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These materials are designed to provide general information on Irrevocable Trusts established for single beneficiaries. The information is non-specific in nature. Each Trust is different, and should be reviewed by an appropriate professional. This article should not be utilized as a substitute for professional service in specific situations. If legal advice or other expert assistance is required, the service of a professional should be sought.
Irrevocable Trusts for Single Beneficiaries
I. answers to some commonly asked questions
Who may receive benefits from the Trust? You can name any person or entity as a beneficiary of the Trust. You may wish to name children or grandchildren as the lifetime beneficiaries. The beneficiaries will receive only as much of the Trust income and principal as you designate in the Trust. As a general rule, you can also establish when the Trust is to terminate. As an example, you may provide that income will be distributed annually to your grandchildren and that the principal (corpus) of the Trust will be distributed to them after they have attained certain ages (e.g., 1/3 at age 30, 1/2 at age 35, and the balance at age 40); or you may leave the principal to charity after the death of the lifetime beneficiaries.
What can I give to the Trust? Anything. For example, you may transfer cash, stock, or real estate to the Trust. A person establishing a trust for another’s benefit is called a "grantor," a "donor," a "trustor," or a "settlor."
How much can I give? Any amount. However, the gifts may qualify for the annual exclusion from gift tax only if the amount given is $11,000 or less per beneficiary, per year, and if the transfers are gifts of a "present interest."
How do I make the transfer a "gift of a present interest?" The donor may give the beneficiary the limited right to withdraw the gift for a period of time following the transfer to the Trust. This is called the "Crummey" withdrawal power (discussed below) and is designed to qualify the gifts for the annual exclusion from gift tax.
Can I take the gift back? No. The gift must be irrevocable or the property will be includable in your own taxable estate.
In what type of assets can the Trustee invest? The Trustee is governed by a fiduciary duty to invest in assets that are "prudent" investments. In the right circumstances this may include virtually all forms of investment. In Washington State, the Trustee’s investments are governed by the Washington Trust Act, particularly Chapter 11.100 of the Revised Code of Washington.
Who should serve as Trustee (e.g., the person who manages the Trust assets)? A person or institution other than the donor (the person making the transfer to the Trust) should serve as Trustee. You may want to name an adult child who is not a beneficiary of the Trust as Trustee, or a close friend or advisor. Naming the donor or beneficiary as Trustee could result in significant and adverse estate and income tax effects.
What administration is required? Each State has its own rules relating to trust administration. As a general rule, a Trust is treated as a separate taxpayer and must file a Trust tax return each year (IRS Form 1041). If the Trust contains "Crummey" withdrawal powers the Trustee must provide appropriate notice to the beneficiaries following transfers to the Trust in order to qualify the gift as a gift of a present interest. Depending on the terms of the Trust and state law, the Trust may also have to provide accountings to the Trust beneficiaries on an annual basis.
Does the Trust pay income tax on its earnings? Because the Trust is a separate taxpayer, it will ordinarily pay tax on income earned that is retained in the Trust. If all of the income is distributed to the beneficiaries annually, the Trust may pay no federal income tax. Rather, the income may be taxed to the individual beneficiary or beneficiaries receiving the income. Certain states also require that Trusts administered in their jurisdiction also file a state income tax return.
II. Tax Implications of Irrevocable Trusts
Irrevocable trusts are normally established to obtain certain tax benefits. The trade-off is that assets conveyed to an irrevocable trust remain subject to its terms and conditions until the established time for distribution. The irrevocable trust may be designed for the purpose of holding property and accumulated income until needed by the beneficiary for such purposes as college education, establishing a business, or providing for the general support and maintenance of the Trust beneficiary. A major goal of such a trust is often to remove the trust property from the donor’s estate and to shift income from the high tax bracket donor/parent to the trust (or beneficiary). To achieve these basic goals, the trust must be irrevocable.
