.

The Goodman Triangle

There is one trap this arrangement creates, and it catches families badly. If the owner, insured, and beneficiary are three different people, the IRS treats the death benefit as a taxable gift from the owner to the beneficiary. The rule traces to a 1946 federal court case and is known as the Goodman Triangle. Nobody writes a check — the insurer pays the beneficiary directly — but the owner uses lifetime gift and estate tax exclusion equal to the full death benefit, and anything beyond the exclusion is taxed at up to 40%.²

A typical fact pattern: a wife owns a policy on her husband’s life, and their child is the beneficiary. On a $2 million policy, the wife has effectively made a $2 million gift to the child at her husband’s death.

The fix is to collapse the triangle to two people. Either the owner is also the beneficiary (the wife owns and receives), or the insured is also the owner (the husband owns the policy on his own life, though this defeats the estate-tax purpose). An irrevocable trust can also serve as both owner and beneficiary, which is usually the cleaner solution.

When an Irrevocable Life Insurance Trust Should Own It

An irrevocable life insurance trust (ILIT) is the standard tool when the goal is to keep a large death benefit out of your estate and still direct exactly how the money reaches your heirs. The trust owns the policy, a trustee administers it, and the trust document controls distributions.

The “irrevocable” part is what makes the tax result work. Once the ILIT is set up, you cannot change its terms, reclaim the policy, or hold any of the incidents of ownership that would drag the death benefit back into your estate under IRC Section 2042.³ For an estate that would otherwise owe estate tax, that permanent surrender of control is the point. On a $5 million policy sitting on top of a $20 million estate, keeping the death benefit out of the estate can save around $2 million in federal tax.

Premium funding takes some care. When you send money to the trust so the trustee can pay premiums, that transfer is a gift to the trust. To qualify each year’s premium contribution for the annual gift tax exclusion ($19,000 per beneficiary in 2026), the trust needs Crummey withdrawal provisions, which give beneficiaries a temporary right to withdraw the contributed funds and convert what would otherwise be a future-interest gift into a present-interest gift.⁴ Without Crummey powers, premium payments eat into your lifetime exclusion.

When a Business Should Own It

Businesses own life insurance for two reasons: to fund a buy-sell agreement when an owner dies, and to protect the company against the loss of a key executive.

In an entity purchase (redemption), the business owns a policy on each owner, pays the premiums, and uses the death benefit to buy back the deceased owner’s share. One policy per owner, centrally administered. In a cross-purchase, each owner personally buys a policy on every other owner. The number of policies grows quickly — four equal partners need twelve policies — but surviving owners get a stepped-up cost basis in the interest they acquire, which can meaningfully reduce capital gains tax on a later sale.

When the insured is an employee rather than an owner, IRC Section 101(j) adds a compliance step you cannot skip. Employer-owned life insurance death benefits are taxable to the business unless the company completed a written notice-and-consent process before the policy was issued: the employee must be told in writing that the company intends to insure their life, told the maximum coverage amount, and must consent in writing, including consent to coverage continuing after they leave.⁵ The failure cannot be cured after the employee dies. Only the premiums paid are excluded from income, and the rest of the death benefit becomes fully taxable to the business.

The Estate Tax Rule That Drives the Decision

Under IRC Section 2042, holding any incidents of ownership in a life insurance policy at the moment of death causes the full death benefit to be included in your gross estate.³ “Any” is the operative word. The power to change a beneficiary is enough. The power to borrow against the policy is enough. The power to pledge it as collateral is enough.

The 2026 federal estate tax exemption is $15 million per individual, made permanent and indexed to inflation by the One, Big, Beautiful Bill Act signed into law in July 2025.² The top rate above the exemption is 40%.⁶ A $3 million policy that pushes an estate from $14 million to $17 million creates roughly $800,000 of federal estate tax on the excess. Moving that policy to a trust or a third party removes that liability.

The Three-Year Lookback

You cannot solve the problem by transferring a policy shortly before death. Under IRC Section 2035, transferring a life insurance policy and dying within three years pulls the full death benefit back into your taxable estate as if the transfer had never happened.⁷ Congress carved out an exception for small gifts, but life insurance is specifically excluded from that carveout. The rule applies to every life insurance transfer regardless of size.

For new coverage, the safest approach is to have the trust or the intended owner apply for and own the policy from the start. No transfer means no clock. For existing coverage, the clock starts the moment ownership changes, and you have to survive three years for the estate tax planning to hold.

Traps Any Transfer Plan Has to Respect

Transfer for Value

Death benefits are generally income-tax-free to the beneficiary. Selling a policy — transferring it for money or other valuable consideration — can wreck that treatment. Under IRC Section 101(a)(2), a policy that changes hands for value is only tax-free to the extent of the price paid plus subsequent premiums; the rest of the death benefit becomes taxable income to the new owner.⁵ On a $1 million policy bought for $100,000 with $50,000 in premiums added afterward, only $150,000 stays tax-free. The remaining $850,000 is taxable.

The statute exempts transfers to the insured, to a partner of the insured, to a partnership in which the insured is a partner, to a corporation in which the insured is a shareholder or officer, and gratuitous transfers where the new owner’s basis carries over from the old owner.⁵ Most family gifts fall inside the gratuitous-transfer exception. Business succession transfers usually rely on one of the entity-based exceptions and need to be structured with the statute in mind.

Community Property and Divorce

In the nine community property states — Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin — a policy bought with marital funds is generally community property, whoever’s name is on it. Your spouse has a legal interest in the cash value and potentially in the death benefit. Transferring a community-property policy to an ILIT without your spouse’s written consent may not be fully effective, and in divorce the cash surrender value is typically subject to division. If you live in one of these states and want clean ownership for estate planning, a written spousal consent relinquishing the community property interest is usually part of the paperwork.

Divorce creates its own problems even outside community property states. Many states automatically revoke an ex-spouse’s beneficiary designation on divorce; group life insurance through an employer is often governed by federal ERISA rules, which generally require the plan to pay whoever is listed in the plan records regardless of what the divorce decree says, unless the decree qualifies as a Qualified Domestic Relations Order. And courts routinely order a divorcing parent to maintain life insurance as security for child support. Changing ownership or canceling a court-ordered policy can put you in contempt. Read the decree before touching the policy.

1
eCFR. 26 CFR 20.2042-1 – Proceeds of Life Insurance
2
Internal Revenue Service. What’s New – Estate and Gift Tax
3
Office of the Law Revision Counsel. 26 USC 2042 – Proceeds of Life Insurance
4
Internal Revenue Service. Frequently Asked Questions on Gift Taxes
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Office of the Law Revision Counsel. 26 USC 101 – Certain Death Benefits
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Internal Revenue Service. Estate Tax
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Office of the Law Revision Counsel. 26 USC 2035 – Adjustments for Certain Gifts Made Within 3 Years of Decedent’s Death