Benefits of QTIP Trusts
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What Is a Trust?
A trust is a legal agreement by which fiduciary control of property is given by an individual, called the trustor, to a person or institution (the trustee) for the benefit of beneficiaries. Those benefits are usually under a will, insurance policy, retirement plan, annuity, trust, or other contract.
One popular trust that is used to avoid estate taxes is called a Qualified Terminable Interest Property trust (QTIP Trust). As explained below, a QTIP trust will preserve the marital deduction for a surviving spouse, avoiding costly taxes often associated with the estate of the deceased.
Why Would I Put My IRA in a Trust?
Without this trust the deceased spouse’s Individual Retirement Account (IRA) funds are immediately available to the surviving spouse. However, some feel that the surviving spouse is not sophisticated enough to be capable of directly managing the account or there is a wish that the funds be available to the children after the surviving spouse has died. Although there are pros and cons, other concerns that would lead to the creation of a trust for an IRA are:
- A surviving spouse benefiting someone other than your children.
- A surviving spouse remarrying and then benefiting the new spouse.
- A surviving spouse's creditors attaching the trust property.
Avoid Estate Taxes for IRA's Through QTIP Trusts
Because the IRA is not going to the surviving spouse right after the deceased’s death, both the IRA and the trust must meet the special qualifications of the Tax Code for the marital deduction for the estate tax. If the requirements are not met the IRS will become a taxable asset for estate tax purposes.
The easiest away to avoid the estate tax and to qualify for the estate tax marital deductions is by creating a Qualified Terminable Interest Property trust (QTIP trust). The requirements include:
- All of its income must be distributable to the surviving spouse on an annual basis.
- Both the IRA and QTIP trust must be set up in a way that the income of the IRA is distributed to the QTIP trust yearly. It is then distributed to the surviving spouse.
What Is Considered Income for QTIP Distribution?
Income in the context of trusts means any income-producing investments and the fixed percentage of the annual value of the principal assets. However, in 1997 Congress passed the Revised Uniform Principal and Income Act (UPIA) and the Prudent Investor Act, which many states have adopted. Included in the Act’s, is the power to adjust receipts between the income and the principal. In turn, the IRS has modified it’s consideration of "income" which is to the benefit of the beneficiary when it comes to tax season. However, not all states have adopted the Act’s, and despite the IRS’s attempts to clarify the rules, it is important to learn your states rules, as many questions remain.
Should I Seek Legal Advice?
Although qualifying any trust as a QTIP trust is extremely beneficial and an excellent way to avoid costly estate taxes, the laws are extremely confusing. Even the most sophisticated financial minds may have a hard time interpreting the new rules and how they are applied in your state. Additionally, any missed deadlines will cost the trust thousands of dollars and lose the marital deduction for the estate. Contacting an estates attorney is the best option for ensuring the survival of your trust.
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Last Modified: 09-16-2014 10:30 AM PDT
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