Where to Find Hidden Estate Planning Opportunities for 2023

Opportunities to increase family after-tax wealth arise throughout the year but often are unnoticed.

Estate planning should be viewed as more than an obligation to be undertaken as infrequently as possible. It is a continuing exercise that’s rife with the potential to protect assets, reduce income taxes, simplify personal finances and more.

The opportunities jump out when throughout the year you and your estate planner keep in mind your full financial picture and monitor events and changes, including changes in your goals and perspectives.

Here are some opportunities to improve your family finances that might arise from changes in the law, your goals, or your family.

Revise bypass trusts. An estate plan that’s been widely-used for married couples for decades has a portion of the deceased spouse’s estate going directly to the surviving spouse while another portion is put in a trust known as a bypass, credit shelter or A/B trust, among other names.

The bypass trust pays income and principal to the surviving spouse as needed. After the surviving spouse passes away, the assets are distributed to the children or other beneficiaries as directed in the trust agreement.

The main purposes of the bypass trust are to ensure full use of the deceased spouse’s lifetime federal estate and gift tax exemption and to exclude the assets from the future taxable estate of the surviving spouse.

With today’s high exemption amount and the portability of unused exemptions between spouses, many couples don’t need the tax savings of the bypass trust. The trust might add unnecessary costs and complications to managing the assets.

Plus, the trust can cost the family income tax benefits. If the assets were inherited directly by the surviving spouse, their tax basis would increase again after that spouse passes away. The basis won’t be stepped up on the second spouse’s death if the assets are in a bypass trust.

A bypass trust still can have benefits. It ensures a trustee manages the assets, which can be valuable if the surviving spouse isn’t financially sophisticated or has cognitive issues. The trust also protects the assets from creditors of the surviving spouse and ensures the remaining assets eventually go to the beneficiaries the first spouse wanted to have them.

Consider the pluses and minuses of the bypass trust. If you’re a surviving spouse who’s a beneficiary of a bypass trust, assess the value of continuing the trust and ask an estate planner to explore ways to terminate the trust.

Change trust distribution policies. In many estate plans, after both spouses pass away, the bulk of the estate is transferred to a trust (or trusts) for the benefit of the children. Initially, the trustee distributes income and principal, as needed, for the support of the children. Then, one-third of each child’s share of the trust is distributed as he or she reaches certain ages, such as 30, 35 and 40.

But experience might have taught you that’s no longer the ideal distribution strategy for your family.

Once assets are distributed from a trust, they lose protection from creditors of the beneficiary, including lawsuit plaintiffs. The assets also become part of the beneficiary’s marital estate to be split between the spouses if there’s a divorce. Of course, the assets aren’t protected from bad investment and financial decisions of the beneficiary.

A solution might be to revise the estate plan, so the trust lasts for the life of the beneficiary, but the trustee has discretion to distribute the income and principal based on the beneficiary’s needs, maturity and financial acumen. The trustee might distribute only enough to pay for the beneficiary’s needs for a number of years. Or the trustee might decide the beneficiary can handle the responsibilities and the trust should be fully distributed sooner than under the original trust terms.

Modifying or simplifying trusts. Trusts often have to be irrevocable to produce tax benefits. But after circumstances or tax laws change, an irrevocable trust might not be as advantageous as when it was created. Or the trust might be more complicated and expensive to maintain than alternatives that are available today.

Fortunately, in the tax law, “irrevocable” often doesn’t really mean irrevocable. If you’re a beneficiary or grantor of an irrevocable trust that no longer seems optimum, explore these options.

Trust decanting is when a trustee exercises discretion allowed under state law or the trust agreement to distribute all or some trust property to a new trust that benefits the old trust’s beneficiaries.

The new trust can include updated trust provisions that make it more attractive or efficient without changing the grantor’s main intent. State laws have become more friendly toward decanting in recent years, and some trusts specifically allow it.

Another option that might be permissible under state law and the trust agreement is to change administrative provisions, as long as the changes don’t alter the distribution rules or the duration of the trust.

A third option is to ask a court to modify the trust. Typically, a court will modify a trust agreement when the trustee and all beneficiaries agree and the changes are consistent with the grantor’s goals.

Remove the trustee. Sometimes the main concerns aren’t the terms of the trust but the trustee’s decisions or fees. In fact, the performance of the trustee often has a significant effect on the success of an estate plan.

A good idea in many cases is to provide in the trust agreement that the family, or other people you designate, has the right to remove and replace the trustee. Often, the presence of this provision is enough to make the trustee keep costs low and respond to preferences of family members. A potential disadvantage is that spendthrift beneficiaries might replace a trustee with one who will distribute a lot more money to them.

It is also a good idea for you, as the grantor, to retain the right to remove a trustee during your lifetime for any reason. How the provision is written is important if you want to preserve the tax and asset protection benefits of an irrevocable trust. If the grantor has too much power, the benefits might be lost. You have to depend on your estate planner to establish the right balance.

Establish co-trustees. You can divide the duties of the trustee among different people.

The tax and estate planning benefits of trusts often are lost if the beneficiaries can control or influence the distributions. But the beneficiaries and even the grantor can serve as co-trustees with powers other than determining distributions.

The co-trustees can choose the investments or the investment managers. They can determine who performs the administrative functions of the trust, such as accounting and preparing tax returns, so that costs are controlled.

One or more people close to the family can serve as the independent co-trustees who determine distributions within the terms of the trust agreement. When a co-trustee no longer can serve or the performance is unsatisfactory, the family can choose another independent trustee.

Review and reconsider SLATs. The spousal lifetime access trust (SLAT) was little known until about 10 years ago but became very popular in 2020 and 2021 when significant estate tax changes seemed likely.

A spouse is grantor of a SLAT set up for the benefit of the other spouse and eventually for the couple’s descendants. The grantor spouse can change beneficiaries during his or her life. The grantor-spouse transfers assets to the trust, which removes them from the grantor’s taxable estate.

The SLAT trustee makes distributions to the grantor’s spouse as needed. The grantor can’t be a trust beneficiary but can benefit from distributions made to the other spouse. Often, each spouse sets up a SLAT for the benefit of the other spouse.

A SLAT can be disadvantageous when the beneficiary spouse dies earlier than expected, because the surviving spouse then loses any benefit from the trust assets.

A remedy is to buy permanent life insurance on the life of the beneficiary spouse with the benefits payable to the grantor spouse.

Since Congress no longer is actively considering significant estate tax changes, a SLAT might no longer be needed. The couple might want to reassess the plan and explore ways to reverse or modify the trust to suit today’s circumstances.

The details of your estate plan need to respond to changes in your family and the law. They also need to be adjusted as your goals change or your experience indicates different terms would be better.