Trusts

Bypass trust

"B" trust or non-marital trust Designed to receive property that is not allocated to the power of appointment trust, the estate trust, or the QTIP trust An amount equal to the exemption equivalent amount ($5,450,000) is placed in this trust The trustee may be directed to distribute the net income of this trust to the surviving spouse during his lifetime or the income may be accumulated or directed to other persons in order to reduce the overall income tax effect on the family If drafted properly, trust can also allow the trustees to distribute principal to the surviving spouse during her life without having the balance of the principal at her death included in the surviving spouse's estate

Trust elements

- Must be specific property - There must be one or more ascertainable beneficiaries who will receive equitable ownership of the income through their use and enjoyment of it - There must be a trustee who holds legal title to the property and who administers the property for the benefit of the beneficiaries - Must be an intention to create a trust that is clear from the grantor's language or actions - Most trusts are required to have terms or conditions under which the trust will terminate or fail

General powers of a trustee

- Power to collect trust property, settle claims, sue, or be sued - Power to sell, acquire, or manage trust property in a manner that is in the best interests of the trust - Power to vote corporate shares - Power to borrow money and use the trust corpus as collateral - Power to enter into contracts and leases that do not exceed the duration of the trust - Power to make payments to a beneficiary of the trust - Power to make required divisions and distributions of the trust property - Power to receive additional assets into the corpus of the turst

3 requirements for life insurance trust

1) the donor must create a trust vehicle to receive the insurance gift (or receive cash with which to purchase a new policy) with terms that achieve the donor's goals 2) the donor must actually transfer the policy to the trust by singing an irrevocable assignment of the policy 3) the insured must be in reasonable health to avoid the policy being valued at a much greater value for gift tax

Trust

A financial management tool that allows the grantor to coordinate the investment, use, and distribution of property not only during lifetime but also after death

Beneficiary

A party for whose benefit the trust is created and who will receive the direct or indirect benefit of the use of income from and/or principal of the trust property, as follows: - Income beneficiary—the beneficiary who receives income, generally for life or for a fixed period of years or until the occurrence or nonoccurrence of a particular event - Remainder person—the ultimate beneficiary of trust property (can be the income beneficiary)

Trustee

A party to whom property is transferred by the grantor, who receives legal title to the property placed in the trust, and who generally manages, distributes, and accumulates income and principal as per the terms of a formal written agreement (trust instrument) for the benefit of the beneficiaries As a fiduciary, the trustee must hold the property, invest it, distribute its income, accumulate income if necessary, and render any services required by law Someone other than the trustee may be required to pay tax but the trustee may be required to file a tax return

Charitable lead trust

A trust that pays a fixed income stream to a qualified charity for a period of years, usually not more than 20—at the expiration of the lead period, the remainder interest passes to one or more non-charitable beneficiaries Once created and funded, no additional contributions may be made An immediate income tax deduction can be obtained by the grantor for a CLT established during the grantor's lifetime when the grantor is considered the owner of the trust income and if the remainder interest will revert back to the donor or the donor's spouse If the grantor takes an income tax deduction for the present value of the income to the charity, the grantor must include the income earned by the trust on the grantor's annual tax return

Sprinkling or spray trust

A trust that permits the trustee to distribute income or corpus among various beneficiaries according to the needs of the beneficiaries ** A sprinkling trust can distribute income to beneficiaries and a spray trust can distribute both income and corpus Trustee has discretion to distribute any income and if so how much Since the beneficiary does not have a right to receive income on an annual basis, the beneficiary does not have a present interest—grantor will not be able to take an annual exclusion for transfers into the irrevocable trust

Totten trust

A type of revocable bank account or money market account that avoids probate The owner of the checking account or savings account is considered the trustee who makes deposits for a named beneficiary Since the account owner has full control over the money in the account until death, it is included in their gross estate at death The account then passes automatically to the beneficiary as a payable on death (POD) transfer which avoids probate in the owner's estate

Trusts that avoid probate

All trusts avoid probate if the trust is funded with assets prior to the death of the grantor

Living trust

Also known as inter vivos trust Takes effect during the grantor's lifetime Can be established for a limited period of time, until the occurrence or nonoccurrence of a specific event, or continue after the death of the grantor A revocable living trust is one created by the grantor during lifetime in which during his/her lifetime the grantor retains the right to revoke the trust, change its terms, or regain possession of the property in the trust-- trust becomes irrevocable when grantor dies

Marital trust

An arrangement designed to give the surviving spouse full use of the family's economic wealth while at the same time minimizing to the extent possible the total federal estate tax payable at the deaths of both spouses Couple with bypass trust

Grantor retained trust (GRAT/GRUT)

