Will a QTIP Trust Work for a Blended Family?
Many people have so-called “blended” families, where one or both spouses have children from a previous marriage.
Estate planning can be hard for a spouse in a blended family who wants to provide for a surviving spouse and for children from an ex-spouse.
Fed Week’s recent article entitled “‘Blended’ Families Raise Special Estate Planning Considerations” suggests that one option may be a qualified terminable interest property or “QTIP” trust.
Although a QTIP trust is most often used in the context of estates that may be subject to the federal estate tax, this kind of irrevocable trust can also be used in the context of blended families. In fact, if estate taxes are not a concern because the client is significantly below the lifetime exclusion, the QTIP trust can be modified to include powers not typically used in a estate tax QTIP trust.
A QTIP trust allows the settlor of the trust to provide income for life to a surviving spouse and maintain control of how the trust’s assets are distributed, once the surviving spouse dies.
Income (and sometimes the principal) generated from the trust is given to the surviving spouse to ensure that the spouse is cared for during the rest of his or her life. Therefore, with a QTIP:
- At the death of the first spouse, the assets pass to a trust, the income of which is distributed to the surviving spouse at least annually. No one else can receive distributions from the trust; then
- At the death of the second spouse, any assets left in the QTIP trust are passed to beneficiaries named by the first spouse to die. This is usually the children of the first spouse to die.
With a QTIP, estate tax is not imposed when the first spouse’s dies, as long as all income of the QTIP trust is distributed to or for the benefit of the surviving spouse. If structured properly, the settlor (the first spouse to die) can leave a “sprinkling power” to the surviving spouse and/or a “5-by-5” power to the surviving spouse. If the QTIP trust meets these qualifications, and as long as the surviving spouse does not have general control over the QTIP trust, the estate tax is determined with respect to the assets in the QTIP trust after the second spouse has died.
Moreover, the property within the QTIP providing funds to a surviving spouse qualifies for marital deductions. As such, the value of the trust isn’t taxable after the first spouse’s death.
While this arrangement may appear to address the needs of both sides, in many remarriages the surviving spouse is much younger than the one who died.
In many cases, the surviving spouse may be close to the age of the children of the spouse who died. As a consequence, those children may have to wait a number of years for their inheritance.
To avoid this, a better approach would be to provide for biological children as well as for a surviving spouse at the first death. Assets can be divided at that time.
If an asset division is impractical, the proceeds of a life insurance policy may help to provide some inheritance for all parties.
Despite the benefits of a QTIP trust, a “bypass” trust should first be looked to for clients who may possibly be in an estate taxable position. A “bypass trust” may be the topic of another post.
To receive more information on these types of trusts, you can BOOK A CALL with Ted anytime to discuss.
Reference: Fed Week (May 7, 2021) “‘Blended’ Families Raise Special Estate Planning Considerations”