Most people want to limit the amount of tax they pay. Whether it’s income tax, estate tax, or capital gains, we’re all looking for legal ways to protect our hard-earned dollars from the tax man. Sometimes trusts, like a credit shelter trust, offer avenues for tax reduction. However, before deciding to use a credit shelter trust, it’s important to understand the trust itself.
A Credit Shelter Trust
Trusts typically consist of the following:
- A grantor, who establishes and funds the trust;
- The trustee, who manages the trust and makes distributions; and
- At least one beneficiary, who receives distributions.
Another thing that all trusts have – a purpose. Trusts are not created for fun, there’s always a reason.
The credit shelter trust is an irrevocable trust. Typically, this type of trust is created to allow affluent married couples to reduce future taxes as much as possible. The surviving spouse and children of the deceased trust maker may benefit from this type of trust also.
How a Credit Shelter Trust Works
Like all trusts, there is a grantor and at least one beneficiary. However, the roles played by the couple depend on which spouse passes away first. The settlor is the person who dies first, and the trust is funded from that individual’s estate. The surviving spouse becomes the primary beneficiary but does not act as the trustee.
The deceased spouse’s estate passes to the credit shelter trust, with the surviving spouse named as the primary beneficiary. At the surviving spouse’s death, the trust assets are distributed to heirs according to the terms of the trust.
Why Use a Credit Shelter Trust?
Advantages to establishing this type of trust include:
- The deceased spouse’s estate tax is reduced or eliminated because the amount used to fund the trust is no longer part of the taxable estate.
- Although the surviving spouse is not the trustee, he or she may still access the trust assets if needed.
- Couples can take full advantage of state and federal estate tax exemptions.
- The surviving spouse’s estate tax typically is lowered also.
- Heirs can avoid or limit capital gains tax. The cost basis on assets transferred to the trust usually changes to the value at the time of transfer. When the surviving spouse dies, his or her heirs are responsible on capital gains tax from the time the trust was funded, not when the asset was purchased. Caution should be exercised because a credit shelter trust may not be for every taxable estate.
Trusts Are Complicated
Choosing the wrong trust or failing to properly draft the trust agreement can lead to unintended, unpleasant consequences. Always consult a lawyer before creating and funding any trust.
The experienced business attorneys at Virtus Law have what it takes to assist with your legal concerns. Please contact us by calling 612.888.1000 or emailing us at email@example.com. Our main office is in Minneapolis, with other offices located in Maplewood, Cambridge, Edina, Mendota Heights, and Red Wing.