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By John M. Bigler This month I wanted to analyze a popular estate planning tool for couples. It has many names, but the most popular are the credit shelter trust, or the bypass trust, and also A-B trust. The idea is to take full advantage of the federal estate tax exemption.
Many couples have reciprocal or "sweetheart" wills in which they leave everything to each other and then to the children. Typically, couples hold all of their assets jointly, so on the death of the first spouse, there isn't even a need to probate the will of that spouse because everything automatically goes to the survivor. If it doesn't, then the will leaving everything to the survivor will see to it that all of the assets end up in the name of the second spouse. While this might be desirable for that spouse, the problem is that the couple has lost one $675,000 exemption. The purpose of the credit shelter trust is to take advantage of the two exemptions even though one spouse predeceases the other. Rather than having simple wills leaving everything to each other and then to the children, the couple instead will provide that on the death of the first spouse, the first $675,000 or whatever the number is at the time of death, will pass into a trust for the benefit of the surviving spouse. This spouse will have access to the income generated by the principal of the trust and will also be entitled to the invasion of the principal with the approval of the trustees of the trust. Typically, the spouse will be one of the trustees, but can't be the sole trustee, otherwise the trust could be viewed by the Internal Revenue Service as a sham. Very often the spouse would be trustee with one or more of the children. Depending on the level of comfort of the spouses, they may choose in setting up the will not to allow the surviving spouse as trustee to make decisions regarding finances. This would be the conservative drafting of the will to insure that the IRS respects the trust. Other more adventurous spouses might not only want input into the financial decisions regarding the trust, but will also want the right to replace the other trustees at any time and without cause. In that way, they can maintain a greater degree of control over the trust. The purpose for the trust is so that on the death of the surviving spouse, the assets in the trust originally set up by the first spouse will then typically pass to the children, or whatever beneficiaries are designated in the will, but do so as if the assets came from the first spouse to die. Therefore, even though the surviving spouse has had the use and enjoyment of the principal in the trust during his or her lifetime, the estate tax exemption from the first spouse hasn't been lost. Further, the assets in the name of the surviving spouse will also pass to the children, but they will carry an exemption of $675,000 belonging to the surviving spouse. In this way, we have taken advantage of two exemptions, one from the first spouse through the trust and one from the second spouse for assets passing outright to the children. There's one important caveat in setting up wills with credit shelter trusts that's often overlooked, with disastrous consequences. As noted above, if assets are held jointly, they pass to the spouse automatically. I have seen a number of situations where a couple had well-crafted wills with credit shelter provisions, but continue to hold all of their assets jointly. On the death of the first spouse, all of the assets passed automatically to the survivor rather than passing through the will and into the credit shelter trust. It's important to realize in setting up such a will that it will do absolutely no good unless the assets are divided between the spouses. The popular idea of avoiding probate is the exact opposite of what we'll want to accomplish. A will with a credit shelter trust is an excellent and fairly simple way for a couple to allow their estate, and therefore their children, substantial tax savings. Estate taxes can eat up more than 50% of those non-exempt assets passing through the estate, so being able to protect $1,350,000 as opposed to only $675,000 is obviously a wise thing to consider. Sometimes a couple will indicate, however, that they don't have that much confidence in their children or, for whatever reason, the relationship with the children is strained. In such a situation, I would typically advise the couple not to restrict their assets by setting up a trust, but simply to leave the assets to each other and then to the children. After all, the purpose of these wills is to benefit the children, and if the children are going to cause problems, meaning that the surviving spouse may have a concern as to access to the money, then they simply shouldn't consider such a planning tool. For a couple that has an excellent relationship with their children, the credit shelter trust is something that should be seriously considered. Reprinted with permission of the Suffolk Times © 2000 [ Contact Us ] [ Guestbook ] [ Email ]  The Law Offices of John M. Bigler, Attorney At Law 1421 Wantagh Avenue, Wantagh, New York 11793-2206 1-888-ELDER-LAW · 516-409-6565 · Fax: 516-409-6522 E-Mail: info@biglerlaw.com · Web Site: www.biglerlaw.com |
At the present time, every individual has an exemption from estate taxes for the first $675,000 that's either gifted during lifetime or passes at death as part of the estate. That number is being adjusted for the cost of living and will rise to $1 million per individual by the year 2006. Therefore, a couple with marital assets would be able to pass $1.35 million tax-free through their estates to the next generation if they were to die simultaneously. Obviously, most of us don't have that precise timing, and so, in the typical situation on the death of the first spouse, all assets pass to the second spouse.