One-size-fits-all estate plans are impracticable due to the differences and varying complexities in each person’s estate. It is imperative to tailor an estate plan to meet each client’s needs and goals, so the drafting attorney must understand the character of the assets in the client’s estate and the planning options best suited for each client. Because high net worth clients are often very protective of their assets, planning objectives and recommendations for clients with large estates will almost always differ and be more complex than those for other clients.
Many clients request staggered distribution trusts that direct the trustee to make distributions to the trust beneficiaries when they reach specific ages. This common planning strategy may be effective for those who simply wish to have more control over the timing of the distribution of the trust assets after their deaths, but unfortunately, staggered distribution trusts do not fully protect estates from estate, gift, and generation-skipping transfer (GST) taxes or from creditors’ claims, including claims from ex-spouses of beneficiaries. Other options exist, including dynasty trusts, grantor retained annuity trusts (GRATs), and domestic asset protection trusts (DAPTs). Each of these trusts requires the grantor to transfer assets outside of their estate to an irrevocable trust, thereby gaining a benefit such as creditor protection or estate and gift tax avoidance.
“Options to staggered distribution trusts include dynasty trusts, grantor retained annuity trusts, and domestic asset protection trusts.”
A dynasty trust is an irrevocable, long-term trust created to pass wealth from generation to generation without incurring gift, estate, or GST taxes for as long as assets remain in the trust. It may be used in myriad ways to achieve a client’s goals. It may be established during life or at death to hold and protect assets for multiple generations, to provide creditor or spendthrift protection, or merely as an expedient tool for transferring assets to grandchildren. Regardless of the circumstances, the most common purpose for a dynasty trust is to take advantage of the GST tax exemption it offers and to transfer wealth across multiple generations.
A GRAT is an irrevocable trust that allows a grantor to contribute assets to a trust and retain an annuity stream for a specified term during their lifetime. At the end of the term, any assets left in the trust are transferred to the trust beneficiary’s estate, gift tax-free. GRATs make sense for a high net worth client who needs an estate planning tool that can help reduce their ultimate estate tax liability while at the same time retaining an income stream during their lifetime. It is important to ensure that the term of the GRAT is shorter than the life expectancy of the grantor: If the grantor dies before the term ends, the trust property that remains in the trust at the grantor’s death will be included in the grantor’s taxable estate. The primary purpose of a GRAT is defeated if the grantor does not survive the term so it is imperative to assess the client’s mortality risk before setting up a GRAT. A GRAT is also not an effective way to minimize GST tax and thus is not the best estate planning technique if that is a concern.
DAPTs are gaining popularity as an estate planning tool and are now recognized in nineteen states (not North Carolina-however a DAPT can still be used by an NC resident). Through the creation of a DAPT, the grantor transfers assets to an irrevocable trust. The assets transferred to the trust are those that the client does not necessarily require to sustain their everyday life since the transfer must be made to a trustee who is not the grantor of the DAPT. Once the transfer is complete, the assets transferred will be shielded from potential creditor liability. The downside of a DAPT is that the assets, once transferred, will no longer be under the grantor’s control, but rather will be subject to the control and authority granted to the trustee under the terms of the trust. This is sometimes a hard pill to swallow for a grantor who has worked hard to accumulate assets. Like the other estate planning techniques, DAPTs are not appropriate for everyone. However, those with larger estates can be great candidates for DAPTs because they may have accumulated wealth that does not need to be available to meet their living expenses. Further, if the client is in a type of business that is regularly exposed to creditors and creditors’ claims, a DAPT may make sense.
The careful attorney should ask multitude of questions regarding the assets in a client’s estate and their goals for their estate plan when trying to determine if a large estate is involved and more complex planning is required. Is the client concerned, or should they be concerned, about estate, gift, or GST tax exposure? Does the client wish to retain an income stream during their lifetime? Are mortality risks a concern? Are future creditors or lawsuits an issue that should be addressed? Knowing what questions to ask, and what options to provide based on the answers, is key to providing a well-tailored estate plan that accomplishes all of the client’s goals. Give us a call and we can help you plan your estate.
Shane T. Johnson is the CEO and Managing Partner of Johnson Legal, an estate planning and business law firm in Wilmington, NC. With years of experience in estate and business law, he has zealously represented clients in various legal matters, including small business formation and purchasing, estate planning, probate, domestic violence, and other legal cases.
Shane received his Juris Doctor from the University of Wyoming and is a member of the North Carolina Bar Association. He has received numerous accolades for her work, including being named among the Best Probate Lawyers in Wilmington by Expertise.com.
