An A/B/C Trust (sometimes referred to as a “Q-TIP” or “Qualified Terminable Interest Property” Trust) is similar to an A and B Trust in purpose and function. However, an A/B/C Trust is for married couples with estates that are clearly above the estate tax exemption amount.
The benefit of an A/B/C Trust as opposed to an A and B Trust is that the A/B/C Trust not only divides the decedent’s assets from the survivor’s assets. But further divides the decedent’s assets between those with a total value up to the exemption from estate tax and the growth on those assets. And the decedent’s assets over and above the exemption and the growth on them, which will be added to the survivor’s estate on the survivor’s death for estate tax computation only. So it segregates assets possibly subject to tax on the second spouses’ death from those that are not.
Similar to the A and B Trust, on the death of the first spouse, the trust assets are divided so that the survivor’s share (generally one-half) is allocated to the survivor’s trust (i.e., Trust “A”). The decedent’s share is divided into Trust “B” and Trust “C.”
One of these trusts receives assets up to the amount of the estate tax exemption. This trust is often referred to as the “Exemption” or “By-Pass” Trust (i.e., Trust “B”).
Any amount of the decedent’s share above the exemption is funded to the other trust (i.e., usually Trust “C”). This trust is often also referred to as the “Marital Deduction Trust.”
On the surviving spouse’s death, Trust “A” and the assets of the Marital Deduction Trust (i.e., usually Trust “C”) will be subject to estate tax together with the survivor’s assets if the total exceeds the exemption amount. The assets of the By-Pass or Exemption Trust (i.e., Trust “B”) including the growth thereon, will not be subject to the estate tax on the survivor’s death.
After the first spouse’s death, Trust “B” and Trust “C” will each usually be required to file their income tax returns. The net income of these trusts generally is payable to the survivor and passes through to the survivor for income tax purposes. The Bypass or Exemption Trust (and often the Marital Deduction Trust) will have limits/ restrictions on the availability of the principal for the survivor.
As you can tell, A/B/C Trusts are much more complex than the Standard Trusts we prepare. However, because of the tax benefits of creating an A/B/C Trust, it is appropriate in certain situations. Consult with an experienced estate planning attorney to determine if an A/B/C Trust is proper in your circumstance.
Example 1: Not Understanding Your Trust
Marty dies. Christie is the beneficiary of Marty’s “B” trust. Christie is surprised to find out that she only receives income from the “B” trust and can get principal, but only if she has no other money and then only for health and support. Moral of the story: she shouldn’t have been surprised because by its very nature a “B” trust must have certain limitations built-in. Otherwise, you lose the protections described above.
Example 2: Wife Changes Revocable ‘A’ Trust After Husband Dies
Marty and Christie have a second marriage. Each has two children from the previous marriage. Marty’s estate is $11.4 million of separate property, and Christie’s estate is $11.4 million of separate property. They set up a joint trust that leaves their estate equally to all four children. Sounds good, right?
When Marty dies, Christie follows the trust terms and puts Marty’s $11.4 million in the irrevocable “B” trust and puts her $11.4 million in the revocable “A” trust. So far, so good. But later Christie changes the “A” trust, leaving everything to her children. This means that Christie’s children get 100 percent of “A” and 50 percent of “B”; or, to put it another way, 75 percent of the total estate goes to Christie’s children, and 25 percent goes to Marty’s children. This result can be avoided with a little forethought.
Example 3: Irrevocable Trust Protects Children’s Inheritance
Christie dies. Marty does not divide the trust like he is supposed to. Instead he parties. Marty meets a younger woman, and they get married. They go on cruises, visit Europe, and live high. Marty dies and only $11.4 million is left. Marty’s third wife files a lawsuit to get what’s left in the trust. The court finds that the remaining money is Christie’s and should have been transferred to the “B” trust. Marty’s and Christie’s children split the inheritance in four ways. The third wife gets nothing, as she had no rights in Christie’s property.
Example 4: Future Income Taxes
Jim and Alice Anderson have an estate of $15 million. They have an old A/B/C trust established when the exemption was $11.4 million. Jim Anderson has passed and the trust is divided equally between the “A” and “B” trust. The capital assets received a basis step-up to fair market value when Jim died. However, when Alice dies there will be a basis step-up only in the “A” trust assets.
Bob and Nancy Jones also have an estate of $15 million. They restated their trust in 2014 and optimized their future income taxes, eliminating the old “B” trust and substituting a new irrevocable trust in its place. The Jones trust will receive a basis step-up when Bob dies and again when Alice dies, on all trust “A” and trust “B” assets. All estates of $22.8 million or less should be reviewed to optimize the tax basis step-up.
Yes, these stories go on and on and on. If you have a trust, whether it’s an A/B or A/B/C trust, you should have it reviewed every five years by your estate planning attorney – particularly if your estate has changed and/or gained in value.
Flex Tax and Consulting Group has served and managed all types of tax and revenue collection for the U.S. for more than eight years. Our value-added services and solutions are based on innovative thinking that fits our valuable clients’ needs. If you have any questions, please don’t hesitate to contact us at 415-860-6288 or [email protected].
