Living Trusts

Living Trusts are an important part of the estate plan. Living Trusts avoid costly probate at your death and simplify settlement of your estate. If the living trust is written properly, sophisticated provisions can be made to assure your wishes are carried out. Living trusts also have the advantage of keeping your financial affairs from being made public knowledge upon your death, unlike a conventional will.

Credit Bypass Trust

A living trust can also be used to minimize estate taxes. In an unplanned estate, a couple with a net worth of $1,200,000 would commonly leave the entire estate to their surviving spouse. Doing this would maximize the eventual estate tax due when the surviving spouse died. At the death of the first spouse with a living trust, however, a Credit Bypass Trust could be created. Six hundred thousand dollars could be put into this bypass trust for the benefit of the surviving spouse. At the death of the surviving spouse, assets remaining in this bypass trust could go to the children with no estate taxes (under the $600,000 lifetime exemption).

In the above example, the $1,200,000 dollar estate would pass without estate taxes because of the Credit Bypass Trust. By using both unified credits through the Bypass Trust, this well planned estate saved over $200,000 in estate taxes! This does not mean that a will necessarily creates a taxable estate. In the above example, if the first spouse to die willed $600,000 in assets to his or her children (which is not commonly done when there is a surviving spouse), and the second spouse died with a $600,000 estate, there would be no estate taxes due. Also, a testamentary trust could be established in the will which could have the same benefit as the credit by pass trust created in the living trust. This is rare, however, because most people who are this sophisticated in their wills usually go into living trusts.

It must be emphasized that a living trust does not eliminate estate taxes. Any married couple with over $1.2 million in assets, or a single person with a net worth of over $600,000, will be subject to estate taxes with or without a living trust.

A good attorney should be consulted if you are considering a living trust. If you have a living trust, or are considering one, make sure that it is properly funded. Many people create living trusts and then forget to put their assets in the trust. You are wasting your time with the living trust if you and your attorney do not pay attention to this crucial detail.

Charitable Remainder Trusts

Charitable Remainder Trusts (CRTs) are often used concurrently with life insurance in the estate planning process. CRTs (also called Unit trusts) are usually used when an individual has highly appreciated assets. Assume that you have some bare land worth $200,000 and a very low cost basis (i.e. you paid $20,000 for the land 30 years ago). You would like to sell the land and convert it to an asset that could pay current income to you. If you sell the land, you will have to pay a substantial capital gains tax and lose much of your asset's value in the process. An answer to this problem can be a CRT.

The landowner could make a charitable contribution of the land to a CRT. The CRT could then sell the asset and not have to pay the capital gains taxes. This would allow all the money to be reinvested in income-producing vehicles such as bonds, Ginnie Maes, CDs, income stocks, etc. The investment income can then be paid to you for the rest of your life, or it could be paid to you and your spouse for the rest of both your lives. You also receive an immediate income tax deduction -- not for $200,000, but for a lower figure based on the amount of income the CRT pays you each year, and your life expectancy. Upon your death or deaths, whatever assets are left in your trust will go to a charity that you choose. The advantages of a CRT are as follows:

1. Avoid Capital Gains
2. Income for life
3. Immediate Income Tax Deduction
4. Benefiting a worthwhile charity! (It is worth noting that charitable intent is not required. A CRT often makes financial sense without considering the benefit to the charity).

The primary disadvantages of a CRT are:

1. Loss of direct control of the asset (although you can name the trustee of the CRT).
2. The disinheritance of your children from the asset that you put in the CRT.

To minimize the second disadvantage, life insurance is frequently used to replace the asset that the children have lost to the CRT. Often times a wealth replacement trust (ILIT) is used concurrently with a CRT. Creating this trust has the advantage of replacing an asset that is in the taxable estate with one (the life insurance in the ILIT that is outside of the estate and therefore not subject to estate taxes. Frequently, the life insurance premiums can be paid by the tax savings from setting up the CRT.

When setting up a CRT, you should start with a good CPA who can help you analyze the financial advantages and disadvantages. Also, your CPA can advise you whether or not the CRT will create an Alternative Minimum Tax problem. Next, consult with your attorney who will actually draft the trust. You may want to get some financial advice on the investments inside the CRT from your financial planner. Finally, check with your insurance advisor to look into the costs of a life insurance policy.

Some people that set up CRTs do not tell the charity that they will eventually be the beneficiary of the trust, but most notify the charity before they set up the trust. If there are enough assets in the trust and the other factors add up, the charity may be willing to pay for the legal and accounting expenses that go into creating a CRT.