An irrevocable trust into which the grantor places assets and retains an income interest for a fixed period of years Principal and any trust appreciation at the end of the specified term will pass to a non-charitable beneficiary Purpose is to transfer property to family at a reduced or 0 gift tax value, pass appreciation in the trust to beneficiaries without incurring additional gift tax, and reduce the value of the grantor's gross estate In a GRAT the grantor retains a right to payment of income for a fixed period of years In a GRUT the grantor retains a right to payment of a fixed percentage of the value of the trust property Grantor is essentially making a current gift of the right to trust assets to the remainder beneficiary at a future date If the grantor survives the term selected, the beneficiaries would receive the trust property and any appreciation in its value without additional gift taxes imposed on the transfer If the grantor does not survive the specified period selected to receive trust income, then a portion of the trust necessary to yield the annuity or unitrust interest would be included in the grantor's estate ** Disadvantage is beneficiaries receive grantor's carryover basis rather than a stepped-up basis

Qualified personal residence trust (QPRT)

An irrevocable trust that holds a person's residence, allowing couples or individuals to live in the house rent-free for a specified period of time—at the end of the term, the home will pass gift-tax free to the trust beneficiaries Advantage of this technique is that the transfer of the home into the trust is taxed at the present value of the home's remainder interest, rather than at its fair market value If the grantor dies before the term is completed then the FMV of the home is included in the grantor's estate QPRT allows the grantor to "freeze" the value of the home when it is placed in trust, and pass any future appreciation on to trust beneficiaries Can transfer rental vacation residence to a QPRT if owner occupies home for greater of 14 days or 10% of the number of days it is rented out during the taxable year

Charitable remainder unitrust (CRUT)

Basically designed to permit payment of a periodic sum to a non-charitable beneficiary with a remainder to charity Future contributions are allowed Payout differs based on value of trust Income tax deduction is permitted in the year the funds are irrevocably placed in trust ** if beneficiary someone other than grantor, gift tax is assessed

Discretionary trust

Beneficiaries do not have a fixed entitlement or interest in the trust funds Trustee has the discretion to determine which of the beneficiaries are to receive the capital and income of the trust and how much each beneficiary is to receive

Generation-skipping trust

Can provide income to the grantor's spouse for the spouse's lifetime Upon the death of the spouse, or simultaneous with the income distribution to the spouse, the children of the grantor can receive income for their lives Upon the deaths of all of the children, the income and principal may pass to the grantor's grandchild, great grandchild, etc. Ultimate beneficiary of the assets is a skip person GSTT is only imposed on transfers deemed to be direct skips, taxable terminations, or taxable distributions

Uniform gifts/transfers to minors act (UGMA/UTMA)

Custodial accounts established for the benefit of a minor In this kind of fiduciary relationship, the property is placed in an account that bears the name of the minor as the legal titleholder Property is then held by an adult who has "custody" of the property until the minor reaches the age of majority—person known as "custodian" Gifts qualify for the annual exclusion amount UTMAs allow greater use of various investments, including transfers of real estate, partnership interests, and oil and gas interests ** UGMAs typically terminate at the age of 18 while UTMA terminates at age 21 or 25, depending on the state ** If the donor also named as custodian dies before the child reaches the age of majority, the value of the custodial account will be included in their estate

Charitable remainder annuity trust (CRAT)

Designed to permit payment of a fixed amount annually to a non-charitable beneficiary with the remainder going to charity Donor should transfer low basis stock since the charity can sell this stock without incurring any capital gains and reinvest the proceeds to pay the donor a higher fixed dollar amount each year for life If income of trust is insufficient to meet the required payment, the difference is paid from capital gains or principal If the income is greater, the excess income is reinvested in the trust The income tax deduction is computed in the year funds are irrevocable placed in trust and is measured by the present value of the charity's right to receive the trust assets upon the death of the income beneficiary (or at the end of the term of years)

Spendthrift trust

Designed to prevent beneficiaries from receiving distributions from the trust so that creditors cannot have access to their funds-- accomplished by giving the trustee the power to accumulate income and discretionary authority to make distributions to a beneficiary A spendthrift clause in the trust may state that the beneficiary cannot assign, pledge, or promise to give away distributions from the trust to others, or the beneficiary may forfeit their interest in the trust Also provide creditor protection if they are established solely for a beneficiary's supplemental support, not for their general support If a grantor created a spendthrift trust and named himself beneficiary, this is considered a self-settled trust, which would not receive creditor protection in most states

2503(c) trust

Different from 2503(b) trust is that unexpended income and principal must be distributable to the beneficiary when the individual reaches age 21 If the beneficiary dies before age 21, accumulated trust income and corpus must go to the minor's estate or appointee pursuant to a general power of appointment Income that is accumulated in the trust is taxed to the trust and not to the beneficiary It is permissible to provide that the trust will continue beyond the donee's 21st birthday as long as any time after reaching age 21 the donee can obtain the property in the trust if he wishes

