This article will be helpful if you are a married woman whose family controls at least $10M of assets. It will be particularly helpful if you are a married woman whose husband has kids from a previous marriage, and those kids are roughly the same age as you.

I recently sat down with a widow who spent the last 3 years, and over $1M in legal fees, disputing her late husband’s estate with his kids from a prior marriage. While that may seem like an extreme situation, it’s not the first time I’ve come across it and I guarantee it won’t be the last.

Why is that?

Let’s assume Dad dies first and leaves his assets in 3 buckets, a common scenario for families with $10M+ in assets. Those buckets would be:

• Bucket 1: Survivor’s Trust – Mom has full control
• Bucket 2: Family or Bypass Trust – Mom has limited control and may have some access to income, designed to protect the kids
• Bucket 3: Marital or QTIP* Trust – Mom has mandatory access to all income

Even though buckets #2 and #3 are designed to protect the kids and ensure something of their inheritance will be left for them (no matter how long stepmom lives or how much she spends), they are still waiting for her to die to inherit any $!

*A QTIP trust, aka Qualified Terminal Interest Trust is an irrevocable trust which pays the trust’s income to the surviving spouse while retaining the principal for the benefit of other named by the deceased spouse.

And if the kids are in their 50s and the stepmom is also in her 50s, you can see how this structure is ripe for contention.

Frankly, even if stepmom is 70 and the kids are in their 40s, I’ve still seen issues because the kids have a vested interest in watching and scrutinizing how their stepmom is living her life, and spending her/their money.

A better approach

That’s why a better approach is to proactively address this dynamic in advance.

Most people think of life insurance as something you need to protect your income when you are young and the kids are little and the mortgage is large, but the situation we are describing here is also well suited for life insurance.

Depending on the size of the estate, this could also be done using liquid securities after they receive a full step up in basis at Dad’s death (held in a stand-alone separate property trust account that passes directly to his kids or remains in trust for their benefit at his death).

Either way, the proactive plan is designed to preserve harmony after Dad dies, and prevent his heirs from spending hundreds of thousands of dollars (or more) on legal fees and years of angst because no one anticipated this in advance.

My number #1 goal as an Advisor is to give my clients peace of mind.

This type of planning is designed to do exactly that.

Final note

Finally, our specialty is helping successful families navigate wealth and all the complexity that comes with it. We want to continue to write about the topics that are most important and interesting to readers like you – so if you have questions or blog article ideas, please reach out to us and let me know: rob@swrpteam.com

Disclaimer

This material is purely intended to be general and educational in nature and should not be construed as specifically tailored investment, financial planning, tax, legal, or other professional advice. Information and data contained herein is as of the date of publication and may be subject to change in the future without notice. Any investment performance referenced is purely past performance, which is no guarantee of any future performance. Nothing contained herein should be construed as an offer to sell, a solicitation of an offer to buy, or a recommendation of any security or other financial product or investment strategy. All investment, tax, and financial planning strategies involve risk that you should be prepared to bear. You are highly encouraged to consult with professionals of your choosing before taking any action based on this material.

I’ve spent the past 20+ years working with financially successful families, and one of the things that almost all of them have in common is an irrevocable trust. To be clear: for the sole purpose of avoiding probate, 100% of the families I’ve worked with have had a revocable living trust (RLT). But, an irrevocable trust is quite different.

Most people have heard of a simple RLT, but according to former accountant and tax legend Bob Keebler, there are 29 other types of trusts! And, since oftentimes the same trust will have multiple names (i.e. a Bypass trust is also known as a Family trust), I am sure you can find articles that count more than 30 kinds.

For today, I want to talk about Bypass trusts (aka Family trusts) and the 5 most common questions we get about them.

For a married couple with children, most RLTs have 3 parts:

1. What happens when both spouses are alive (usually nothing from a trust perspective)
2. What happens when one spouse dies (the purpose of today’s article)
3. What happens when both spouses die

After RLTs are created, signed, and funded, it’s normal for many years go by before they are looked at again. More often than not, the next time they’re reviewed is when a spouse dies (typically the husband dies first) and the wife is sitting down with her Attorney or Advisor to find out what happens next.

