When do bypass trusts make sense?
As you and your spouse create your estate plan, you will want to consider what type of trust best suits your circumstances. Depending on your estate’s value, it may face significant taxation once you pass. Revocable living trusts remain a part of your estate and are not exempt from estate taxes. Yet, irrevocable trusts allow you limited access to your assets. A bypass trust, though, can offer you the freedom of the former and the tax benefits of the latter.
Who needs a bypass trust?
Bypass trusts benefit couples whose estates’ values exceed the federal estate tax exemption. This exemption has seen significant increases in recent years. 20 years ago, estates worth over $675,000 were subject to estate taxes, at a tax rate of up to 55%. Now, only individual estates valued at more than $11.58 million and marital estates valued at more than $23.16 million face estate taxes. Yet, these estates can face up to a 40% tax rate, which can diminish their value without protection.
How do bypass trusts work?
Bypass trusts are unique because they consist of two different trusts, rather than one. One trust is revocable and is where you and your spouse will hold your assets while you are living. Once one of you dies, your assets – up to the federal exemption – will transfer to the second, irrevocable trust. Either you or your spouse – whoever survives the other – will then serve as its trustee and can derive income from it. You will keep your remaining assets in the revocable trust, which you can use however you see fit. Any assets left in the revocable trust will transfer to the ownership of the irrevocable trust, too, after both of you die. Your beneficiaries will avoid paying the estate tax if its value, at that point, is below the federal exemption.
Many people will not need a bypass trust to protect their assets. But it may make sense for you if your estate could lose value through taxes down the road. An attorney with estate planning experience can help you understand if your circumstances require one.