GRIT

Distributes all of the trust's income to a grantor for a specified number of years and then distributes the trust's remainder interest to beneficiaries Assets transferred into GRITS are taxed at FMV for gift tax purposes, not at the discounted value of the trust's remainder interest (GRAT/GRUT), when family members are trust beneficiaries GRITs are now limited to transfers of a personal residence or certain tangible property in situations where the grantor retains the use of the property during the term of the trust Grantor who establishes a GRIT and dies before the term of years has ended will have the full FMV of the trust corpus included in the gross estate

Complex trust

Do not require income to be distributed Can accumulate income, make distributions of principal, and make gifts to charity Trust takes deductions for income distributed to beneficiaries but is taxed on income that remains in the trust

Crummey withdrawal power

Each time a contribution is made to the trust, the beneficiary has a temporary right to demand withdrawal from the trust If the demand right is not exercised, the annual transfer remains in the trust If the demand is made, the trustee must deliver the funds to the beneficiary

Pour-over trust

Funded or unfunded revocable trusts established by a grantor while alive, which hold their assets at death Assets from the decedent's estate, pensions, life insurance death benefits, and out-of-state property can be "poured-over" into this trust at death for asset management purposes

5 elements of a trust

Grantor Trustee Corpus Terms of trust Beneficiaries

Grantor trust rules

Grantor trust is one which the grantor has unexpired interest or residual control over the trust assets Grantor trust rules provide that if the owner of property transferred to a trust retains an economic interest in, or control over, the trust the owner is treated for tax purposes as the owner of the trust property and all transactions by the trust are treated as transactions of the owner Grantor pays the income tax on any income produced by the trust When a grantor establishes a revocable living trust, the grantor should realize that the assets in such a trust are still included in the grantor's gross estate

Revocable trust

Have the advantage of being flexible—the terms of the trust can be amended, altered, or revoked in their entirety by the grantor if the grantor finds that the terms of the trust are not fulfilling the grantor's estate planning objectives Can be funded, which avoid probate and ancillary probate for real property held out of state-- assets are included in the grantor's gross estate Can also be unfunded, therefore assets not placed within a trust are subject to probate—example is a standby trust Disadvantage is the costs associated with establishing the trust Another disadvantage is that revocable trusts offer no creditor protection since the grantor retains too many rights and powers All income is taxed to the grantor at the grantor's tax rate No gift tax is generated

Irrevocable trust

If the grantor retains no powers over the corpus of the trust that could be construed as ownership, the assets placed into such a trust will escape the inclusion in the gross estate of the grantor and will avoid probate Certain exceptions to this rule—occur when certain types of property are transferred to the irrevocable trust and the grantor dies within 3 years of the date of transfer

Gift tax implications of trusts

In general a revocable trust is not considered a completed gift because the grantor has not parted with dominion and control over the property—will not be subject to gift tax liability An irrevocable living trust will normally result in a gift and possibly some gift tax liability - Value of the gift is the FMV of the property at the time it is transferred, not its value at the date of the grantor's death - If the trust pays income, it may qualify for the annual exclusion amount on the stream of income being distributed to the beneficiary

3 common estate-planning tools that can be used to avoid probate in the distribution of testator's property at death

Joint tenancy with rights of survivorship-- applicable to all property types except retirement plans and IRAs Beneficiary designations Revocable trusts

Funded ILIT

Means that the grantor has transferred a life insurance policy plus income producing property into the trust, which is used to pay the premium payments Grantor does not need to give beneficiaries a Crummey power in this trust Grantor will not make annual transfers into the trust to pay for the policy's premiums since the income generated from the assets will be used instead

Unfunded ILIT

Means that the trust only contains a life insurance policy that the owner has transferred in Since life insurance premiums need to be paid each year, the owner must transfer money for these payments into the trust each year so that the trustee has sufficient funds to pay the annual premiums Transfers into the trust are subject to gift taxes therefore the grantor wants to use annual exclusions for each trust beneficiary to offset these taxes—for this reason the grantor will include Crummey provisions

QDOT

No marital deduction allowed for the estate of a U.S. resident who leaves property outright to a surviving spouse who is not an American citizen Citizen spouse can establish the QDOT as a living trust or through their will Allows a marital deduction for property placed into a special trust for the benefit of the non-citizen spouse Requirements for QDOT: -Trustee must be US citizen or domestic corporation -Trust must retain sufficient assets to cover non-citizen spouse's estate taxes -Trust must be set up as a QTIP or Estate trust -Trustee must approve all distributions of principal and withhold estate taxes from principal distributions that are not subject to HEMS ** Disadvantage to transferring assets into a QDOT is that the assets remaining in the trust at the non-citizen spouse's death are taxed as if they had been included in the citizen spouse's estate

