As the Tax Cuts and Jobs Act sunsets existing estate tax exemptions by the end of 2025, adopting a wait-and-see approach may exert additional stress on the system, preventing many from accessing the assistance they need to adjust their estate plan. Put simply, it's similar to filing your taxes 10 days before they are due—you miss out on planning and implementation strategies that could significantly impact your financial well-being.
To explore some of the available options, I've highlighted several popular trusts and planning techniques that can be implemented before the sunset.
Types of Trusts:
Revocable Living Trust (RLT)
A Revocable Living Trust (RLT) is a cornerstone of estate planning for affluent individuals. It allows you to maintain control over your assets during your lifetime while avoiding probate at death. With an RLT, you can designate how your assets will be managed and distributed, ensuring a smooth transition for your loved ones. It's a flexible tool that can be adjusted as your circumstances change.
Irrevocable Trust (IRT)
For those seeking to minimize estate taxes and protect assets from creditors, an Irrevocable Trust (IRT) is invaluable. Once assets are transferred into an IRT, they are no longer considered part of your estate, reducing the tax burden on your heirs. Additionally, IRTs offer asset protection, shielding your wealth from potential legal claims or financial liabilities.
Grantor Retained Annuity Trust (GRAT) and Grantor Retained Unitrust (GRUT)
GRATs and GRUTs are ideal for transferring appreciating assets to future generations with minimal tax consequences. By placing assets into these trusts, you can retain an income stream for a specified period, with the remaining value passing to your beneficiaries. This strategy allows you to "freeze" the asset's value for gift tax purposes, potentially transferring significant wealth to heirs tax-free.
Note: Sheryl Sandberg, Facebook’s COO, reportedly used a GRAT to pass down $19 million in Facebook stock to her children without incurring gift taxes.
Dynasty Trust
A dynasty trust is designed to pass wealth from generation to generation, often indefinitely. Unlike a GRAT, which has a specified term, a dynasty trust can last for multiple generations. The grantor can fund the dynasty trust with assets, and these assets are subject to gift tax at their present value when the trust is established. Any increase in the value of those assets over the years is not subject to further gift or estate tax. Income taxes are still due on income generated by trust assets.
Charitable Trusts (CRT and CLT)
Beyond providing for the people most important to you, charitable trusts allow you to leave a lasting impact on causes you care about. A Charitable Remainder Trust (CRT) enables you to receive income from the trust during your lifetime, with the remainder benefiting your chosen charity. Conversely, a Charitable Lead Trust (CLT) provides income to charity for a specified period, with the remaining assets passing to your heirs. These trusts offer philanthropic fulfillment while reducing estate and income taxes.
Special Needs Trust (SNT) and Spousal Lifetime Access Trust (SLAT)
If you have a family member with special needs, an SNT ensures they receive necessary care and support without jeopardizing government benefits. It provides for their unique needs while preserving eligibility for programs like Medicaid. On the other hand, a Spousal Lifetime Access Trust (SLAT) is designed for married couples looking to transfer assets to the surviving spouse and future generations. It offers asset protection and tax advantages while providing for the spouse's needs.
Bypass Trust, Generation-Skipping Trust (GST), and Crummey Trust
For estate tax planning, a Bypass Trust is a strategic tool to maximize both spouses' estate tax exemptions. It "bypasses" the surviving spouse's estate, preserving wealth for future generations. A Generation-Skipping Trust (GST) allows you to transfer assets directly to grandchildren or later generations, avoiding estate taxes in multiple generations. Lastly, a Crummey Trust leverages annual exclusion gifts, providing beneficiaries with withdrawal rights to maximize tax-efficient gifting.
Qualified Personal Residence Trust (QPRT) and IRA Inheritance Trust
If you have a cherished family home or vacation property, a QPRT can transfer ownership to heirs while reducing gift and estate taxes. It allows you to continue using the property for a specified term before passing it to beneficiaries. Similarly, an IRA Inheritance Trust is tailored for retirement account planning, ensuring tax-efficient distributions to heirs while maximizing benefits and minimizing tax liabilities.
Now let's examine some more advanced techniques associated with establishing trust.
Premium Financed Life Insurance
This is a relatively new technique that gained prominence in the early 2000s and continues to be a valuable tool. This allows the option to finance life insurance like you would for a business or real estate assets.
This is used to maximize existing capital instead of deploying your personal or business capital into life insurance premiums, you can obtain a loan for the premiums from a bank and pay the lender interest only until the loan is repaid from the policy’s cash values (or other resources) or the insured dies retiring the loan with the policy’s death proceeds. A dynasty trust or business would own and be the beneficiary of the policy for the remaining proceeds without affecting your balance sheet.
Preferred Partnership Freeze (PPF).
The overriding essence of the PPF captures natural discounts associated with the lower interest rates combined with declining asset values as markets may adjust, especially in real estate.
This strategy places the assets you expect to appreciate in the long run, frozen at today’s lower valuations while shifting the future appreciation into a dynastic trust for future generations spanning 365 years. For depreciable property, like rental real estate, the PPF combines the best of the estate tax deferral of the “freeze.” It provides for a favorable income tax-free “step up” in basis for capital gains elimination and increased depreciation and amortization at your death. It is rare that a strategy will allow both.
Each of these trust options offers unique benefits and strategies to achieve your estate planning goals. To navigate this dynamic landscape book time with an experienced estate planning attorney or financial advisor. Now is the time to review and update your goals and objectives with new and approaching legislation.
Whether you are a client or looking for a second opinion, at Wealth Advisory Lab, we have an extraordinary network of experts in their field.