A Safe Harbor for Trustees Holding Life Insurance
Life insurance inside a trust is different from other trust property. A trustee managing stocks or real estate must evaluate performance and diversify. But life insurance does not work that way.
The death benefit depends on the insured person's lifespan. The trustee has no control over that outcome. As a result, trustee duties for this type of asset are more limited.
A trustee may acquire or retain a contract of life insurance on the life of the settlor or the settlor's spouse, or both, without liability for a loss arising from the trustee's failure to: 1. Determine whether the contract is or remains a proper investment. 2. Investigate the financial strength of the life insurance company.
A.R.S. § 14-10908(1)-(2)This statute removes four specific sources of liability. A trustee cannot be held responsible for failing to judge whether the policy is a proper investment.
They are also protected from claims about not checking the insurer's financial health. The same applies to not using nonforfeiture options or not diversifying the contract.
Why This Matters for Irrevocable Life Insurance Trusts
This protection is especially relevant for irrevocable life insurance trusts (ILITs). Holding a life insurance policy is the entire purpose of these trusts.
Without this safe harbor, a trustee managing an ILIT could face claims that the policy was not diversified. They could also face claims that the insurer was not strong enough. This means the fiduciary role for these trusts centers on proper management, not second-guessing the policy.
This statute also recognizes that life insurance is a unique asset. The death benefit does not depend on market performance. Instead, it depends on keeping the policy active and funded.
Practical Impact on Families
For families who use life insurance in their estate plan, this statute provides reassurance. The trustee can focus on paying premiums and keeping the policy in force. They do not carry the risk of being blamed for the nature of a life insurance contract.
This safe harbor also affects income tax planning. Life insurance trusts often keep the death benefit out of the taxable estate.
A trustee who properly manages the trust and maintains the policy meets their core duties. The statute ensures they are not penalized for factors beyond their control. For example, shifts in the insurance industry do not create trustee liability.