Trust Dismantling

IRS rules for early termination of a trust are complex; so are the rules for moving assets from one trust to another. The most popular trust for married couples is the AB trust, a means of avoiding or postponing federal estate taxes on estates whose net valuation is > $5.25 million (2013), or $10.5 million for married couples.

The “A” trust holds assets for the surviving trust (the person above ground); the “B” trust (also known as a “bypass trust”) sets aside assets for heirs, while usually providing liberal withdrawals (e.g., health, education, maintenance, and support plus the > of 5% of trust assets or $5,000 per year) for the surviving spouse. While both spouses are alive and competent, an AB trust is easy to unwind or modify since it is a type of revocable trust. However, once a spouse dies or becomes incompetent, the B trust becomes irrevocable.

Trust owners of any revocable trust can easily add or subtract assets from the trust by simply going to the financial institution and changing the account’s title (e.g., “change the account from Smith Family Trust to Tom and Janet Smith, JTWROS.”). Sometimes, the simplest strategy is to have a disclaimer trust. A disclaimer trust gives the surviving spouse the option of dismantling the entire trust. If a B trust is not funded, a B trust tax return is not necessary. Such disclaimers are best used if the surviving spouse believes the estate will not be subject to a federal or state estate tax. Not having a B trust also means the survivor is not restricted and has full access to what would have been B trust assets.

Termination of qualified personal residence trusts (QPRTs) is also being seriously considered with the higher federal estate exemption. With a QPRT, ownership of the home passes from the parent to the child while the parent is alive. The child pays no capital gains taxes until the child later sells the house. By putting the home back into the parents’ name, capital gains would be based on the FMV after the surviving spouse died.