With appropriate planning, the trust can be established without gift and estate tax consequences. Generally, by using an irrevocable trust, a donor can deflect income earned by trust assets from himself or herself to either the trust as a separate tax paying entity, or to the trust beneficiaries. Similarly, property which is conveyed to a properly drafted irrevocable trust can be excluded from the trustor’s gross estate for federal tax purposes. However, a conveyance to an irrevocable trust will have gift tax implications.
1. Gift Taxes. As a general rule, any transfer of property to an irrevocable trust will be a taxable gift. However, the gift will not be subject to federal gift tax if the value of the property conveyed is less than the available annual exclusion, and the gift is of a "present interest." The present annual exclusion is equal to $11,000 per recipient. To be a present interest, the beneficiary must have a present right to the use and enjoyment of the property. This can be a particular problem in a trust setting.
Crummey Powers. A conveyance into trust will qualify as a present interest for federal gift tax purposes if a person other than the donor is given the power to withdraw the conveyed property from the trust. However, the power of withdrawal must meet certain criteria:
(1) The power holder must be given a reasonable time within which to exercise the power. Thirty days is sufficient.
(2) The power holder must have a reasonable opportunity to exercise the power of withdrawal prior to its termination. The trust should require the trustee to notify the power holder of any contributions to the trust which are subject to the power, which notice should be given in a reasonable manner and within reasonable period of time.
The power may be given to any beneficiary of the trust and may be given to more than one person. When a trust has multiple beneficiaries, all beneficiaries will normally be given a power to withdraw a proportionate share of the contributed property.
Giving the power to a minor or incompetent can qualify the transfer as a present interest so long as the time allowed for exercising the power is sufficient under local law to appoint a guardian, the rationale being that such guardian could then exercise the power on the incompetent’s behalf.
You should consult with your professional adviser if you expect to contribute more than $5,000 per beneficiary during a single year. Certain income tax and estate tax consequences impacting the beneficiary may arise if the beneficiary does not exercise his or her power of withdrawal. These issues can be addressed through the inclusion of specific language in the trust dealing with the "lapse" of the beneficiary’s power of withdrawal.
2. Estate Taxes. Property transferred to an irrevocable trust will not be includable in the donor’s taxable estate for federal estate tax purposes if: (i) there is an independent trustee, and (ii) the donor retains no continuing interest in the trust. This means that once the Trust is established, the donor cannot retain any right to change the Trust terms or determine when distributions are made from the Trust; cannot retain the right to receive any of the income of principal from the Trust at any time; and can have no right to receive any of the Trust property back in the future. If any of these powers are retained, all of the trust property may be includable in the donor’s personal estate.
3. Income Taxes. As with the estate taxes, an irrevocable trust should create no income tax concerns if an independent trustee is utilized. Granting an independent trustee the power to withhold and accumulate income, or to make discretionary distributions of income and principal for educational or other purposes will not cause the income to be taxable to the donor. One exception, however, is that trust distributions may not be used to discharge the donor’s legal obligations. To the extent the trust income is used for such purposes, such income will be taxable to the donor.
A properly drafted irrevocable trust will shift the liability for income taxes on the income earned by the Trust assets to the Trust itself, or if the income is distributed, to the beneficiary. (NOTE: With the current high tax income rates to trusts, it is usually advisable to distribute all trust income to the beneficiaries, at least annually, to have the income taxed at the beneficiary’s lower tax rate. Be aware, however, that the income of a beneficiary under the age of 14 may be subject to taxation at the beneficiary’s parents’ tax rates.)
4. Generation Skipping Transfers. A third transfer tax that each donor needs to be aware of is the Generation Skipping Transfer ("GST"). As a general rule, any direct and indirect transfers to or for the benefit of grandchildren or people in further removed generations are taxed at a flat rate of 55%. This tax is in addition to any federal gift or estate tax assessed on the transfer. The impact of this tax is reduced, however, in that each taxpayer has a $1,000,000 Generation Skipping Transfer tax exemption. This means that each taxpayer may transfer up to $1,000,000 to grandchildren or lower generation beneficiaries without imposition of the tax.
