Current Family Trust Plan without Amendment
Your current Family Trust plan is based on the simple premise that when the first spouse dies everything goes to the surviving spouse. The Family Trust avoids probate and is fully revocable and amendable by the surviving spouse. The Family Trust is designed to avoid probate and to create a distribution plan for your children or other beneficiaries. It is not designed to save estate tax because the old federal estate tax credit was $3,500,000. Thus, if your estate was less than that amount, you did not need federal estate tax planning built into your Trust.
When the fist spouse dies there is no federal estate tax because everything passes to the surviving spouse. However, when the second spouse dies there is federal estate tax if the total estate is worth more than the estate tax credit.
Here is the problem. The federal estate tax credit for 2009 was $3,500,000, for 2010 it was unlimited, and for 2011 it goes down to $1,000,000. Thus, all taxable estates over $1,000,000 will be subject to federal estate tax at a rate of 35% to 55%. There will also be state estate tax depending on the state you live in.
Assume your estate is $1,900,000 made up of the following assets.
| Bank | $20,000 |
| House | $280,000 |
| Stocks | $250,000 |
| H Retirement | $500,000 |
| W Retirement | $100,000 |
| H Life insurance | $500,000 |
| W Life insurance | $250,000 |
| Total Gross Estate | $1,900,000 |
When the first spouse dies everything goes to the surviving spouse. There is no federal or state estate tax on any money or property that passes to a surviving spouse. If we assume the husband dies, the wife is in full control of the Family Trust. The Trust remains revocable. The wife would rollover the retirement account into an IRA. Further, she would collect the life insurance policy. Because the assets are in the wife's name or in the Trust and the Trust is revocable, her assets are exposed to creditor claims. Further, if she remarries, the assets may become marital assets and at her death, some or all of the assets could pass to her new husband.
Assuming she does not remarried and does not get sued, at her death, her gross estate would be worth $1,900,000. Under the laws in effect for 2011, she is only allowed to shelter $1,000,000 from federal estate taxes. Thus, her federal taxable estate is $900,000. The federal estate tax due at her death is approximately $340,000, plus Ohio estate tax of $108,000; a total estate tax of $448,000.
Amended Family Trust Plan with Estate Tax Provisions
The amendment to the Family Trust creates the opportunity for both spouses to shelter up to $1,000,000 of property. When the first spouse dies, up to $1,000,000 is transferred to an irrevocable Trust called the "Credit Shelter Fund". This Trust shelters the first spouse's right to give property tax free. Rather than giving property outright to the surviving spouse, some of the property is paid to a Credit Shelter Trust that is controlled by and usable by the surviving spouse.
At the death of the first spouse, the following would occur.
Step one – Identify who owns the property in and outside of the Trust. If we assume the husband dies first, his property is:
| One-half of the bank account | $ 10,000 |
| One-half of the house | $ 140,000 |
| One-half of the stocks | $ 125,000 |
| All of his retirement account | $ 500,000 |
| All of his life insurance | $ 500,000 |
| Total of His Estate | $1,275,000 |
His estate is worth $1,275,000. Under the Amendment, ALL of his estate passes to his wife UNLESS she disclaims all or some part of the estate. A "disclaimer" is a legal document signed by the wife that says she does not want to accept an individual asset or some part of the estate. Thus, she can pick and choose what to accept and what to disclaim. Anything disclaimed goes to the Credit Shelter Trust. The choice must be made within nine months of her husband's death.
She needs the bank account for current spending needs so she would keep it. She would keep the house because there are income tax benefits associated with home ownership. She would also rollover the retirement account so she could delay income taxes on the IRA until her retirement. However, she could disclaim his half of the stocks and all of his life insurance. At his death, there is no federal estate tax and no Ohio estate tax. The items disclaimed would use his right to leave a Trust up to $1,000,000. Thus, at his death $625,000 of his estate tax credit would be used up. The rest is not used. We are making a decision to delay income taxes as being better than saving estate taxes.
