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What is a By-Pass Trust?

Estate Planners | Monday, December 27th, 2010

When planning an estate, there are many different trusts to consider, each of them with different benefits and drawbacks for the grantor and the beneficiary. A trust can reduce the amount of money that your heirs will have to share with their least favorite uncle, Uncle Sam. One of the most popular is the by-pass trust, a simple trust that provides a range of long-lasting benefits. The by-pass trust relies on the use of the estate tax exemption, which is currently $3.5 million dollars. Under the estate tax (also sometimes called death tax) exemption, estates that are valued at the $3.5 million are not penalized with estate tax upon the death of the estate owner. The by-pass trust is right for many married couples who have assets that are worth more than $3.5 million and will allow both spouses to tax advantage of the exemption for the maximum allowable amount that can be passed on without tax to anyone other than the surviving spouse for a total of $7 million.

One of the best features of the by-pass trust is that even though the money that you leave behind is “ear-marked” for your children, the surviving spouse can tap into the trust in order to pay for living expenses when needed. But since this money by-passes both estates, it will never be hit with federal estate tax. Your last will and testament must contain language that will place conditions on the by-pass trust, including limiting the surviving spouse’s power to access the trust and distribute the trust assets upon death. Setting up and executing the by-pass trust is fairly straightforward, but you will need a lawyer to help you. Most by-pass trusts are set up so that (with a large estate) $3.5 million will go into the by-pass trust when the first spouse dies.

How Big Is Your Estate?

Many people fail to see the need to set up a trust of any kind because they don’t understand the true value of their estates. With homes, life insurance death benefits, retirement accounts, and more being thrown into the mix at the time of death, it really is easier than you might think for an average working couple to find their estate subject to the federal estate tax. This brutal tax can take as much as forty-five cents of every dollar over $3.5 million that is left behind when you die. Others mistakenly interpret the unlimited marital deduction that allows you to leave everything to your spouse, tax-free. This deduction merely postpones the need to pay estate tax until the surviving spouse dies, at which time the heirs can only use the single $3.5 million exemption to reduce their tax burden, resulting in a potential loss of hundreds of thousands of dollars that can be avoided easily by setting up a by-pass trust. An estate planner can help you to better understand the value of your estate and help you to determine if a by-pass trust is the best option for you.

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