Trust for Single Beneficiary
- sample form only -
- not for use without professional legal advice -
Merriman Family Irrevocable Trust Agreement
This Trust Agreement made this _____ day of _______________, 1994, between paul a. merriman (called the "Settlors") and jeffrey a. merriman (called the "Trustee");
WITNESSETH:
1. TRUST PROPERTY
A. Transfer of Property. The Settlors hereby transfer, assign, convey, and deliver to the Trustee the property described in the annexed Schedule A, which is the Settlors’ community property or a Settlor’s separate property as so identified in Schedule A. The Trustee acknowledges receipt of such property.
B. Additional Trust Property. The Settlors or any other person may increase this trust by delivering or having made payable to the then Trustee property deemed acceptable by the Trustee. Such additional property shall be held by the Trustee subject to all provisions of this Trust Agreement.
C. Trust Beneficiary. The Trustees shall hold all property so transferred in trust for the benefit of Settlors’ child, AARON MICHAEL MERRIMAN (the "beneficiary"), and the issue of Settlors’ child, pursuant to the following terms and conditions.
2. DISTRIBUTIONS OF INCOME AND PRINCIPAL
A. Beneficiary’s Withdrawal Right. During any calendar year in which any transferor makes a transfer to this trust, including the initial transfer by Settlors (all referred to as a "transfer"), the beneficiary shall have the absolute right to make withdrawals from the Trust Estate in accordance with the following provisions:
(1) During any calendar year in which any transferor makes a transfer to this trust, including the initial transfer by the Settlors (all referred to as a "transfer"), each transfer shall be valued at its federal gift tax value as to each transferor. The beneficiary shall have a right to withdraw Trust property equivalent in value to the lesser of (i) the amount of the then available federal gift tax annual exclusion under Section 2503(b) multiplied by the sum of (a) the transferors making the transfer, plus (b) the number of persons eligible to be "deemed transferors" under Section 2513 with respect to the transfer, less the amount of such transferors’ prior transfers during such calendar year (including transfers to this trust); or (ii) the amount of the transfers made to the trust during such year.
(2) The exercise of any power of withdrawal under this section shall be by written notice, signed by the beneficiary possessing the power of withdrawal and delivered to the Trustee not later than thirty (30) days after receipt of notice from the Trustee that a contribution has been made. If notice is by mail, then the postmark shall be the date of "receipt." The Trustee may satisfy any request for withdrawal by distribution in cash, in kind, or both, including any insurance policy on the Settlors’ lives or any interest therein.
(3) If the beneficiary is under any legal disability, notice of the beneficiary’s right of withdrawal shall be mailed to, and the written instrument exercising the right of withdrawal on behalf of such beneficiary may be executed by, his or her legal guardian or, if none, by the natural guardian of such beneficiary, by and duly appointed attorney-in-fact acting on the beneficiary’s behalf, or by any relative on behalf of the beneficiary.
(4) This power of withdrawal by a beneficiary shall be noncumulative, so that if the power to withdraw a contribution is not fully exercised by a beneficiary or the beneficiary’s representative as provided above then the power of withdrawal over such contribution shall lapse, and the property subject to such withdrawal shall be held and administered as a part of the Trust Estate in accordance with the terms of this Trust; provided, however, unless the transferor specifies otherwise with respect to a given transfer, such withdrawal right shall lapse only to the extent it does not exceed the greater of five thousand dollars ($5,000) of five percent (5%) of the value of the trust principal at the time of such lapse ("the exempt amount"), and such withdrawal right in excess of the exempt amount shall accumulate and continue in existence until, and to the extent that, its laps would not exceed the exempt amount (taking into account other lapses by such beneficiary that have occurred in the same calendar year). If the reference to "$5,000" or "5 percent" in Internal Revenue Code Section 2514(e) or its successor is changed by amendment, the reference to such amount in the immediately preceding sentence shall be correspondingly changed.