Trust arrangement

One in which one party, trustee, hold legal title to property for the benefit of one or more beneficiaries Beneficiaries are the equitable owners of the trust in the sense that they are entitled to the trust property

QTIP

Placing assets in this QTIP trust can result in zero estate tax at the death of the first spouse to die to the extent that the trustee or executor elects to take the marital deduction on Form 706, the estate tax form All of the income of this trust must be paid, at least annually, to the surviving spouse and the spouse can have a 5x5 power over the trust corpus No provision for invasions of the trust can be made for anyone other than the surviving spouse or the marital deduction will be lost If the trustee has elected to take a marital deduction at the first spouse's death for assets going into that trust (usually 100%), the QTIP trust will be included in the estate of the surviving spouse Any assets remaining in this trust at the survivor's death will be distributed as the grantor decided

Life insurance trust

Primary goal is to remove the death benefit proceeds of the life insurance policy(ies) from the estate of the grantor and the grantor's spouse and shift the ownership of the policies to a lower generation Family can have a fund of cash which can be used to loan money to or purchase assets from a decedent's estate, thereby creating liquidity in the estate for payment of death taxes, without the fund's causing additional death taxes at the death of the insured Typical ILIT plan will call for the insured to make annual gifts to the trust to cover the premium payments ** In order to make those gifts qualify as a "present interest gift" and therefore come within the annual exclusion, the trust gives a "Crummey" withdrawal right to the beneficiaries of the trust Gifts of whole life insurance policies to the ILIT are generally valued for gift tax purposes at the "interpolated terminal reserve value" which is usually close to the cash surrender value for a reasonably healthy person

Simple trust

Required to distribute all net income to the beneficiaries in the year the income is earned Beneficiaries are taxed on the income received at their marginal tax brackets and the trust receives a deduction for the income distributed Trust corpus cannot be distributed and no charitable gifts can be made from the trust Capital gains are not considered trust income and are treated as additions to corpus

Rule against perpetuities

Requires that a trust cannot last longer than the life of a beneficiary who was alive when the trust was created, and an additional 21 years and 9 months after the beneficiary has died

2503(b) trust

Special trust structured for the benefit of minors Can provide a beneficiary with stream of income during the time in which the beneficiary is a minor •Trust must distribute the income to the minor on an annual or more frequent basis All or portions of gifts to such trusts will qualify as gifts of a present interest for income beneficiaries and thus are eligible for the annual gift tax exclusion The corpus of trust need not be distributed to the beneficiary when the beneficiary reaches the age of majority Corpus will be excluded from the gross estate of the donor who is not a trustee Principal does not ever have to be paid over to the income beneficiary

Inter vivos trust

Takes effect and is funded with assets during the lifetime of the grantor May be either revocable or irrevocable A revocable trust becomes irrevocable when the grantor dies or when the grantor relinquishes title to property placed in the trust and gives up all right to revoke, amend, alter, or terminate the trust

Distributable net income (DNI)

The trust beneficiary is taxed on income that is required to be distributed to the beneficiary, regardless of whether the income is actually received If the income accumulates in the trust and is retained by the trust, the trust pays the income tax on it If the trust allows Trustee discretion to distribute income, then the trust passes the income to the beneficiaries, the trust receives a distribution deduction and the beneficiaries must pay the tax on the distribution-- bene is taxed on his proportional share of the DNI DNI ensures that a trust or estate receives a deduction for the amounts distributed to the beneficiary, so the distribution is not taxed twice DNI ensures that the character of the income the trust receives is distributed in the same manner to the beneficiaries-- tax vs. tax-free income

Special needs trust

Trust arrangement can provide extra amenities to a disabled person in a way that would not disqualify the disabled beneficiary from receiving public assistance benefits, such as Medicaid/Medicare, Social Security disability benefits, or other forms of supplemental assistance

Disclaimer trust

Utilized to allow the surviving spouse, or any other beneficiary, the opportunity to do post-mortem (after death) estate planning Frequently used when the surviving spouse wishes to have the decedent's estate take full advantage of the applicable credit available to it or when the survivor has no need for property bequeathed to the survivor under the terms of the decedent's will Surviving spouse disclaims a portion of the assets that would have been received from the grantor's estate-- instead these assets pass into a disclaimer trust, the income from which can be used to benefit the surviving spouse The property that is disclaimed remains in the taxable estate of the decedent and takes full advantage of the applicable credit, so there is usually little if any estate tax liability for the grantor's estate

2 or more trustees

• If there are 2 or more trustees, all trustees must act unanimously If the trustees cannot agree upon a unanimous course of action, a special hearing will have to be held in order to determine the effectiveness of the trust and the conditions under which one or more trustees may have to step down or resign If the grantor has designated more than 2 trustees, the grantor may stipulate that agreement by a majority of the trustees is sufficient for any action pursuant to the provisions of the trust