A common part of crafting a good estate plan is establishing a trust (or trusts). A trust can help reduce your estate tax liability and keep your assets where they belong: with your family and beneficiaries.
There are many different kinds of trusts that serve many different purposes, and they can sometimes get complicated. However, the simplest, most common types of trusts fall under the umbrella of spousal trusts. These ensure your spouse (and maybe your children and grandchildren) is financially secure after you are gone.
Here is a basic summary of four common spousal trusts:
1. A Trust (or Marital Trust)
A marital trust is a specific type of trust established for the benefit of a surviving spouse. It is a trust that takes advantage of the unlimited marital deduction in order to avoid estate taxes at the time of the first spouse’s death in the event that the first spouse’s individual estate is more than the individual exemption amount.
Here’s how it works: At the time of death, trust-owned assets are transferred to a trust for the benefit of the surviving spouse, essentially allowing estate taxes to be delayed until the second spouse’s death. The surviving spouse must be the only beneficiary of the trust during his/her lifetime, however, at the time of the second spouse’s death, the trust can pass to any other named beneficiaries like children, grandchildren, etc.
Additionally, an A Trust can give the surviving spouse broad access to the funds in the trust during the survivor’s lifetime, even allowing the spouse to withdraw everything in the trust. Finally, A Trusts are irrevocable trusts, which means they cannot be changed or altered after the trust has been established.
2. Qualified Terminable Interest Property (QTIP) Trust
Most A Trusts are actually also QTIP Trusts. However, for it to be a QTIP Trust, only the surviving spouse can be the beneficiary of the trust during his or her lifetime, and the trust is required to pay all income generated by the trust (e.g. dividends and interest) to the surviving spouse at least annually. This is what keeps trust-owned assets in the surviving spouse’s estate, even if he/she can’t dictate where trust assets will go at death.
3. B Trust (Bypass Trust)
B Trusts (also called family trusts or credit shelter trusts) work a little differently but are often used in concert with A Trusts—meaning oftentimes, when a spouse sets up an A Trust, they also set up a B Trust. B Trusts are once again created upon the death of the first spouse, but they’re capped at whatever the current estate tax exemption allows. This means they can greatly reduce your estate tax liability, or, if the entirety of the estate is less than the combined exemptions of both spouses, then a B Trust can help avoid estate taxes altogether.
B Trusts also do three things differently than A Trusts and QTIP Trusts: They keep the trust-owned assets out of the surviving spouse’s estate, trust-generated income does not need to be paid out, and anybody can be a beneficiary of trust assets during the lifetime of the surviving spouse. In fact, there’s no requirement that the surviving spouse has to receive anything. In order to keep the assets out of the survivor’s estate, the surviving spouse cannot have complete control over the assets. If the spouse is the trustee, there has to be limitations for access to trust principal to an “ascertainable standard” (usually health, education, maintenance and support). These trusts are also irrevocable, so once they’re established, they’re set in stone.
4. Spousal Lifetime Access Trust (SLAT)
A SLAT is an irrevocable trust set up by one spouse for the other during their lifetime; the donor spouse does not need to pass away for this trust to be created, which is a stark difference between SLATs and the other trusts mentioned above. While the donor spouse makes an irrevocable gift to the trust and gives up any right to the funds, the beneficiary spouse, and potentially other beneficiaries such as children and grandchildren, are provided access to the gifted funds right away.
Basically, you put money into a separate account that only your spouse (and maybe your kids and grandkids) can access. Because the terms of a SLAT are so flexible, the money in the account can be used for a wide variety of purposes.
Other Kinds of Trusts
As previously mentioned, there are myriad types of trusts that serve many purposes. What kind of trust(s) you want to add to your estate plan (or even whether or not you want to add one) is entirely up to you and your legacy goals.
Speaking with a financial advisor or estate planning attorney can help you crystallize your goals and ensure the best plan for you is in place. Reach out today to find out if a spousal trust is right for you.
JD, Series 7 & 63 Securities Registrations,1 Series 65 Advisory Registration,† Insurance License Pat brings 25 years of experience in the securities industry to his clients on a daily basis. Before coming to Wealth Enhancement Group, he worked as the chief executive officer of a mutual fund company, and he owned and operated a Registered Investment Advisory firm. Pat provides customized financial planning services for his clients combined with a values-driven and...Read More