(5) The beneficiary, or, if the beneficiary is under a legal disability, the beneficiary’s representative as provided above, shall be given written notice by the Trustee immediately after the receipt of any contributions to the Trust, describing the existence of such power of withdrawal, when a contribution has been made, and the conditions under which the right of withdrawal may be exercised. Notice shall be substantially in the form attached hereto as Schedule B.
(6) Notwithstanding any other provision in this section, if any person, including the Settlors, making a contribution to this Trust, notifies the Trustee in writing, prior to or at the time of the contribution to the Trust, that all or a portion of such contribution is not to be subject to withdrawal under this section, then no such beneficiary shall have the right of withdrawal and the Trustee shall permit no such withdrawals.
B. Distributions Prior to Beneficiary’s Attaining Age Sixty-Five. Subject only to the withdrawal right under paragraph 2.A. above, no distributions shall be made from income or principal of the trust estate prior to the beneficiary’s attaining age sixty-five (65). Any income received by the trust during this period shall be accumulated and added to principal.
C. Mandatory Distributions to AARON. After AARON MICHAEL MERRIMAN attains the age of sixty-five (65), the Trustee shall pay to or for AARON’S benefit an annual sum equal to seven percent (7%) of the net fair market value of all assets then held in the trust (the "annual payment amount") as determined on December 31 of the immediately preceding calendar year. The annual payment amount shall be paid in equal quarterly installments payable on March 1, June 1, September 1, and December 1. Payments shall be made first from income and, to the extent that income is not sufficient, from principal. Any income of the Trust for a taxable year in excess of the annual payment amount shall be added to principal. If the net fair market value of the Trust assets is incorrectly determined, then within a reasonable period after the actual value is determined, the Trustee shall pay to AARON (in the case of an undervaluation) or receive from AARON (in the case of an overvaluation) an amount equal to the difference between the annual payment amount(s) properly payable and the annual payment amount(s) actually paid. In determining the annual payment amount, the Trustee shall prorate the same on a daily basis for a short taxable year and for the taxable year ending with AARON’s death.
D. Distributions Upon AARON MICHAEL MERRIMAN’s Death. Upon AARON’s death, the then remaining trust property (other than any amount due AARON or AARON’s estate under the provisions above) shall be distributed to such Charitable Organizations as AARON may designate in his Last Will, referring specifically to the limited power of appointment created by this paragraph. If AARON has not made such a designation in his Last Will, the Trustee shall distribute the remaining trust property to such Charitable Organizations as the Trustee shall designate. As used herein the term "Charitable Organization" shall mean an organization described in Sections 170(c) and 2055(a) to which tax deductible contributions can be made for Federal Income, Gift, and Estate Tax purposes.
3. SPEND THRIFT PROVISION
No interest in this trust estate shall vest in any beneficiary until actually paid to such beneficiary, nor shall the same be liable for such beneficiary’s debts or subjects to the process or seizure of any court or subject to bankruptcy proceedings, or any process whatever. Without limiting any beneficiary’s right to withdraw, appoint, or disclaim trust property as otherwise provided by law or by specific provision of this Trust Agreement, no beneficiary hereunder shall have the power to anticipate, assign, alienate, or encumber such beneficiary’s interest in the trust.
4. TRUSTEE
A. Successor Trustee. If JEFFREY A. MERRIMAN fails or ceases to serve as Trustee hereunder, BETTY R. SMITH shall become successor Trustee. The last of them so serving as Trustee shall name, by a writing filed with the trust, one or more individuals and/or a corporation authorized to do a trust business to serve as successor Trustee or Trustees of this trust. If no successor Trustee is so named, the beneficiary, if over the age of eighteen (18), may designate a successor Trustee or Trustees as described above (exclusive of the beneficiary alone) to serve as Trustee, all without need to comply with any laws that require a court proceeding or otherwise require notice.
B. Trustee’s Powers. Trustee shall have all the rights, powers, and duties now or hereafter granted by law, including those set forth in RCW Title 11, or any successor provision thereto, except as modified and increased as hereinafter provided:
(1) Investment and Retention of Trust Assets. Trustee may acquire by purchase, by exercise of options, or otherwise, and retain so long as Trustee deems advisable, any kind of realty and personalty, or undivided interests therein, including annuities, all without diversification as to kind or amount, and may maintain margin accounts with financial institutions.
