Previously, only the issue of estate taxes — more specifically, the possible need to utilize both spouses’ estate tax exemptions — introduced complications to the otherwise straightforward wish of most married couples for the surviving spouse to inherit all assets at the first spouse’s death. In other words, most couples only agreed to the A-B structure as an advised tax strategy, and otherwise had no desire to burden and restrict the surviving spouse. The need for such complications is now a thing of the past, because current law now allows portability of the exemption between spouses.
On January 2, 2013, President Obama signed the American Taxpayer Relief Act into law. Under the provisions of this law, portability of the estate tax exemption between married couples has been made permanent. Because of this portability provision, the surviving spouse is now allowed the straightforward use of both (husband’s and wife’s) exemptions without the need for any special (A-B) sub-trust planning and its accompanying red tape. With portability, spouses can safely do what most of them have been saying that they want to do for years: Leave their estates outright to each other (which is not what the A-B trust does!)
The current (2023) estate tax exemption has been raised to $12.92 Million. All by itself, this higher rate would nullify any need for the hassles of an exemption sub-trust (B trust or bypass trust) for most families — yet portability is what fully eliminates any need for a bypass trust from a tax standpoint. With portability, a surviving spouse will be allowed to pass more than $25 Million estate-tax free — no A-B trust necessary. With portability, an A-B, ABC (or even exercising a Disclaimer) will not buy you one extra dime in exemption. With portability, from a tax standpoint there is simply no reason to have or continue with an A-B trust, and every reason not to, if you wish matters to be as flexible, simple, and straightforward for your spouse as possible.
To reiterate, it has long been a standard practice at many law offices for married couples to sign up for the A-B trust approach as a way to insure the use of both spouses’ exemptions.
Under current law, however, an A-B trust (1) no longer buys any estate tax advantage, (2) needlessly risks losing major income tax benefits, and (3) will still burden the surviving spouse with significant restrictions, tax filings, irrevocability, accountability, and other legal responsibilities for life.
That is why, if you already have a married living trust, it is very important to review it for this issue, or there is a strong possibility you or your surviving spouse may be stuck with burdensome restrictions you no longer want or need — and worse yet will do you no tax good at all!
1. The B trust becomes irrevocable and non-amendable upon the first spouse’s death. (The surviving spouse cannot alter those trusts, or add, change, or remove beneficiaries or gifts from those trusts.)
2. The surviving spouse’s use of the assets in the B trust must be limited to an ascertainable standard.
3. As the successor trustee, the surviving spouse is responsible and answerable to the future “inheritors” of the B trust for appropriately using the assets, and must render accountings, as well as provide a copy of the trust to the heirs and future beneficiaries.
4. The surviving spouse must properly allocate, title assets in, obtain tax ID numbers for, and maintain the B trust after the first spouse’s death.
5. During the surviving spouse’s entire remaining lifetime, they must continue to accurately track and keep records of the assets and transactions of each trust, and complete separate tax filings for the A & B trusts each year.
The existence of higher exemptions or portability does not and will not relieve the surviving spouse from the A-B trust requirements. Using or keeping an A-B trust still means you will force the surviving spouse to live with the aforementioned lifetime restrictions and legal responsibilities. An A-B trust doesn’t care about the exemption amount or portability, it still legally requires the surviving spouse to comply with its strictures — unless you update your trust. Worse yet, it can actually become a tax negative, exposing the surviving spouse and heirs to needlessly lost income tax advantages.
Anyone with an A-B trust should clearly understand that there is no step-up in basis for the B trust assets at the surviving spouse’s death, or capital gains exclusion for a residence or other assets allocated to the B trust. Many times, this can ultimately end up being a very costly lost income tax benefit, and now it is completely needless from a tax standpoint because of the new higher exemptions, and the new portability law.
Using the A-B trust terms as the legal leverage, there has been more than one case where the surviving spouse has been harassed and taken to court by his or her very own children.
Despite having essentially done nothing inappropriate, these surviving spouses were nonetheless forced to respond to their children’s lawyers, demand letters and lawsuits. That’s because the A-B trust gave their children legal standing to demand accountings and justification for the expenditures and management of the trust assets. Since our court system generally lets everything play out, the surviving spouse is forced to respond, make court appearances and spend thousands or tens of thousands of dollars in legal fees. These spouses suffer from a great deal of regret for having ever signed up for an A-B trust! These are some of the dark sides of an A-B trust that often are not emphasized at the time someone is telling you “how great they are,” and why.