At that point, the spouse is surprised (and sometimes upset) to learn that their RLT says:

“At first death, place ½ of the estate in a survivor’s trust and the other ½ in a Bypass (or Family) trust.”

So, what does that mean?

The Attorney or Advisor then explains that:

• A new trust is going to be created.
• That new trust will be irrevocable.
• Assets equal to 50% of the value of the estate will need to be retitled into this new irrevocable trust.
• This new trust will have a separate tax return.
• Distributions from the trust (i.e. accessing the money that was “yours” before your spouse died) will be subject to the terms of the trust, and may be restricted.

Before you call your Attorney and demand that they revise your RLT (if both spouses are still alive, this can be done very easily), there are benefits to this kind of trust design. For today’s purpose I will not explain all pros and cons of a bypass trust, but I will write a follow up blog post on that subject. Email me: rob@swrpteam.com and I will send it to you.

What I will provide today are answers to the 5 most common questions I get when a spouse first learns that they will now have a Bypass trust in their life

1) Do I really have to fund my bypass trust at 1st death?

Technically yes. However, I once had an attorney say that if:

1. it was a first marriage;
2. all kids were from that marriage;
3. everyone alive agreed to sign a waiver,

that the surviving spouse could decide NOT to fund the bypass trust.

I am sure that many of the estate planning attorneys reading this are not going to like that answer, and I’m not saying it was the right thing for the attorney to do. But, they did it, and the mom’s still alive, the kids are all still doing well, and 100% of the estate remains in the survivor’s trust.

Given that, let’s look at an example of how a bypass trust gets funded when the first spouse dies. In our example, assume that dad died first and the assets in the estate were as follows:

• His IRA was worth $1.5M and his wife was named as primary beneficiary
• The house was paid off and was worth $2M, and was held in their RLT as community property
• The Schwab / Fidelity brokerage account was worth $2M, and was held in their RLT as community property

2) What do you mean our Revocable Living Trust says to create 2 (or even 3) trusts when my spouse dies?

RLTs were initially written in a manner that created 2 (or even 3) trusts as first death for estate tax reasons. However, the estate tax rules have changed so much that even for very successful families, this is often no longer needed. But, if you haven’t updated your trust in a while, you may find that this is how yours is still written.

To describe the 3 trusts I am referring to, we will use the terms A, B, and C trust to describe what typically happens at first death:

• A trust = the survivor’s trust
• B trust = the bypass/family trust
• C trust = the marital (sometimes referred to as a QTIP) trust

Each of these trusts has different rules for income distributions from the trust, separate tax returns, and different levels of authority granted to the beneficiaries. One of the decisions you will need to make is which assets go in which trusts. And, you will need to live with this decision potentially for many years, so make sure you have a Wealth Advisor that has experience in this area.

Again, this may sound overly complicated and potentially unnecessary, but there are tax and non-tax reasons for this structure. While I will write about this in more detail in the next blog post (email me rob@swrpteam.com to access it), for now let’s say that these trusts cannot and should not be dismissed as in some cases, the pros outweigh the cons.

5) Can’t I just amend all of this?

If you and your spouse are both still alive and in a position to make decisions (i.e. no one is experiencing diminished mental capacity), then yes, you can amend your RLT now and leave everything in 1 trust as first death. And, this may be the right thing for you to do.

We’ve had many clients make this exact amendment to their revocable living trust because they are in a position where the benefits of the myriad trusts that will come up after the first spouse dies are not worth it given their goals.

Before you come to this same conclusion, I would highly recommend sitting down with a Wealth Advisor who understands investments, tax planning, and estate planning, because you need to factor in all three when making these decisions.

If you or someone you love is seeking this kind of advice around wealth and complexity, please send me an email at rob@swrpteam.com

Disclaimer

This material is purely intended to be general and educational in nature, and should not be construed as specifically-tailored investment, financial planning, tax, legal, or other professional advice. Information and data contained herein is as-of the date of publication, and may be subject to change in the future without notice. Any investment performance referenced is purely past performance, which is no guarantee of any future performance. Nothing contained herein should be construed as an offer to sell, a solicitation of an offer to buy, or a recommendation of any security or other financial product or investment strategy. All investment, tax, and financial planning strategies involve risk that you should be prepared to bear. You are highly encouraged to consult with professionals of your choosing before taking any action based on this material.