With the high estate tax applicable exclusion amounts, which may become infinitely higher in the coming months (a married couple can currently pass about $11 million tax free), and the American Taxpayer Relief Act allowing “portability” (the estate of the deceased spouse who did not use their $5.49 million exemption to pass the remaining amount to the surviving spouse), more planners and clients may be motivated to plan purely with exclusions and portability. However, the continued use of bypass trust planning must still be considered.  Bypass trust planning puts an amount equal to the first decedent’s individual exclusion amount (currently $5.49 million) into a trust for the spouse with any remaining passing directly to the surviving spouse. 

At first glance, it may seem that utilizing exclusions and portability simplifies the estate planning process.  In many instances this may be true as no trust administration would be needed as assets would likely all just pass to the surviving spouse.  In addition, in regards to income tax planning, a second basis step-up would be allowed at the surviving spouse’s death (a first and full basis step-up would also likely be allowed at the first spouse’s death as long as the assets passing to the surviving spouse is marital property).  Finally, having all just pass to the surviving spouse would give her complete control and unfettered access over all assets. Simplicity, in essence, has its advantages, but there are also disadvantages to portability planning that must be considered.

First of all, the surviving spouse may not retain the deceased spousal unused exemption amount or DSUE if she remarries and is widowed for a second time.  This may be an area of concern if the couple or one spouse is relatively young.  Second, there is no inflation adjustment to the DSUE amount.  If assets appreciated over the combined remaining individual and DSUE exemption amount, those assets would be subject to estate tax.  Third, there is no creditor protection.  Assets passing directly to the surviving spouse would be subject to surviving spouse’s creditors. Fourth, the generation skipping tax exemption or GST is not portable.  It must be utilized by each spouse otherwise it may be lost.  Finally, in order to utilize the portability benefit, the surviving spouse must complete a form 706 Federal Estate Tax return regardless of whether the first deceased spouse owes any estate tax.  If these disadvantages are an area of concern, bypass trust planning may still reign. 

A bypass trust, first and foremost, provides creditor protection for the surviving spouse and/or children.  Moreover, unlike planning with portability, a bypass trust removes future appreciation of assets from the surviving spouse’s estate for estate tax purposes.  In addition, unlike portability planning, the bypass trust can leverage the available GST exemption for multiple generations.   Again, appreciation is shielded once the GST is used on the assets passing in trust.  Further, family members other than the surviving spouse can be named as beneficiaries of the bypass trust.  Thus, the spouse who designs the trust designates the beneficiaries which can especially be a benefit for spouses with blended families.    However, unlike portability planning, there is no second basis step-up for assets transferred in trust.  Thus, if income tax on assets are priority after the second spouse passes, a bypass trust may not be the best planning device. 

In conclusion, higher exclusions and portability definitely has given planners and clients less complex planning mechanisms. Although there is beauty in this simplicity, bypass trust planning may be a better option in some instances and should always be considered depending on a client’s specific estate planning goals. To explore the options that may be right for you, please contact me at 414-491-3283 or at David.Watson@watsonatlaw.com.