EVERYTHING A BABY BOOMER SHOULD KNOW
It is not the intention of this guidebook to be flippant with legal terms, like those above that sound like some archaic lexicon from ages past. But to a certain extent that is exactly what legal language is. It was never intended to be used in the vernacular, and it is near impossible to translate without losing meaning.
Nevertheless, the idea here is to breed familiarity with the language used in legal documents that will divide and distribute your estate after you or your spouse is gone. If you did not want to know more about the “terms of art” you would not be reading this.
At the risk of being criticized for oversimplifying the definitions of complex legal concepts, or perhaps applauded for doing the same, there are some terms you need to know to better understand how estate planning works.
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“The Three-Way Formula Split With Marital Deduction Pecuniary Formula Clause”
You may think you will never run across a phrase like this in your estate plan, but in fact the clause is used frequently in Living Trusts. Its purpose is to determine how much of the deceased Husband’s estate goes directly to the Wife, and how much of the estate assets will fund the Bypass Trust.
Generically speaking, a “marital deduction formula clause” splits the Husband’s and Wife’s estate into two parts: the marital deduction share that goes to the Wife’s Survivor’s Trust, and the nonmarital deduction share that goes into the deceased Husband’s “credit shelter trust” e.g. Bypass Trust, to be used by Wife for her lifetime, then distributed to the children upon her death.
Remember that Wife is entitled by law to receive all of her Husband’s estate directly into her Survivor’s Trust when he dies and not pay a penny of taxes on it, even if it was a billion dollars. This is called the “unlimited marital deduction.” (See How The Federal Exemption Tax Works)
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Disclaimer Trust
A marital deduction pecuniary clause, or “formula clause” and a disclaimer trust operate in much the same way. They both give Nora the advantage of “picking and choosing” assets she may or may not want in her own estate now that she is single.
The difference is that a “formula clause” controls how much of her husband’s estate shall be distributed into each Bypass or QTIP trust, while a Disclaimer Trust allows her to keep her husband’s entire estate if she so chooses.
Along with this power to choose comes the “power of appointment” allowing her to bequeath and devise her husband’s share of the estate the way she wants. This power over her husband’s assets also makes her vulnerable to the interpretation that the assets should be included back into her estate for tax purposes.
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Family Pot Trust – with Sprinkling Powers or “Sprinkling Trust”
A good tool for a family like Dr. Dentist and Nora with two minor girls is the family pot trust. This trust pools together property for the benefit of their daughters into a single trust, as opposed to funding two separate trusts.
If the trustee is given “sprinkling power” over the distribution of trust assets, it means the trustee has full discretion to decide when to pay money, how much to pay, and what proportion of the trust to pay to each child.
The effect of allowing a trustee to “sprinkle” income and principal between the children is to substitute the same discretion as a parent. In this fashion, if both parents are deceased, the trustee has the power to provide for unforeseen crisis, or medical attention, or any other emergency.
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Generation Skipping Trust – Not For Everybody
Do not confuse the “generation-skipping tax,” with the “federal estate and gift tax.” The “federal estate tax and gift tax” is a unified tax. The estate and gift tax draw from the same tax exemption.
To avoid paying the estate tax, you use the marital deduction exemption, and to not pay taxes on an annual gift to your child you use the annual gift tax exemption. (See How The Federal Tax Exemption Works)
For example, if you died in the year 2006 your estate could exempt up to $2,000,000 and not pay any estate taxes on it.
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How Badly Do You Want To Provide For Your Grandchildren?
Generation-skipping tax planning is usually for families that want to transfer their wealth tax-free to children for generations to come. Generation-skipping means leaving a portion of wealth for the third generation, such as if Walt the plumber wanted to leave special assets for his grandchildren.
But Walt’s estate is probably not large enough to worry about generation skipping unless it is a priority for him. His desired results can be achieved by using other estate planning tools, while leaving his primary wealth to his second generation.
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An Insider's Guide to Estate Planning
TO ESTATE PLANNING:
KNOW WHAT YOU’RE TALKING ABOUT!
Why pay money so an attorney can try and explain the difference between a Bypass Trust and a QTIP Trust, when this book will answer that question long before you have to pay for a consultation?
This guidebook helps you map out your estate plan so it goes exactly where you want it to go. It explains the tools you need to give away or preserve your money, homes, businesses, heirlooms, cars, boats, jewelry, tools, art, memorabilia, and every other artifact of life you have accumulated over the last 45 to 65 baby booming years.
Mark S. Cornwall, Esq.
210 E. Figueroa Street
Santa Barbara, CA 93101