Factors to consider when forming your joint revocable living trust

When spouses form a joint revocable living trust, they must decide what happens to the assets of the trust upon the death of the first spouse to die (herein, the “Deceased Spouse”). The assets of the trust may consist of a mixture of community property and separate property.

In general, spouses have two choices: (i) a revocable living trust that requires all assets of the trust to pass to a revocable Survivor’s Trust upon the death of the Deceased Spouse (herein, the “Simple Option”) or (ii) a revocable living trust that requires the funding of a revocable Survivor’s Trust and an irrevocable decedent’s trust upon the death of the Deceased Spouse (herein, the “Complex Option”). In the Complex Option, most couples fund the irrevocable trust (herein, the “Decedent’s Trust”) with all of the decedent’s property (all separate property and ½ of the community property estate) and the revocable Survivor’s Trust with all other assets.

Prior to the American Taxpayer Relief Act of 2012 (ATRA), many couples were forced to choose the Complex Option. In some cases, this was done to avoid estate taxes. In other cases, this was done to protect the Deceased Spouse’s property from the Surviving Spouse.

As a result of ATRA and the Tax Cuts and Jobs Act of 2017, very few spouses need to choose the Complex Option as a means of limiting estate taxes. However, there are still many practical reasons why spouses still chose the Complex Option. The following includes the advantages and disadvantages of the Complex Option and the factors couples should consider:

1. Advantages of the Complex Option.

1. 1. Better Asset Protection. The Complex Option provides couples with an opportunity to lock up a large portion of their assets in an irrevocable trust that is free from attachment by creditors of the Surviving Spouse. In general, the asset protection of such an irrevocable trust is superior to that of an LLC, asset protection trust, or offshore arrangement. Further, where an independent successor trustee is used, the assets of the irrevocable trust can even be protected from the Surviving Spouse’s improvidence.

1. 2. Protection of Deceased Spouse’s Distribution Terms. With the Simple Option, the Surviving Spouse is free to amend the trust in its entirety. Where spouses want to ensure that a surviving spouse cannot amend the trust to exclude the Deceased Spouse’s beneficiaries – think children from a prior marriage – the Complex Option is essential.

2. Disadvantages of the Complex Option.

1. 1. Administrative Burden. First, the successor trustee (usually the Surviving Spouse) is required to divide the assets of the trust between a Survivor’s Trust and one or more Decedent’s Trusts. This procedure requires appraisals and accountings. In addition, the Decedent’s Trust will need to file a separate tax return each year using Form 1041.

1. 2. Restricts the Surviving Spouse’s Rights to Assets. The terms of the Decedent’s Trust often say that the trustee must distribute all income to the Surviving Spouse plus as much principal as the trustee deems reasonably necessary for the Surviving Spouse’s reasonable health, education, maintenance, and support. All too often, a surviving spouse must grovel to an independent trustee or seek a court order when requesting more than income.

In general, the Simple Option is best suited to married couples that:

1. Have Children Together and No Children from a Prior Marriage. In such cases, the likelihood is much lower that the Surviving Spouse will change the trust’s beneficiaries after the first spouse’s death.

2. Are Beyond the Age of Having More Children. Obviously, if a young person is widowed, they have a higher likelihood of re-marrying and/or having more children. (But see the disadvantage of prolonged administration of the irrevocable trust referenced below).

3. Loathe the Idea of Additional Legal and Accounting Bills.

4. Prioritize Utilization of their Wealth During their Respective Lifetimes. Obviously, the benefits of the Complex Option are less important to those philosophically opposed to feathering the nest for their children.

In general, the Complex Option is best suited to married couples that:

1. Have Children From a Prior Marriage.

2. Do Not Have Children and Don’t Want to See their Wealth Go to In-Laws.

3. Intend to Give Everything to Charities but Have Different Charities – Especially where their Respective Charities Conflict. For example, a liberal wife may loathe the idea of her surviving spouse changing the charitable beneficiary of their trust to the NRA after her death.

4. Have High Net Worth. At a certain net worth, the value of the asset protection of the irrevocable trust outweighs its administrative burden. And, for those “fortunate” enough to have a taxable estate under today’s laws, some variations of the Complex Option may be used to limit estate taxes.

5. Prioritize Preservation of their Wealth for their Beneficiaries.

As a disclaimer, this is a non-exclusive list of factors. The reference to two options here is a generalization, and perhaps comical over-simplification, of estate planning for spouses. These general factors merely offer guidance, and the input and assessment of qualified estate planning counsel is crucial to helping you determine which variation of the multiple options best suits your needs.

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