Part of our guide: Long-Term Care Insurance: Costs, Options and Planning →
Clients often want the death benefit out of their taxable estate and access to long-term care benefits if they need them. Putting a policy with an LTC or chronic illness rider in an irrevocable trust can seem to do both, but the structure can create estate and income tax problems if it isn’t handled carefully.
Key takeaways
- Indemnity-style riders are generally better suited to trust ownership than reimbursement-style riders.
- Reimbursement riders that pay the insured’s care providers could be treated as an incident of ownership or retained interest, pulling the death benefit back into the estate.
- Under IRC 101(g), tax-free treatment of chronic illness benefits may depend on the payee incurring the care costs, which is uncertain when a trust owns the policy.
When a trust owns a policy with an LTC rider, there’s no specific IRS guidance on the tax result. The client must get tax advice first.
The planning goal
An irrevocable life insurance trust (ILIT) keeps the death benefit out of the insured’s taxable estate. The insured also wants access to rider benefits if they need care. A common approach uses an indemnity-type rider: the insured pays care costs personally (reducing their estate), and if they need cash, the trust can lend to them.
Why reimbursement riders are a problem
With a reimbursement rider, benefits are paid for the insured’s care expenses, so the trustee is effectively bound to pay the insured’s creditors. That could be treated as an incident of ownership or a retained interest, either of which could pull the death benefit back into the taxable estate.
The income tax question
IRC section 101(g) treats accelerated benefits paid for a chronically ill insured as paid “by reason of death,” and therefore generally income-tax-free. But for chronically ill insureds, section 101(g)(3)(A) conditions that treatment on the payment being for costs incurred by the payee for qualified long-term care services. When the payee is a trust that didn’t incur the costs, tax-free treatment is uncertain. Carrier materials commonly note there’s no specific IRS guidance on third-party ownership and that adverse income, estate, or gift tax results are possible.
The advisor’s responsibility
When a client wants third-party ownership of a policy with an LTC or chronic illness rider, make sure they get advice from a qualified tax advisor before implementing. For background on rider types, see the nuances of LTC and chronic illness riders.
Frequently asked questions
Can an ILIT own a life policy with an LTC rider?
It can, but it raises estate and income tax questions. Indemnity-style riders are generally better suited, and tax advice is essential.
Why are reimbursement riders a problem in a trust?
Paying the insured’s care expenses could be treated as an incident of ownership or retained interest, bringing the death benefit back into the estate.
Are LTC rider benefits tax-free if a trust owns the policy?
It’s uncertain. IRC 101(g) ties tax-free treatment of chronic illness benefits to the payee incurring care costs, and the IRS hasn’t issued specific guidance.
Reviewed by Tim Fuller on 2026-09-25
Tim Fuller
President, SRS Inc.
Tim leads SRS Inc., a full-service IMO (Independent Marketing Organization) and BGA (Brokerage General Agency), connecting independent financial professionals with life, annuity, disability income, and long-term care solutions from 60+ carrier partners.
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