Close-Up: Trusts

Physician's Money DigestSeptember30 2003
Volume 10
Issue 18

Presented by McNeil, Makers of Tylenol


Trusts: Estate planning tools enabling individuals to pass more wealth on to survivors by saving federal estate tax while retaining the maximum control permitted by law.

It's a Matter of Trust.

Pop singer Billy Joel sold a lot of records and touched many of our consciences singing When it comes to estate planning, however, it's really a matter of trusts— powerful documents that often form the core of an individual or marital estate plan.

Trusts literally come in all sizes and shapes; each is designed to address a specific estate planning strategy. They've also become the vehicles of choice for con artists who promise you the moon and the stars but rarely deliver. As the old saying goes, if it sounds too good to be true, it probably is.

Some Common Trusts

The Complete Book of Money

A bypass trust, also known as a marital deduction or A/B trust, is considered the tax planning cornerstone for many combined marital estates. This trust can as much as double the amount that's exempt from taxes. It does this by dividing the original estate between the 2 spouses, allowing both to take advantage of the estate tax exemption, which in 2003 is $1 million per individual. But in order for the bypass trust to work, it must be funded with property that is jointly owned. According to Stephen Pollan, author of (Harper Collins; 2000), a couple must own property separately, as community property, or as tenants-in-common.

A charitable remainder trust (CRT) can be a very useful tool, particularly if you have an asset or investment that has appreciated considerably in value and you're looking for a source of lifetime income. Michael Palermo, JD, CFP®, points out that in its most basic form, the trust is set up and funded with the large asset or investment. A preselected, fixed-dollar, or percentage payment is made to you from the trust each year for the remainder of your life. When you die, the remaining trust principal is turned over to a charity of your choosing. In addition to avoiding capital gains tax, you receive a tax deduction for the year in which you establish the trust.

If you want to leave money to your children but don't want to lose control over those assets, family limited partnerships are a viable consideration. Under this arrangement, Pollan writes, you and your spouse assume the role of general partners and your children are considered limited partners. Each year you give your children a percentage of your assets, or ownership, which counts toward the $11,000 annual gift allowance. Be certain not to go over the $11,000 annual gift-giving limit. Even if you eventually give away 99% of the assets/ownership, you still retain complete control while effectively removing it from your estate.

Less Common but Effective

A qualified terminable interest in property (QTIP) trust, Palermo notes, is a good arrangement for individuals who already have substantial estates and are entering second marriages. This trust provides lifetime income for the surviving current spouse, while leaving the remainder of trust property to the children from the previous marriage. Although the surviving spouse has an income interest in the trust, they cannot decide to whom the property will pass upon their death. In addition, distributions are not permitted from a QTIP trust to anyone but the surviving spouse during their lifetime.

If you're looking to shift some of the value of an asset out of your estate but retain the right to an annual payout for a period of years, Palermo suggests the grantor retained annuity trust (GRAT). As an example, suppose you create a GRAT and transfer $300,000 in mutual fund shares into it. The trust provides that you will receive a $6000 annual payout for 15 years, after which the trustee will make a complete and final distribution of the shares to your children. At the end of 15 years, if you're still alive, the value of the mutual fund shares, including any price increase, will have been removed from your estate and will not be subject to tax upon your death.

A generation-skipping trust (GST) is an irrevocable arrangement that provides income only, not access to the trust principal, to your spouse and/or children. It terminates when all these individuals reach a specified age or die. The trust principal is then distributed to your grandchildren. While some people shy away from the GST because they do not believe a financial plan can remain valid through 3 generations of a family, it remains a very popular trust.

CME Quiz

1) Dividing an estate between 2 spouses is usually done in a:

  • Bypass trust
  • Family limited partnership

2) If you have an asset or investment that has appreciated considerably in value, you may want to consider a:

  • Bypass trust
  • Generation-skipping trust

3) If you want to leave money to your children but don't want to lose control of the assets, consider a:

  • Charitable remainder trust
  • Qualified terminable interest in property trust

4) Individuals entering a second marriage should make use of a:

  • Grantor retained annuity trust
  • Bypass trust

5) Living trust seminars are often scams aimed at selling:

  • Lottery tickets
  • Annuities

Answers: 1) b; 2) a; 3) c; 4) a; 5) d.

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