Is the “QTIP Trust” Right for Your Estate Plan?

As we’ve seen, it is easy to cut your estate taxes to zero, especially if you’re married.

All you have to do is leave everything to your spouse.

Your estate gets an unlimited marital deduction for all property left to your spouse.

So having your spouse inherit everything eliminates taxes on your estate.

Despite the tax savings, there might be good reasons not to leave everything to your spouse.

One reason is that the spouse might not be able to manage the assets effectively and might be overwhelmed by the responsibility.

Another reason is that you lose control over how the assets eventually are distributed.

For example, a common fear is that the surviving spouse eventually will remarry and leave the estate to the new spouse and other members of the new family.

Or, if the spouse has children from a prior marriage, the spouse could favor those children over those from the current marriage.

Another possibility is that if you have children from a prior marriage your spouse might not be inclined to leave them much of the estate.

All of these potential problems are avoided and taxes are reduced with the qtip trust.

The tax law establishes a special type of property known as Qualified Terminal Interest Property, or QTIP.

The person who inherits it is entitled to all the income from the Qualified Terminal Interest Property.

But all his or her rights to the property terminate at his or her death.

After that, the property goes to whomever the first owner designated to receive it.

Normally, QTIP property does not qualify for the marital deduction.

But if you attach the right conditions, all the QTIP property qualifies for the marital deduction.

That means it is passed on from your estate free of estate taxes, yet you control who eventually inherits it.

For the Qualified Terminal Interest Property to qualify for the marital deduction, your spouse (and only your spouse) must be entitled to all the income from the property for life, payable at least annually.

In addition, your spouse cannot have the right to designate who ultimately gets any part of the property.

Finally, you or your executor must elect to have the property treated as the Qualified Terminal Interest Property.

Any portion or all of your estate can be treated as QTIP.

And you can have your executor decide after your death how much of the property to designate as QTIP.

QTIP property doesn’t have to be left in a trust, but it is easier to qualify for QTIP status with a properly set up trust.

The price for the QTIP trust is that whatever is left in the trust on the death of the second spouse is included in his or her estate.

This is the same tax result as if you had left the property to your spouse directly.

With the QTIP trust, however, you retain some control and ensure that the property eventually is distributed as you want.

The QTIP trust should not be your only estate planning tool and is not for everyone.

In the next issue of Retirement Watch Weekly, I’ll identify the situations in which the QTIP trust is ideal. Click here to view part II of this article.

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