Taxes & the Advantages of Living Trusts
Original post by Leslie McClintock of Demand Media
A living trust is a legal entity established to hold property or other assets on behalf of another party. The entity that establishes the trust is referred to as the "grantor," the assets within the trust are called the corpus, and the person, persons or entity the trust is supposed to benefit are the beneficiaries. A living trust is legally distinct from the grantor, and assets held within an irrevocable trust are not considered part of the grantor's estate.
Trusts and Estate Planning
The primary tax benefit of living trusts is that because trusts never die, they never have to pay estate taxes. As of 2011, the Internal Revenue Service levies a 35 percent tax on all individuals' personal assets over an exemption amount of $5 million, except where the inheritor is a spouse. When an individual establishes an irrevocable living trust, however, the assets are no longer considered part of the estate. This means they don't count against the $5 million exemption, and no estate tax will be levied on the assets in the trust when the grantor dies.
Revocable vs Irrevocable Trusts
To qualify as having been removed from the estate, and therefore exempt from the estate tax, the trust must be irrevocable, which means the terms cannot be changed. The grantor cannot retain meaningful control over the assets within the trust, or the ability to dissolve the trust and reclaim the assets.
Trusts and Income Tax
Trusts are not exempt from income tax, and must file an annual return disclosing any income received from the assets held within the trust. The IRS imposes an income tax on trusts as high as 35 percent. The tax code is designed to encourage trusts to disburse assets, rather than let them accumulate.
The trust can be designated as a Crummey Trust if the grantor wants to give a large gift to a child without running afoul of gift tax laws. The giver must pay gift taxes on gifts greater than $13,000 if the recipient does not have rights to the benefit of the gift. A Crummey Trust restricts the recipient's access to the amount of the gift to 30 days after the transfer was made to the trust. If the recipient does not demand the gift at that time, then the language of the trust takes over, and access may be restricted. This allows parents or grandparents to transfer up to $13,000 in gifts to the trust, and still qualify for tax-free treatment under gift tax exemption laws.
- UncleFed.com: IRS Cautions on Abusive Trusts
- Internal Revenue Service: Form 1041 - Income Tax Return for Estates and Trusts
- Nolo.com: Living Trust FAQ
- Wills and Probate: What Is a Crummey Trust
- David M. Kaufmann, CPA: Trust Income Tax FAQs
About the Author
Leslie McClintock has been writing professionally since 2001. She has been published in "Wealth and Retirement Planner," "Senior Market Advisor," "The Annuity Selling Guide," and many other outlets. A licensed life and health insurance agent, McClintock holds a B.A. from the University of Southern California.