Magazine article The CPA Journal

Credit Shelter Trusts Remain Important to Estate Plans

Magazine article The CPA Journal

Credit Shelter Trusts Remain Important to Estate Plans

Article excerpt

For years, credit shelter trusts were regularly used as a basic estate tax planning technique for married couples. A typical credit shelter trust provides that assets up to the federal gift and estate tax exclusion ($5.34 million in 2014) are placed in trust and therefore "taxed" in the first spouse's estate. The assets remain in the trust for the benefit of the surviving spouse and are not subject to estate tax upon the surviving spouse's death. The balance of the estate passes to the surviving spouse or a marital trust and is not taxed due to the unlimited marital deduction. Without a credit shelter trust, if all assets were to pass to the surviving spouse, the first spouse's remaining gift and estate tax credit would be lost, resulting in a higher tax upon the death of the surviving spouse.

The concept of portability (i.e., allowing a surviving spouse to utilize a deceased spouse's unused credit amount) was first introduced by the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010. Initially set to expire at the end of 2012, it was made permanent by the American Taxpayer Relief Act of 2012. The purpose of portability was to simplify estate planning for married couples with small to midsize estates. When estate and gift tax portability became permanent, many estate planning and investment professionals assumed it meant the end of credit shelter trusts. In many cases, however, credit shelter trusts still play a vital role in estate planning.

Advantages of Portability

Simplicity of planning. Portability provides valuable estate planning benefits to couples. Reliance on portability alone requires little or no formal planning. Spouses can leave their assets to each other and use the exclusion remaining from the first spouse on the second estate, without needing to create testamentary trusts for the surviving spouse. Assets do not have to be balanced between a husband and wife during their lifetimes, and there is no need to consider the tax implications of which spouse dies first or of simultaneous deaths.

Ease of administration. Estates are easier to administer using portability. Because assets do not have to be placed in trust, the surviving spouse has complete control over the assets and the executor does not have to make decisions regarding trust funding. A timely estate tax return still must be filed, however, in order to preserve portability for the survivor.

Second step-up. Appreciating assets can obtain a second step-up in basis upon the death of the surviving spouse. Assets placed in a credit shelter trust are not included in the estate of the survivor, so they do not receive a step up in basis upon the survivor's death. For appreciable assets (such as businesses or real estate) that are likely to be sold by the beneficiaries rather than held long-term, this second step-up can add tremendous value, especially in light of high capital gains tax rates and the 3.8% net investment income tax (NIIT).


Consider the following example. Henry and Wendy are a married couple living in New York with $15 million in combined assets at Henry's death on January 1,2012. They made no taxable gifts during their lifetimes. Henry had a $5 million building in his name alone. The couple had $10 million in jointly held assets, which pays for their expenses. Upon Wendy's death on December 31, 2013, the building was worth $7 million and had accumulated $1 million of income since Henry's death.

Assume Henry made a will leaving everything to Wendy, with no credit shelter trust. Under the portability rules, Henry's unused exclusion of $5.12 million (2012 amount) is added to Wendy's estate's exclusion of $5.25 million (2013 amount) to pass $10.37 million free of federal estate tax. This results in a $4.46 million estate tax (combined federal and New York State) on Wendy's estate, now worth $18 million.

Had Henry set up a credit shelter trust in his will and had the trust been funded with file building (with the income staying in trust), the building would not be taxed in Wendy's estate, leaving her estate at $10 million. …

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