2014 Trust and Estate Planning Steps - PART 3: Asset Protection Trusts Facilitate Income Tax Savings
This is the third article of a series regarding 2014 Trust and Estate Planning
For the prior articles, see:
The previous article highlighted the opportunity of making a distribution from a trust by March 6th in order to reduce income taxes. The problem for some of our clients is that they don’t want the beneficiary to get their hands on a large sum of money. One trust would like to make a distribution of $265,000 in order to reduce overall income taxes.
Several of our clients have utilized asset protection trusts to capture income tax savings in a manner that does not result in their children receiving a lot of cash. These clients have been able to persuade their child to establish an asset protection trust with the parent as the trustee. The child’s trust (typically established by the child’s parent or grandparent) then makes a distribution directly to the asset protection trust.
The asset protection trust uses the social security number of the child as its taxpayer identification number. The trust income tax rules treat the distribution from the child’s trust to the asset protection trust as a distribution to the child. The income will be taxed on the child’s Form 1040 where it will enjoy a lower tax rate than if the child’s trust had not made a distribution.
You can use an asset protection trust even if it is established after March 6. First, make a distribution to the child on March 6 and have the child deposit the distribution in a savings account. After the asset protection trust is established, the child will then move the funds to the asset protection trust. This technique is not as good as the direct trust-to-trust transfer, because the child has access to the funds for some period of time.
Minors are not able to establish asset protection trusts. However, there are other techniques that can be used to make a distribution to a minor in order to reduce income taxes. All of these techniques have flaws, but the flaws should be evaluated against the potential income tax savings.