What is a Bypass Trust
A bypass trust (also known as a credit shelter trust, exemption equivalent trust, or non-marital trust) is one of the most basic and effective estate planning tools for married couples. Learn about how it differs from a Revocable Living Trust, as described by this Wyoming attorney specializing in wealth management. The bypass trust serves two purposes:
1. To ensure that your assets go to the intended heirs, and
2. To reduce estate taxes by taking full advantage of the unified credit of the first spouse to die.
Suppose you and your spouse both have children from a previous marriage. If you die before your spouse, your assets may go to him or her (if you have no will or estate plan). Then when your spouse dies, all of his or her assets, including your assets, will be distributed according to his or her wishes, not necessarily yours. Your children may never see any of the property you would want them to have.
With a bypass trust, your assets will be held for the benefit of your heirs, but your spouse can still have access to the trust’s income and limited rights to invade the trust’s principal. Then, when your spouse dies, the assets are distributed according to your wishes.
As far as reducing estate taxes, a bypass trust works by taking advantage of your lifetime unified gift and estate tax credit. Every individual receives a credit of $1,000,000 (which will increase to $3,500,000 in 2009.) This means that during your lifetime and at death, you can transfer up to $1,000,000 without paying federal estate taxes in 2002. But if all your assets go to your spouse when you die, your unified credit will be wasted.
Transfers between spouses, including those made at death, are exempt from estate and gift taxes. So, suppose each spouse owns $1,100,000 in assets. If the husband dies first in 2002 and leaves all his assets to his wife, his estate will not owe estate taxes, but her estate will be worth $2,200,000 and may only claim a credit of $1,000,000 if she dies in 2002, and thus must pay estate taxes on $1,200,000. But if the husband uses a bypass trust to transfer $1,000,000 of assets to his children (thus “bypassing” the wife), he will still owe no federal estate taxes, but his wife’s estate, now worth $1,200,000, will still be able to claim the $1,000,000 credit, and thus will owe estate taxes on only $200,000.
Consult your estate planning advisor about the use of the bypass trust.
Disclaimed Amount Qualifies as Charitable Deduction
A father created a private foundation that was recognized as a tax-exempt organization and operated solely for charitable purposes. His children are the trustees. According to his will, which left the residue of his estate to his children, if any of the children disclaim their portion of the residue, the disclaimed portion will pass to the foundation.
One of his children proposed to disclaim all but a fractional interest of her share of the estate. In addition, all the trustees of the foundation will execute an amendment to the foundation agreement to ensure that the disclaimed amount will still qualify as a federal estate tax charitable deduction even though the disclaiming child is a trustee of the foundation. According to the amendment, any amount received as a result of qualified disclaimers by a foundation trustee will be placed in a segregated account. Any distributions from this account and any selection of recipients of these funds can be made only by a special trustee, which cannot include the disclaiming trustee or any of his or her lineal descendents.
The IRS ruled that the child’s disclaimer will be a qualified disclaimer and that the disclaimed amount will qualify as a federal estate tax charitable deduction for the father’s estate.