The simplest way to avoid the three-year rule is to have the ILIT purchase the life insurance policy "from scratch" (i.e., avoid a transfer in the first place). The trust document should be drafted early in the process by the client's attorney so that the trust, through its trustee, can be the applicant, owner, and beneficiary of the policy from the start. However, if it is apparent that the trust document will not be completed for some time, waiting to buy needed life insurance until it is could be a mistake.

When the client(s) agree that life insurance is the best solution for an estate plan, the insurance purchase becomes the first step. Real life says that it may be months until the trust is actually drafted and signed by the estate owner. The main objective is to get the life insurance in force. It would certainly be much better to have the life insurance in force, and included in the insured's gross estate, than to have the estate owner die without life insurance while waiting for a trust to be drafted.

When the trust is finally in place, the estate owner gifts the policy to the trustee by completing an absolute assignment (without valuable consideration) and naming the trustee as beneficiary. The trustee, who is both owner and beneficiary of the policy, pays future premium payments. The insured makes cash contributions to the trustee on a periodic basis to provide premium payment dollars.

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