People establish trusts for many different reasons. Some for the management aspects to make sure their assets will be properly invested and not squandered away by a spendthrift child or spouse. Others establish trusts to make sure that if sued, their assets are protected from the claims of a creditor. A careful parent or grandparent may establish a trust to provide an inheritance earmarked for the next generation and even to make certain that their child’s assets are protected in the event of a divorce. Trusts can also be set up to provide for the welfare of a child, to provide for their educational fund or to send a birthday, graduation or wedding gift even after the grantor has passed away. A trust is an excellent way to provide a legacy to assure you will always be remembered.
Some individuals with sufficient assets that choose to leave their IRA principal intact for a grandchild might opt to set up an IRA trust. Doing so would allow the assets in the IRA to continue to grow tax deferred and accumulate for many years without having to take a distribution. This is known as a Stretch IRA and could continue to provide these benefits until the grandchild is in their 20’s or 30’s, a very smart and effective way to defer taxes on assets and actually skip a generation of taxes. Creditor protection for a beneficiary may also be another significant reason for a grantor to set up an IRA trust especially if the beneficiary might be sued because of their occupation, or personality.
Prior to the estate tax exclusion increasing to over $5,250,000 many attorneys advised their clients to use marital A B Trusts to reduce the size of the assets in their estate to escape the federal estate and state inheritance taxes. Many advisors also suggested that clients place their primary homes in a Qualified Personal Residence Trust (QPRT’S), to avoid having their value included in their taxable estate for estate tax purposes.
While there are many reasons for an individual or family to consider the benefits of establishing a trust, it is equally important that individuals review their trusts to make certain they are still operating in their best interest today. For example many individuals that placed their homes in QPRT’S, WILL wind up passing the ownership of the home from a parent to child while the owner is still alive. However, in doing so they gave up a significant tax benefit known as a stepped up basis at death. Meaning that a home purchased for $250,000 30 years ago that today may have appreciated to $750,000 would receive a value of $750,000 (value is stepped up to market value at death) and owe absolutely no capital gains taxes. However, if the house was placed in a trust to avoid estate taxes and winds up being transferred while the parent was still alive, the house would have retained its original cost basis $250,000 and they would have to pay a capital gain tax on $500,000 of profit, $750-$250. This is clearly an example where it would make a great deal of sense for many current QPRT arrangements to be terminated as the original reason for the underlying strategy, paying less estate taxes, has now changed.
Many young families with children that have special needs, set up a Special Needs Trusts (SNT) to enable their child to receive whatever public assistance they may qualify for, and in addition provide them with other assets when parents are no longer alive. If there aren’t sufficient assets to guarantee an income for the rest of a child’s life, then the trust can be funded with a life insurance contract. While it’s always important to choose a trustee wisely, never is it more important than when it comes to providing management for a special needs child for the rest of his or her life. Just as much thought should go into the selection of a trustee, as a trustee should carefully consider the duties and responsibilities he/she is assuming by agreeing to act as a trustee for their family or a close friend.
Too often people just appoint or accept the title as Trustee but don’t understand the fiduciary liability they now assume as they become personally liable to preserve the assets in the trust. This most commonly occurs when a life insurance contract was purchased and in order to exclude the death benefit from their taxable estate their attorney advised them to select an individual to act as trustee, for their trust owned life insurance (T.O.L.I). Often times a son or daughter or friend is chosen, unknowingly placing them in a position where their lack of knowledge about their duties may place them and the attorney making the suggestion in a position where they can be sued by other family members if a universal life insurance contract is allowed to expire because it wasn’t properly reviewed.
Unfortunately many consumers are still not aware that their Life Insurance may not be there at their death, simply because they purchased a universal life insurance contract that unknowingly was not guaranteed. Many OF these contracts were taken out 20-25 years ago in the mid 80’s when the interest rates were significantly higher (13-15%) than they have been over the last 10-20 years. As a result many of these contracts are expiring by as many as 8- 10 years earlier than anticipated. Reviewing a life insurance contract every 4-5 years is the only way to spot and correct any errors in projections made years earlier and place a troubled or underfunded contract back on track using one of three acceptable methods to remedy their particular situation.
One thing is certain — an individual is always better off if they take the time to overcome their own inertia which I call P.D.D, planning deficit disorder, and review their current situation to compare what they now have to what better arrangement may be available. Doing so may avoid a potential crisis and can often result in everyone’s best interest being served.
Henry Montag, partner in Financial Forums Inc., is an Independent Certified Financial Planner, in practice since 1976 with offices on Long Island and NYC. Henry has lectured extensively on the subject of the proper utilization of financial products to protect and preserve assets, for individuals and business owners to organizations such as the New York State Bar Association, the New York State Society of CPAs, and various regional and local banks.
Over the years he has developed an understanding of the overall coordination of a client’s assets, their goals as well as the features and benefits currently available in the financial marketplace today. He has been quoted in The Wall Street Journal, Investor’s Business Daily, Newsday, Long Island Business News, etc. He has appeared as a guest on Fox News, News 12, FIOS T.V. as well as many radio financial talk shows.
HENRY MONTAG CFP
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