June 28, 2017
Are you married and is the last time you and your spouse updated your estate plan more than a few years ago?
Then chances are your estate plan contains good old “AB Trust” planning (also called “Marital and Family Trusts” or “QTIP” and “Bypass Trusts”) which, up until 2011, was the only way for married couples to double the value of their federal estate tax exemptions. All of this changed in 2011 when “portability” of the estate tax exemption between spouses was introduced for the first time.
In simple terms, “portability” means that when the first spouse dies, the surviving spouse can claim the deceased spouse’s unused federal estate tax exemption and add it to his or her own exemption. The good news is that portability has been made a permanent part of the federal estate tax laws. The bad news is that the AB Trust planning in your old estate plan may now do more harm than good.
Take, for example, Fred and June who have been married for 40 years. If Fred dies in 2014 and none of his $5.34 million estate tax exemption is used, then June can add Fred’s $5.34 million exemption to her own $5.34 million exemption so that June now has an exemption equal to $10.68 million. Better yet, all property passing outright to June from Fred’s estate, revocable trust, or by right of survivorship will receive a full step up in income tax basis to the fair market values as of Fred’s date of death. Subsequently, when June dies her beneficiaries will receive a full, second step up in income tax basis to the fair market value as of June’s date of death.
What if instead Fred and June have a typical 1990’s estate plan, which uses those good old AB Trusts to ensure full use of both spouses’ federal estate tax exemptions? If Fred and June were lax and neglected to update their 1990’s estate plan and Fred dies in 2014, then not only will June be stuck with AB Trusts that were drafted using decades-old planning priorities, but their heirs won’t receive any step up in income tax basis for the assets remaining in the B Trust when June dies. Instead, the heirs will inherit the B Trust assets with the income tax basis calculated as of Fred’s 2014 date of death. If June lives for a long time, then this could very well result in a large income tax bill when the heirs decide to sell the inherited assets many years down the road.
Fred and June’s story is only one scenario. It shows the down side of an old estate plan that uses AB Trust planning. On the other hand, there are still many good reasons for married couples to keep AB Trust planning in their updated estate plans. If you’re married and your estate plan is more than a few years old, then give us a call so that together we can determine if an AB Trust plan still makes sense for you and your family. It is quite possible that your existing estate plan can be revised so that it takes advantage of the good features of AB Trust planning while gaining the benefits of an additional step up in basis.