Under such a trust all income must be paid at least annually to the surviving spouse. (2) The trust can be invaded only for the benefit of the surviving spouse, and no conditions can be placed upon the surviving spouse's right to the income (e.g., it is not permitted to terminate payments of income should the spouse remarry). However, in order to qualify the executor must make an irrevocable election to have the marital deduction apply to property placed in the trust. (3) This requirement not only gives the executor the power to determine how much, if any, of the estate will be taxed at the first death, it also provides great flexibility for post death planning based upon changing circumstances. (4)
Our example assumes that in 2009 we have an estate of $10,000,000. (5)
UPON THE FIRST DEATH, the estate is divided into two parts, with one part equal to $3,500,000 placed in a family or nonmarital trust ("B" trust in the chart). (6) No taxes are paid on this amount since the trust takes full advantage of the $1,455,800 unified credit (i.e., the amount of credit in 2009 that allows each individual to pass $3,500,000 tax-free to the next generation). The remaining $6,500,000 is placed in the QTIP trust. (7)
The executor may elect to have all, some, or none of this property treated as marital deduction property. Assume that in order to equalize the estates and save overall estate taxes the executor decides to make a partial election of $5,000,000 (i.e., of the $6,500,000 placed in the QTIP trust only $5,000,000 will be sheltered from estate taxes at the first death). (8) This means that $1,500,000, the "nonelected" property, will be taxed at the first death. Although $675,000 of estate taxes must be paid, the remaining $825,000 will now be excluded from the taxable estate of the surviving spouse (any appreciation of this property after the first death will also be excluded). (9) If authorized under the trust document or by state law, the executor can sever the QTIP trust into separate trusts. (10)
UPON THE SECOND DEATH, the estate subject to taxation is limited to $5,000,000 (the amount remaining in the trust for which estate taxes were deferred). After paying taxes of $675,000, there remains $4,325,000. (11) This amount, together with the $825,000 from the severed trust and the $3,500,000 from the "B" trust, are passed to the beneficiaries under the terms previously established in these trusts. (12)
INFORMATION REQUIRED FOR ANALYSIS & PROPOSAL
Attorney Drafting Will And Trust Must Know
1. Spouse's name.
2. Children's names.
3. Name of executor/executrix.
4. Ages of minor children.
5. Information regarding children of prior marriages.
6. Names and ages of other beneficiaries.
7. Trustee after testator's death.
8. To whom, in what amounts, and when trust income is to be paid.
9. To whom, in what amounts, and when trust corpus is to be paid.
CROSS REFERENCES TO TAX FACTS ON INSURANCE & EMPLOYEE BENEFITS (2010)
Q 863. Description of the estate tax marital deduction (to include qualified terminable interest property).
Q 866. Credits which may be taken against the estate tax.
Q 867. Description of the unified credit.
Q 919. Description of the gift tax marital deduction (to include qualified terminable interest property).
(1) QTIP stands for "qualified terminable interest property." Assets placed in a QTIP trust are referred to as qualified terminable interest property. Under the exemption trust will, to take advantage of the unlimited marital deduction the traditional "A" trust (marital trust) must give the surviving spouse the power to appoint, during lifetime or at death, all property placed in this trust in favor of the surviving spouse or the surviving spouse's estate (see chart, page 29). However, this arrangement is objectionable to some individuals, since control is lost over the eventual disposition of the property (e.g., a surviving widow could pass the property to her new husband or to her children by a prior marriage).
(2) Property placed in a QTIP trust must be income producing and the surviving spouse is typically given the power to force the trustee to make trust property productive. The spouse's income interest may be contingent upon the executor's election. Also, limited powers given to the spouse to invade the corpus of the QTIP trust may be contingent (e.g., upon the executor's election or upon the spouse not remarrying).
(3) This election by the executor cannot be mandated by the deceased prior to his death. It must be done on the estate tax return and cannot be revoked after the date for filing the return.
(4) For a discussion of the nontax reasons why a testator may not wish to take advantage of the marital deduction, see footnote 5, page 31.
(5) The $10,000,000 estate is equivalent to the adjusted gross estate (see chart, page 19). To simplify the example, the taxes are calculated assuming no debts, expenses, deductions, or prior taxable gifts, and no prior use of the unified credit.
(6) Funding of the "B" trust is limited to the unified credit equivalent, $3,500,000 in 2009 (see footnote 6, page 21, and footnote 2, page 31). QTIP trusts combined with disclaimers have been increasingly used after EGTRRA 2001. For example, rather than using a tax-driven formula to allocate property to the "B" trust, a single QTIP type trust is established. This allows the surviving spouse to disclaim assets that then pass into either the marital trust or the "B" trust.
(7) This example shows the QTIP trust being used only with the "B" trust (family trust). When the "A" trust (marital trust) is also used, it provides the executor even greater flexibility in allocating assets between the QTIP trust and "A" trust (see chart, page 29).
(8) The tax savings in this example potentially come from the equalization of the estates, thereby allowing both estates to be taxed at the lowest possible tax rate.
(9) Liquidity for paying estate taxes at the first death might come from the tax-free death proceeds paid to an irrevocable Life Insurance Trust (see chart, page 63).
(10) The division of the QTIP trust must be done on a fractional or percentage basis to reflect the partial election. It is not necessary that each asset be divided pro rata between the severed trusts; so long as it is based upon the fair market value of all trust assets at the time of the division.
(11) The estate has a right of recovery for any taxes paid, unless waived by the deceased spouse (if there is no waiver, then the failure to recover is subject to gift taxes).
(12) Lifetime QTIP trusts can be used as an alternative to outright gifts.