What is an AB Trust (also known as A-B, Trust, A/B Trust, or Bypass Trust)? Should an AB Trust be part of an Estate Plan? Does the increase in the federal estate tax exemption and new portability deadlines make AB trusts obsolete? What should I do if I have an AB Trust?
by James L. Cunningham Jr., Esq.
An AB Trust is a joint Trust created by many married couples that can help them maximize their federal estate tax exemptions. This Trust is funded with the assets of each spouse and divided into two separate Trusts (Trust A and Trust B) upon the death of the first spouse.
The AB Trust plan results in the B Trust, or Bypass Trust, being funded upon the death of the first spouse with an amount equal to the applicable estate tax exclusion amount. Any remaining estate assets (1/2 of the deceased spouse’s community property and separate property of the surviving spouse) are placed into the A Trust, or Survivor’s Trust. The assets required to fund the B Trust do get an adjusted basis on the death of the first spouse, but do not receive a second adjusted basis upon the death of the surviving spouse. Consequently, inheritors of the Trust assets at the surviving spouse’s death will not inherit the assets at fair market value and face potential significant capital gains tax upon sale of those B Trust assets.
Due to the increase of the federal Estate Tax exemption over the past few years (as of 2022 it’s $12,060,000 per person and $24,120,000 per couple when a surviving spouse elects portability within 5 years of the death of the other spouse), most married couples are more concerned with avoiding income and capital gains tax rather than Estate Tax. Portability is a federal tax provision that allows the first spouse to leave all of his or her assets to the surviving spouse. Portability affords an incentive to move away from the AB Trust because with today’s $12.06 million individual exemption amount, a couple can protect $24.12 million without using AB Trust planning. Instead, an Estate Plan that gives the surviving spouse flexibility and control over the Trust estate is the better option to avoid Estate Tax and reduce income tax and potential capital gains tax exposure.
Understanding the B Trust
The requirement to fund and maintain a B Trust is the responsibility of the Trustee, typically the surviving spouse. There are several factors to consider and understand regarding the B Trust:
- The B Trust becomes irrevocable upon the first spouse’s death (surviving spouse cannot revoke, amend, or change the provisions of the B Trust).
- The surviving spouse’s use of the assets in the B Trust are typically limited to the principal amounts for health, education, maintenance, and support.
- The Trustee is liable to the future “inheritors”of the B Trust for appropriately using the assets and rendering yearly accountings.
- The Trustee must provide a copy of the terms of Trust B to the heirs and future beneficiaries.
- The Trustee must properly allocate, title assets in, obtain a tax ID number for, and maintain the B Trust after the first spouse’s death.
- The Trustee must accurately track and keep records of the assets and transactions of each Trust and complete separate tax filings for the A & B Trusts each year.
It is imperative that you have your Estate Plan reviewed periodically to ensure your plan evolves with changes in the law and the wishes of you and your spouse. The structure of the AB Trust may or not be the best option for your family. If this is your current plan, we would like to discuss the consequences of this structure with you.
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James Cunningham Jr., Esq.
At CunninghamLegal, we guide savvy, caring families in the protection and transfer of multi-generational wealth.