An irrevocable trust is an instrument that allows you to put assets in for tax advantages and asset protection. But you cannot take the assets out.
An irrevocable life insurance trust is simply an irrevocable trust designed to hold life insurance policy(ies) of the grantor. Because life insurance is one of the most common assets in an irrevocable trust, irrevocable trusts with life insurance policies have their own name, Irrevocable Life Insurance Trusts, or ILITs.
One advantage of an ILIT is that life insurance policies that are owned by the insured are subject to an estate tax (assuming it meets the minimum value to be subject to estate taxes)
ILITs also have their own set of rules. For instance, the life insurance policy transfer must occur at least three years before the death of the grantor. This rule is designed to protect the IRS from death-bed transfers of life insurance. Smart estate planners can get around this rule, though by transferring cash to the trust, then having the trust purchase the policy from the grantor. Not only can you make transfers to trusts at any time this way, but it also does not implicate any income tax consequence.
A trustee has fiduciary duties with ILITs, just as he or she would with any other irrevocable trust. Assuming the trustee believes the policy is a good investment, he or she must pay the policy premiums, hold the policy, and keep the beneficiaries informed. When the grantor/insured dies, the proceeds of the life insurance go into the trust, and the trustee is charged with handling the money in good faith and distributing it pursuant to the terms of the trust.
A trustee pays policy premiums either from income derived from income-producing assets already in the trust (a funded trust) or from annual gifts from the grantor (unfunded trusts). Usually it is more advantageous to utilize an unfunded trust because funded insurance trusts are subject to an additional gift tax cost, and the grantor is taxed on the trust's income.