Should a Bypass Trust Be Used As An Estate Planning Tool For Clients?

by Roger A. McEowen

A common estate planning strategy for martial estates where the couple’s potential combined taxable estates exceeds the exemption equivalent for one of the spouses is the bypass trust.  The strategy involves balancing the estates in terms of value pre-death and then each spouse having a will that mirrors the other spouse’s will.  The wills split each spouse’s property into two shares.  One share is tied to the size of the applicable exclusion ($5.34 million for deaths in 2014) and is left in life estate form to the surviving spouse with a remainder to designated beneficiaries (typically children).  The other share is left outright to the surviving spouse and qualifies in the first spouse’s estate for the marital deduction.  The strategy zeroes out the estate tax in the first spouse’s estate and minimizes the tax in the survivor’s estate. 

But, is the use of the bypass trust the best strategy in the age of portability of the unused exemption at the death of the first spouse?  There are some things to look for in client situations that may make utilization of portability and a simple will the better approach.  A trust may not be necessary if the children are all adults (and can handle large bequests) and the parents’ estates are going to be left to them.  Also, portability may be the way to go if combined spousal wealth is less than twice the exemption equivalent of the unified credit ($10.68 million for deaths in 2014).  Also, if the parents reside in a state that doesn’t have either an estate or inheritance tax, portability may make more sense (if the other factors are also present) than using bypass trusts.  Of course, if there are asset protection issues, the bypass trust approach may be desired.  Also, relatively younger couples may need trusts to provide the planning benefits needed if there is an untimely death of one spouse and a remarriage of the survivor. 

Remember, for many clients, income tax issues now exceed estate tax issues.  That means that ensuring stepped-up basis at death is key.  Portability may have an advantage over the bypass trust approach on that point. But, one drawback of portability may be a delay in closing the estate.