As a result of the disclaimer, two funds would be created within the Family Trust
Martial Trust – This fund would hold all of the assets taken by or owned by the wife. The Marital Trust would hold the bank account, house, and her half of the stocks. She would also have an IRA worth $600,000 and the life insurance policy on her life. This Trust is revocable. She has full control and use of the assets. She can amend the Marital Trust at anytime. If she gets sued or gets married, the Marital Trust assets could be available to creditors and the new spouse.
Credit Shelter Trust – This fund would hold the disclaimed assets being one-half of the stocks and all of the life insurance. This trust is irrevocable. However, she is the Trustee so she can manage the assets. She is entitled to take all of the income, interest, and dividends from the Credit Shelter Trust. Further, she is entitled to take principal, as needed, for her health, education, support, and maintenance. She could use all of this Trust if she needed it for these reasons. Thus, while the assets are held in Trust, she is in control and can use the money for her needs.
| Martial Trust | Credit Shelter Trust | |
| Bank | $20,000 | |
| House | $280,000 | |
| Stocks | $125,000 | $125,000 |
| W Retirement | $600,000 | |
| H Life insurance | $500,000 | |
| W Life insurance | $250,000 | |
| Total Gross Estate | $1,270,000 | 625,000 |
Because the Credit Shelter Trust is irrevocable, her creditors cannot attack the Trust. If she gets sued, the Credit Shelter Trust is protected. If she remarries, the assets in the Credit Shelter Trust will not become marital assets if the marriage fails. Further, the Credit Shelter Trust assets will pass at her death to the children/beneficiaries, not the second husband or his children.
When she dies second in this example, the Credit Shelter Trust is not included in her estate even though she used it during her life. Her gross estate would be worth $1,275,000. Her federal taxable estate would be $275,000 after deducting her $1,000,000 federal estate tax credit. The federal estate tax due at her death would be approximately $74,000. The Ohio estate tax would be $64,000. The total tax would be $138,000.
Thus, by disclaiming certain assets and using up some of the husband's federal estate tax credit, the family saved approximately $310,000 in estate taxes.
The advantages of this Amendment are as follows:
- Provides the best estate tax planning irrespective of what congress decides. The plan works at a credit of $1,000,000 or $3,500,000.
- Disclaimer feature allows the surviving spouse within nine months of the deceased spouse's death to set aside as a separate portion the Trust that will be designated to hold the correct amount of the deceased spouse's share of the assets in order to fully utilize the deceased spouse's federal estate tax credit. The disclaimer allows her to pick and choose which assets to keep and which to put into the Credit Shelter Trust.
- Saves at least $24,000 in Ohio estate taxes. In this case the savings is $44,000.
- The Credit Shelter Trust is protected from the creditor claims of the surviving spouse. Thus, if she gets sued, the creditor cannot attach the Credit Shelter Trust.
- The Credit Shelter Trust is more likely to go to the intended beneficiaries of the estate plan rather than a second spouse or other unintended beneficiary. If she remarries, the assets in the Credit Shelter Trust will go to the children of the first marriage and that cannot be changed.
- The Credit Shelter Trust is not marital property in the event a subsequent marriage of the surviving spouse fails.
- The Amendment allows the surviving spouse to keep 100% of the house to enjoy the tax benefits of home ownership.
- The Surviving spouse is in full control of the Credit Shelter Trust, including receiving the income from and having control over the principal for the surviving spouse's health, education, support and maintenance.
In addition to the estate tax provisions described above, this Amendment will include two additional items as well.
The first additional item deals with a new notice provision added to the law by the Ohio Trust Code effective January 1, 2007. The Ohio Trust Code created complicated notice requirements (i.e. who gets notice and copies of your Trust). The new paragraph "Waiver of Notice Provisions" included in the amendment allows you to opt out of the formal requirements. This will make the administration of your Trust simpler.
The second item allows any IRA or retirement account payable to the Trust at the death of the second spouse, to be taxed as slowly as possible under the current law. Your IRA as it is paid to the Trust for your children or other heirs will stay in the IRA as long as possible.
