Do I Need an A/B Trust?

Do I Need an A/B Trust?

Clients ask me this question all the time.  This blog discusses what an A/B Trust is and when it is appropriate for married couples to consider one.

What is an A/B Trust?

An A/B Trust is a trust for married couples that divides into two trusts (typically called a “Survivors Trust” and  a “Decedent’s Trust”) when the first spouse passes away.  The main reason a married couple would consider an A/B Trust is to reduce their estate tax exposure.  A/B Trusts used to be much more common when the applicable exclusion amount (which I will refer to in this blog as the “estate tax exemption amount”) was much lower in the late 1990’s and the early 2000’s and before the law was changed to allow each spouse to have their own estate tax exemption through the concept of portability.  However, since 2010, when the exemption was raised to $5 million per person, with annual cost of living adjustments, and even more so in 2017 when the estate tax exemption was raised to $10 million per person, with cost of living adjustments, there are very few married couple who need A/B Trusts for estate tax purposes.

Here is an example.  In 2002, the estate tax exemption was $1,000,000, and the top estate tax rate was 50%.  Plus, there was no portability if the first spouse passed away without using all of his or her estate tax exemption.  Thus, in 2002, a couple who both passed away with a $2,000,000 estate and no A/B Trust would have a $500,000 estate tax liability, calculated as follows:

Total Value of Estate	$ 2,000,000
One Estate Tax Exemption	($1,000,000)
Amount Subject to Estate Tax	$ 1,000,000
Estate Tax (50%)	$ 500,000

With an A/B Trust, however, that same couple could eliminate their estate tax liability, calculated as follows:

		$2,000,000
Allocated to Decedent’s Trust	$  1,000,000		$  1,000,000	Allocated to Survivor’s Trust
Decedent’s Exemption	($1,000,000)		($1,000,000)	Survivor’s Exemption
	$0	Amount Subject to Estate Tax	$0
	$0	Estate Tax	$0

Thus, for decedents who passed away in 2002, there was a huge estate tax savings for married couples who set up an A/B Trust.

During the early 2000’s, the estate tax exemption increased as a result of several tax acts, and, after the 2017 Tax Act, the estate tax exemption is now $10,000,000 per person, adjusted annually for inflation.  Currently, in 2019, each spouse has an estate tax exemption of $11,400,000.  And, if one spouse does not use it, then the surviving spouse can use the unused portion of the deceased spouse’s exemption amount as long as they file an estate tax return and elect portability.

Thus, in 2019, married couples can pass away with up to $22.8 million in their estate before they have any estate tax liability.  There is, however, a “sunset” provision to the current estate tax exemption amounts.  Under current law, on December 31, 2025, the estate tax exemption will go back to $5.0 million per person, adjusted for inflation, so that the estate tax exemption at that time will be approximately $6-7 million per person.

With all that said, because only a small percentage of married couples now have an estate tax issue as the estate tax exemption is so high, I am not currently recommending A/B Trusts for many of my clients.

Are There Situations Where a Trust that Splits into Two Trusts Still Makes Sense?

Except for estate taxes, there is one other situation where I recommend a trust that splits into two trusts at the first spouse’s death.  Typically, in some second marriage situations, especially those with children from prior marriages, couples may want to split a joint trust into two trusts at the first spouse’s death, with the Survivor’s Trust giving the surviving spouse the full right to change such trust, but with the other trust, sometimes called a “Marital Trust”, providing an income stream for the surviving spouse, limited rights to principal in an emergency, and a limited right or no right to make changes to such trust.  In this way, at least one-half of the assets in the joint trust that can be “protected” for the benefit of the deceased spouse’s children.  By setting it up as a Marital Trust, rather than a Decedent’s Trust at the first spouse’s death, the surviving spouse can get a step-up in basis for all of the assets in the Marital Trust, as well as the Survivor’s Trust.  If there is a taxable estate (i.e., it is valued at $22.8 million or more), then I would be recommending an A/B Trust or another trust instead.

What If I Already Have an A/B Trust?

It depends on your situation.  However, for all of my clients that established an A/B Trust in the early 2000’s, I have gone back to them to see if they still need an A/B Trust based upon the size of their estate and the current estate tax exemption.  If you do not need an A/B Trust, then there can be a significant downside to having this type of trust in terms of the complication, higher taxes, and additional expenses in administering the Survivor’s Trust and Decedent’s Trust after one spouse passes away.  In my experience, most clients have decided to convert their trust into a simple trust or a Survivor’s Trust/Marital Trust (as discussed above) instead of maintaining it as an A/B Trust.

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