Building Flexibility into the Estate Plan Formula Clauses: “Disclaimer Funded Credit Shelter Trust”
The most flexible trusts include the “Disclaimer Funded Credit Shelter Trust” and the “Clayton Trust.” The discussion below explains the benefits of each trust.
Disclaimer Funded Credit Shelter Trust:
With a disclaimer funded Credit Shelter Trust, the entire estate is left to either a GPOA or QTIP Marital Trust for the benefit of the surviving spouse, who may disclaim all or a portion of his or her interest in the trust to a modified Credit Shelter Trust. For a disclaimer to be considered a “qualified disclaimer” under Section 2518 of the Internal Revenue Code:
- The disclaimer must be in writing.
- The individual must not have accepted the interest or any of the benefits of the property disclaimed.
- The disclaimer must be received by the transferor, legal representative or holder of title to the property no more than nine months after the creation of the interest (usually the date of death) or age 21, whichever comes later.
- The interest must pass, without any direction on the part of the person making the disclaimer.
- The person may disclaim all or a partial interest in the property.
- There are no extensions of time permitted to make the disclaimer, even if an extension of time to file the estate tax return is granted.
Where the disclaimed property passes to a Credit Shelter Trust, the surviving spouse may:
- Receive all or a portion of the income from the trust, along with the children, to minimize current income taxes, as well as reduce future estate taxes of the surviving spouse.
- Serve as Trustee, as long as the power to make distributions is limited by an ascertainable standard. Treas. Reg. 25.2518-2(e)(1)(i)
- May not hold a power of appointment over trust property. Treas. Reg. 25.2518-2(e)(2)
Pros and Cons:
Disclaimer planning offers the surviving spouse the ability at the death of the first spouse to transfer all or part of the assets in the Marital Trust outright to another individual or to a non-marital trust, but the surviving spouse must act fast, not have accepted the benefits, and may have to file an estate tax return.
The “Clayton trust” incorporates the benefits of disclaimer planning, coupled with a partial QTIP election, but without some of the disadvantages associated with disclaimer planning.(3)
In a Clayton trust, the will or trust provides that all or a portion of the assets will pass to a QTIP trust for the benefit of the surviving spouse, to the extent a QTIP election is made. However, to the extent a QTIP election is not made, the non-elected portion passes to a non-marital trust similar in terms to the traditional credit shelter trust. (4)
- With a Clayton trust, the non-marital trust may distribute income and principal to the surviving spouse and children, limited by an ascertainable standard.
- The surviving spouse may be given a limited testamentary power of appointment over the marital and non-marital trusts.
- An independent Personal Representative should be appointed to make (or not make) the Clayton election.
- The surviving spouse may serve as Trustee of the marital and non-marital trusts.
- Where the property has depreciated in value after the death of the first spouse, the Personal Representative may preserve the higher basis by permitting the property to pass to the Credit Shelter Trust and not make the QTIP election.
- There is no danger of accepting the benefits, as with disclaimer planning.
- With a Clayton trust, the period to make the QTIP election is governed by the same rules as the normal QTIP election. That is, the election must be made on the last estate tax return filed by the executor on or before the due date of the return, including extensions or, if a timely return is not filed, the first estate tax return filed by the executor after the due date. In effect, nine (9) months after the date of death plus a six month extension, if requested.
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(1) Jeffrey N. Pennell, Tax Management portfolio series, Estate Tax Marital Deduction, 843-3rd T.M. Estates, Gifts, and Trusts at page A-59 (2013)
(2) Edwin P. Morrow, III, The Optimal Basis Increase and Income Tax Efficiency Trust (2013), page 10
(3) Barbara A. Sloan, Spousal Transfers – During Life, at Death and Beyond, Chapter 12, pages 39-63, 47th Annual Heckerling Institute on Estate Planning, January, 2013
(4) Barbara A. Sloan, Variations on Traditional Marital/Credit Shelter Funding Techniques after EGTRRA, Chapter 9, pages 24-36, 38th Annual Heckerling Institute on Estate Planning, January, 2004