Estate Planning as a Career

Trust Basics

August 31st, 2011 Filed under: ab trust — Estate Planning Author

The Actors

A person owns an asset. The owner acquired the asset, controls the asset and benefits from the asset. A trust is a written document creating three separate actors for the asset.

Creator – The owner of the asset creates the trust is known as the settlor or trustor

Trustee – The trustee is the person who has the responsibility or duty of caring for the asset.

Beneficiary – The beneficiary is the person who enjoys the asset

When a trust is created, the creator, trustee and beneficiary are the same person. But on the death of the creator, different people step into the shoes of the trustee and the beneficiary. The trustee has duties and responsibilities relating to the care and distribution of assets and the beneficiary receives the assets or the benefits of the assets.

Irrevocable Compared to Revocable Trust

There are two types of trusts, revocable and irrevocable. Irrevocable trusts cannot be changed or revoked. Irrevocable trusts are used for reduction of estate taxes and post death control of assets. Trusts that are irrevocable upon creation are used for advanced estate planning to reduce or eliminate federal estate taxes. Trusts that become irrevocable on death and do not require the immediate distribution of assets are used for either charitable purposes or to restrict access to the assets of the trust by the children and grandchildren of the trust creator.

Revocable trusts can be amended, restated and revoked. The vast majority of trusts created in California are revocable trusts that require the timely distribution of assets on death to beneficiaries of the trust who have attained 18 years of age.

AB, Exemption, Credit Shelter and Bypass Trusts

A hybrid trust is the AB Trust, also known as credit shelter, bypass and exemption trust. This trust is created by a married couple and is revocable. Upon the death of the first spouse, the assets of the first spouse are placed into an irrevocable trust. The purpose of the irrevocable portion of the trust is to protect the estate tax exemption of the deceased spouse.

Each person in the United State has an exemption amount that is not subject to estate taxes. There is no California estate tax. Currently, the first $5 million of a decedent’s assets transfer to the decedent’s heirs without paying any federal estate tax. The $5 million exemption sunsets in the year 2013 and the exemption amount is reduced to $1 million.

Assume the first spouse dies in 2013 and the married couple has no trust, but does have $2 million in assets. The federal government does not tax widows and widowers. So the deceased spouses $1 million transfers to the surviving spouse estate tax free. Now the surviving spouse has $2 million in assets. Upon the death of the second spouse, the first $1 million in assets will transfer to the children estate tax free, but the second million dollars will be subject to estate tax.

The AB trust preserves the exemption amount of the first spouse to die. The deceased spouse’s assets are placed in the irrevocable trust and are effectively taxed. But the exemption amount offsets any estate taxes. At the death of the second spouse both trusts are combined and distributed to the children. This type of trust doubles the exemption amount.