Estate Tax A-B Trusts

A-B Trusts have, historically, been utilized to reduce or negate federal estate tax (f.e.t.) in larger estates. However, since the increase in the exemption relating to f.e.t. over the past few years, the A-B Trusts has been utilized less frequently. This year, 2018, the exemption for an individual is $11 Million. As a result, A-B Trusts would provide protection of $22 Million for couples. Thus, only a small percentage of taxpayers require an A-B Trust in their estate plans regarding f.e.t.

There are two situations, however, in which A-B Trusts may still be viable.

1. Blended Families: In order to ensure that one-half of the community property estate and the separate property estate is received by a spouse’s own children, the A-B Trust may be necessary.

Without an A-B Trust, on the death of the first spouse, the surviving spouse usually owns all of the community property. This fact would allow the surviving spouse to leave all of such property to his/her own children. This action would create a disinheritance of the children of the first deceased spouse. If, however, an A-B Trust was in place, one-half (½) of the community property would be placed in the decedent spouse’s Trust B and the other half in the surviving spouse’s Trust A. Some access to Trust B could be arranged in the Trust for distributions of income and/or principal to the surviving spouse. This is a critical subject of discussion by the attorney in the planning process. The objectives would be to provide for the necessities of the surviving spouse and also insuring an inheritance for the children of the first deceased spouse on the death of the surviving spouse.

The major questions will be how much access will be left to the surviving spouse to invade Trust B and who will be the Trustee of Trust B. If the surviving spouse and an adult child of the first deceased spouse are designated as Co-Trustees of Trust B, there could be fireworks which could lead to legal proceedings. This issue MUST be discussed and specifically detailed in the Trust as this is a major area of conflict.

2. Multiple Property Owners: The A-B Trust can also be a proper planning device for couples who own multiple real properties. The issue in this case is property tax reassessment if the children are going to inherit all or some of the properties.

Under California law, we may exclude reassessment on property inherited by children with the following limitations:

1. The principal residence; and

2. Additional $1 Million from each transferor.

If we utilize a properly drafted A-B Trust, we achieve two transferors of property – Trust A and Trust B.

This allows the property owners to transfer the principal residence and $2 Million to their children free from property tax reassessment. This can be a significant strategy for couples with multiple properties and especially for older or reduced life expectancy clients. Anyway, this should become an object of discussion in the planning process, and proper wording in the Trust distribution is critical to obtain these objectives.