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Plenty of reasons to hang on to a credit shelter trust

Mar 16th 2011
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Preserve credit shelter trusts for the future Are some of your clients looking to ditch their credit shelter trusts? Not so fast.


Strategy: Dissuade clients from dismantling these arrangements. There are still plenty of reasons for keeping an existing trust intact.

Significantly, the new estate tax rules in the 2010 Tax Relief Act that seemingly discourage the use of credit shelter trusts are scheduled to “sunset” after 2012.

Background information: Under the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), the federal estate tax exemption crested in 2009 at $3.5 million, with a top estate tax rate reduced to 45%. Then the estate tax was completely repealed, but only for 2010. EGTRRA provided comparable changes for the generation-skipping tax (GST). Also, the rules allowing a step-up in basis on inherited assets were replaced by modified “carryover basis” rules for 2010.

For 2011 and 2012, the 2010 Tax Relief Act increases the estate tax exemption to $5 million, with a tax rate of 35% on the excess over $5 million. The new law also replaces the modified carryover basis rules with the “step-up in basis” rules that existed prior to 2010. It also allows for “portability” of any unused estate tax exemption of a married individual. In other words, if a deceased spouse’s estate doesn’t use up the entire exemption, the remainder is available to the estate of the surviving spouse.

Previously, clients would often use a credit shelter trust to maximize the estate tax exemptions of both spouses. Upon the death of the first spouse, an amount equal to the maximum exemption could be transferred to a trust for the children. When the second spouse died, his or her estate (which would also usually go to the children) would be sheltered by his or her separate exemption.

The new rules seem to eliminate the need for a credit shelter trust. But be aware:

  • The estate tax provisions in the new law expire after 2012. If Congress doesn’t act again, the estate tax exemption will revert to just $1 million in 2013, with a top 55% tax rate and no portability for unused exemptions.
  • Many states have their own estate taxes. The estate tax exemptions for those states are all less than $5 million. So families are still at risk for state taxes.
  • Note that portability does not apply to the GST. Beginning in 2011, the GST exemption is $5 million, so a grandparent may want to take advantage of this provision.

The maximum that can be sheltered under the portability provision is $10 million.

Other estate planning techniques can help protect assets that will appreciate above the $10 million mark.

Based on the new estate tax rules, a credit shelter trust may be amended, but it should generally be preserved for the future.


Advisory: A trust can provide other benefits such as protection from creditors and restraints on spending.

Reprinted with permission from The Tax Strategist, March 2011. For continuing advice on this and numerous other tax strategies, go to Receive 2 FREE Bonus reports and a 40% discount on The Tax Strategist when you use Promo Code WN0013.

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