Why liquidity matters in an estate

When someone dies, their estate can include illiquid assets (real estate, closely held businesses, art, or retirement accounts) alongside debts and possible federal or state estate taxes. Executors and heirs often face deadlines: tax returns (Form 706), creditor claims during probate, and mortgage or loan payments. Without ready cash, families may be forced to sell sentimental or income-generating assets at an unfavorable time.

A planned liquidity solution gives executors a predictable way to pay taxes, settle debts, and preserve asset ownership for heirs.

Sources: IRS estate tax guidance and payment options (see IRS Form 706 and estate tax pages) and consumer resources on estate settlement (Consumer Financial Protection Bureau).

Common estate liquidity solutions — how they work, pros and cons

Below are the most widely used tools. Each has trade-offs and must be implemented with proper legal and tax advice.

  1. Permanent life insurance owned outside the decedent’s estate (often via an ILIT)
  • How it works: A permanent policy (whole, universal, or guaranteed-law) held in an Irrevocable Life Insurance Trust (ILIT) provides cash at death to pay taxes and debts. Because the trust owns the policy, death proceeds generally avoid inclusion in the taxable estate.
  • Pros: Immediate lump sum at settlement, predictable amount, keeps proceeds out of estate if set up correctly.
  • Cons: Costs (premiums), complexity of trust drafting and administration, must avoid incidents of ownership to keep proceeds out of the estate.
  • See our related deep dive on using life insurance strategically to provide liquidity and minimize estate tax exposure: “Using life insurance strategically to minimize estate tax and provide liquidity” and “Life Insurance Trusts: Funding Estate Taxes and Providing Liquidity”.
  1. Short-term borrowing (estate or business loans, HELOCs)
  • How it works: An executor or the estate borrows against estate assets (secured loan on property, bridge loan secured by the business, or a home equity line of credit taken while the owner was alive). Lenders may require collateral or personal guarantees from heirs.
  • Pros: Fast access to cash, keeps assets intact, often lower cost than forced sale.
  • Cons: Interest expense, requires credit and collateral, loan terms can be restrictive. In my practice I’ve seen closely held businesses use credit facilities to cover a tax bill until sale or refinancing is possible.
  1. Installment payment election for closely held business stock (IRC §6166)
  • How it works: If a significant portion of the taxable estate is tied up in an active closely held business, IRC §6166 may allow estate tax to be paid in annual installments over an extended period (generally up to 14 years), subject to interest and rules.
  • Pros: Avoids immediate sale of the business, preserves continuity.
  • Cons: Not available for all estates (specific ownership and asset tests apply), interest accrues, and complex elections and filings are required. Consult your estate attorney and the IRS guidance on installment payments.
  1. Pre-funded strategies and lifetime planning (gifting, GRATs, family partnerships)
  • How it works: Transferring wealth during life through gifts, Grantor Retained Annuity Trusts (GRATs), or Family Limited Partnerships (FLPs) can reduce estate tax exposure and provide liquidity planning benefits.
  • Pros: Lowers the taxable estate and creates clearer liquidity paths for heirs.
  • Cons: Irreversible transfers can have income-tax consequences and require careful valuation and legal structure.
  1. Sale-leaseback or partial buyouts of business interests
  • How it works: Heirs or the estate agree to let a third party purchase a minority or majority stake, or the family creates a buyout plan to generate cash while keeping control in some form.
  • Pros: Generates cash without selling core assets outright.
  • Cons: Dilution of ownership, valuation disagreements, and negotiation complexity.
  1. Reverse mortgage (for homeowners 62+)
  • How it works: Converts part of home equity into loan proceeds while allowing the homeowner (or surviving spouse qualifying for tenure) to remain in the home.
  • Pros: Non-recourse option to access home equity; useful if the decedent planned this option prior to death.
  • Cons: Reduces home equity for heirs and has eligibility constraints.

When each option makes sense — decision factors

Evaluate these variables before choosing a liquidity plan:

  • Timing: Are taxes/due dates immediate or months away? Form 706 is generally due nine months after death (with a 6-month extension available) — timing affects whether short-term credit or life insurance proceeds are needed. (IRS, Form 706)
  • Asset type: Is the major asset a family home, a farm, or a closely held business? Section 6166 may be uniquely helpful for active businesses.
  • Estate size and likely estate tax exposure: Federal and state exemptions and thresholds change over time — do not assume entitlement without current tax review. Check current IRS guidance and state rules.
  • Cash flow needs vs. long-term goals: Do heirs need cash now to meet debts, or is the goal to preserve an operating business for generations?

In my work helping family business owners, the most common scenario is a combination: an ILIT-funded policy to cover anticipated federal/state taxes and a short-term estate loan to smooth interim cash flow.

Practical steps for executors and families

  1. Inventory assets and identify illiquid holdings first. Note mortgages, loans, and creditor deadlines.
  2. Talk to advisors immediately: estate attorney, CPA, and a financial planner. Many liquidity options require actions taken before death (insurance ownership, trust creation) to be effective.
  3. Run a liquidity gap analysis: estimate taxes, final expenses, creditor claims, and immediate cash needs. Compare those needs to available liquid assets.
  4. Consider interim borrowing only after weighing cost and collateral risks. Shop lenders who understand estate settlements.
  5. If life insurance may help, confirm ownership and beneficiaries. Policies owned by the decedent at death may be included in the estate. Policies owned by an ILIT or other unrelated party typically avoid inclusion, but implementation matters.

Case examples (realistic, anonymized)

  • Family business: An estate held an S-corp valued largely for its operating value. The executor elected IRC §6166 to amortize estate tax payments, used a modest bank line to cover interim payroll, and drew on a pre-funded ILIT policy to cover a portion of the tax — avoiding a forced sale.

  • Real estate-rich estate: A surviving child inherited rental properties with mortgages and a $300K tax estimate. The family used a bridge loan secured by one property and arranged a staged sale of a minor parcel. Life insurance proceeds from a trust paid the bulk of the tax, preserving the core rental portfolio.

Common mistakes to avoid

  • Waiting until after death to plan: Many solutions (ILITs, transfers, premium financing) must be in place while the decedent is alive to work as intended.
  • Assuming life insurance is automatically estate-tax free: Ownership, incidents of ownership, and beneficiary designations determine estate inclusion.
  • Over-leveraging heirs: Taking loans that require personal guarantees can create new financial strain for heirs.

Questions to ask your advisors

  • Is an ILIT appropriate given my estate size and family goals?
  • Does our state impose an estate or inheritance tax separate from the federal tax?
  • Would IRC §6166 apply to our closely held business, and what are the filing steps?
  • What interim credit options do local banks offer for estate settlement?

Helpful links and further reading

Internal FinHelp resources:

Professional disclaimer

This article is educational and does not constitute legal, tax, or investment advice. Estate liquidity strategies involve tax and legal rules that vary by state and change over time. Consult a qualified estate planning attorney, CPA, or financial advisor before implementing any strategy.

Bottom line

Estate liquidity solutions let families pay taxes and debts without forced sales, but they require planning, timely execution, and coordination among attorneys, tax professionals, and insurers. Early analysis and a combination of tools — insurance, trust design, and lender relationships — are the most reliable path to preserving legacy assets for heirs.