It isn’t hard to see that even under circumstances when it turned out to make tax sense, dealing with an A-B or an ABC trust after the death of a spouse is a huge hassle. The family’s assets must all be accounted for, appraised, and divided up into two or three trusts. Each trust will have its own checkbook, and will file its own income tax return every year, and the survivor will need to keep the assets in those different trusts separate in their minds. There are legal fees and accountant’s fees related to the administration of the trusts and the allocation of the assets to the separate trusts. There is a perceived lack of privacy, perceived loss of control, and an increase of cost and complexity in administering the trust. Most people wonder why their attorney gave them an A-B or ABC trust in the first place. They never seem to share a lawyer’s or accountant’s opinion that “administering an A-B, ABC, or any exemption trust is no big deal.” A word to the wise: In considering whether you wish the surviving spouse to live with the restrictions and burdens of an A-B trust, keep in mind you may well be the surviving spouse who has to live with it!
It is important to reiterate that throughout the 80s, 90s, and beyond, the A-B trust was most often the default choice. Because of the then-lower estate tax exemptions, almost all law offices universally encouraged these trusts from a perspective of assumed need. Yet that assumed need, it has turned out, often ended up being wrong. That’s because the exemption amounts began rising dramatically in the year 2000, and from a tax standpoint (with the increased exemptions) many couples didn’t end up being worth enough to justify the complications of an A-B or ABC trust (totally unnecessary to pass the combined estate tax free). This essentially made the A-B or ABC trust a completely useless albatross for those who otherwise just wanted to leave everything outright to their spouse. Understanding this is important as a matter of perspective — because sadly it seems many stayed stuck in the past beyond the year 2000 tax changes.
Seeing that the A-B or ABC trusts could easily turn into a fruitless, negative burden on the surviving spouse, I offer a basic “simple” Joint Trust. Unlike the A-B or ABC trust, the simple Joint Trust does not lock the surviving spouse into a course of action. Upon the death of the first spouse, all of the Trust property will belong to the surviving spouse. The surviving spouse continues to serve as Trustee. He or she has complete control of the Trust, and can make changes or even revoke the Trust at any time. The Survivor’s Trust retains the same name as the original joint Living Trust. For assets already held in the Trust, no change of title is necessary. This approach will prevent surviving spouses from being forced to live with the headaches and restrictions of an A-B trust. Of course, if your joint estate is worth over $25 million dollars, you should seek the advice of an estate planning attorney and consider advanced planning strategies in order to avoid Estate taxes.
In all fairness, this can be more than a tax analysis for some couples. If you are highly concerned with what your spouse does with your half of the estate, trust structure becomes much more than a tax issue and enters a whole new realm called “preserving testamentary intent.” As such, some spouses want to use the legally obligating, restrictive nature of the A-B trust as a testamentary intent-preserving tool. This is where it gets tricky, because when thinking about such a strategy, you have to ask yourself just how worried you are. That is because preserving your testamentary intent might be great in theory, but it is important that you also understand that it is not a free ride. Again, doing so requires you to impose the aforementioned conditions, responsibilities, inflexibility, bookwork, accountings, tax filings, accountability and liability to others, reporting requirements, and other hassles on the surviving spouse for life. Once this is clearly understood, it in fact gives major pause for many to force these conditions on their spouse.
Some people are concerned that their spouse will squander all of the estate, and they want to have their half set aside in a B trust and protected for the heirs. Some people are concerned that their spouse will re-marry after their death, and the new husband or wife will spend or abscond with the entire estate, leaving nothing for the heirs. Some people, particularly those with children from a previous marriage, are concerned that their spouse might disinherit their children. An A-B trust can protect your children’s inheritance in such situations. In weighing whether you desire to structure your trust to guard against these issues, also remember the fact that you may be the spouse who was worried about these issues, only to be the one left behind with your own self-created quagmire. This possibility alone causes many spouses to decline such a strategy. That is why you each must carefully weigh just how much this concerns you. If it is just a small concern, you may want to think twice before you impose such requirements. If it is a large and genuine concern to you, then these measures may well be justified and appropriate for your situation. This is an individual choice. There is no right or wrong in this decision, just philosophies and varying approaches to these issues. In the end you should always choose together what makes you comfortable and suits your situation.