(2) Principal and Income. Trustee may determine the allocation of receipts and expenses to income or principal, and specifically may make adjustments between income and principal for premiums, discounts, depreciation, or depletion (without being required to do so).
(3) Accounting. The Trustee shall be relieved from compliance with any accounting requirements imposed by law; provided, however, that the Trustee’s books and records shall be available for reasonable examination by the beneficiary of this trust during all business hours, and upon the written request of a then current income beneficiary the Trustee shall render an interim accounting of all receipts and disbursements, and shall show in such accounting the assets then held in trust.
5. IRREVOCABILITY
The trust hereby created is irrevocable. The Settlors expressly acknowledge that during the trust term they shall have no right or power, whether alone or in conjunction with others, and in whatever capacity, to alter, amend, revoke, or terminate the trust or any of the terms of this Trust Agreement in whole or in part, or to designate hereafter the persons who shall possess and enjoy the trust property or the income therefrom.
6. MISCELLANEOUS
A. Situs; Governing Law. Washington law shall govern the execution and construction of this Trust Agreement. The administration of this trust, however, shall, unless otherwise required by law, be governed first by the provisions of this Trust Agreement, including RCW Title 11, and second, to the extent consistent with such provisions, the laws of the trust’s situs. To the extent permitted by law, this trust and any Trustee hereunder shall be exempt from all registration requirements.
B. Statutory Definitions. All references in this trust to "RCW" shall be to the Revised Code of Washington and all references to "Section" are to such section of the Internal Revenue Code of 1986, as amended, and shall also, respectively, refer to corresponding provisions of subsequent Washington laws and corresponding provisions of federal tax laws.
C. By Representation. As used in this trust agreement "by representation" shall have the meaning set forth in RCW 11.02.005.
D. Gender and Number. Unless some other meaning or intent is apparent from the context, the plurals shall include the singular and vice versa. Masculine, feminine, and neuter words shall be used interchangeably.
IN WITNESS WHEREOF, the Settlors and Trustee have executed and acknowledged the trust instrument on the date first written above.
SAMPLE FORM ONLY
PAUL A. MERRIMAN, Settlor
SAMPLE FORM ONLY
JEFFREY A. MERRIMAN, Trustee
STATE OF WASHINGTON )
) ss:
COUNTY OF ___________ )
On this day personally appeared before me PAUL A. MERRIMAN, to me known to be the individual described herein and who executed the within and foregoing instrument as Settlors, and acknowledged that they signed the same as their free and voluntary act and deed for the uses and purposes therein mentioned.
IN WITNESS WHEREOF, I have hereunto set my hand and affixed my official seal this _____ day of _______________, 20_____.
___________________________
(print name)
NOTARY PUBLIC for the State of
Washington, residing at_________ .
My commission expires:________ .
MERRIMAN FAMILY IRREVOCABLE TRUST
SCHEDULE A
Trust Property
SCHEDULE B
Form of Notification Letter
Notice of Transfer of Property to Trust for
Merriman Family Irrevocable Trust
Dear _______________:
You are the beneficiary of a trust that PAUL A. MERRIMAN established for your benefit on __________________________. Under the terms of the trust, you or your guardian has the power to withdraw property that is added to the trust during the year. However, the value of the property that may be withdrawn in any year may not exceed [$10,000.00/$5,000.00] in value for each donor or the total value of the property that was added to the trust by each donor, whichever is lesser. The power may be exercised by a written demand delivered to me no later than thirty days after the date on which you receive this notice.
The purpose of this letter is to inform you that $________________________ was transferred to the trust for your benefit on ___________________________. If you or your legal guardian wishes to withdraw this property from the trust, a written demand must be made to me, as Trustee, no later than thirty days after the date on which you receive this notice.
Very truly yours,
SAMPLE FORM ONLY
JEFFREY A. MERRIMAN, Trustee
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