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What is an A/B Trust?

Estate Planners | Monday, December 20th, 2010

The sole purpose of an A/B trust is to save on death taxes (estate taxes) that are assessed by the Internal Revenue Service when someone dies. This type of trust only works for those that are married when they pass away. The A/B trust can be beneficial to couples and their children or other loved ones in a variety of ways and is a very viable estate planning tool.

Basics of an A/B Trust

Under existing legal guidelines, spouses can bequeath one another a limitless amount of money when they pass away, without the worry of estate tax, due to an Internal Revenue Service tax rule stipulation. This deduction permits the first spouse that passes away to leave as much of their estate to spouse that is left behind as they wish to, free of tax. Nonetheless, when the surviving spouse passes away and passes their estate on to their heirs or children, the estate will benefit just from the remaining spouse’s tax exemption. In effect, the first spouse’s exemption is wasted. The A/B trust preserves the exemption of the first spouse to die. Thus, when the first spouse passes away, up to 3.5 million dollars can be placed into an A/B trust. Even when the surviving spouse dies, the A/B trust is not taxable.

The A/B trust starts out as a simple revocable trust until the first spouse dies. At that time, the trust is then divided into what are known as sub-trusts, trust A (the survivor’s trust) and trust B (the credit-shelter trust). The survivor’s trust will remain revocable and will contain the survivor’s property interest, with the surviving spouse being in control of the trust. The trust typically will be in receipt of all assets in excess of the applicable exclusion – currently 3.5 million dollars. The credit-shelter trust is irrevocable and is made up of the deceased spouse’s assets. These assets can pass free of taxes, equal to the unused applicable exclusion. This trust is engineered to be a bypass trust that can be passed from one generation to the next without triggering a transfer tax. The surviving spouse can use assets from credit-shelter trust for their needs.

A/B Trust Benefits

The benefits of an A/B trust include:

* Doubles the life-time exemption from the federal death tax or estate tax.

* Ensures that the surviving spouse is financially taken care of upon the death of the first spouse.

* For the surviving spouse, an A/B trust will allow for access to the income of the trust for their lifetime; the surviving spouse can use the principal of the trust for needs like health, maintenance, education, and support.

* Allows for the maximum benefits of the estate for children or other heirs.

* Prevents the surviving spouse from changing the beneficiary selection of the deceased spouse.

* May help to avoid or decrease federal estate tax burden when the couple’s estate value when the second spouse dies is higher than anticipated.

Although not all couples will benefit or need an A/B trust, even those married couples that do not believe that they will be affected by the federal death or estate tax should still determine whether they may be subject to any state estate tax. Further, since your assets may appreciate in value, you should also determine during estate planning if you may have a taxable estate in the years to come, as an A/B trust can be very beneficial to protecting your estate as outlined above. A regular review of your estate with an estate planner is the best way to make these determinations. The estate planner can advise you on adjustments that should be made due to changes in your net worth, personal circumstances, and tax code laws.

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