Structuring Joint Trusts in Separate Property States to Avoid Income - - PowerPoint PPT Presentation

Structuring Joint Trusts in Separate Property States to Avoid Income and Gift Tax Pitfalls

Identifying "Problem" Assets, Coordinating JRTs With Credit Shelter Trusts, Drafting GPOAs, and More

1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific TUESDAY, MAY 23, 2017

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Today’s faculty features: Lauren Evans DeJong, Of Counsel, Stahl Cowen Crowley Addis, Chicago Scott K. Tippett, Attorney, The Tippett Law Firm, Oak Ridge, N.C.

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Agenda

 Community vs. Common law property overview  Tax and non-tax considerations for utilizing a joint

revocable trust (JRT) in a separate property state

 Gift and estate tax issues to avoid in funding and

administering a JRT in a separate property state

 Income tax issues and potential advantages of JRTs  Community vs. Common law property overview  Tax and non-tax considerations for utilizing a joint

revocable trust (JRT) in a separate property state

 Gift and estate tax issues to avoid in funding and

administering a JRT in a separate property state

 Income tax issues and potential advantages of JRTs

5

Community Property Law - Overview

 What is Community Property?

• Community. To have community property, there must be a

community (typically a marriage). States differ whether the community property system applies to domestic registered

• partnerships. Nevada says yes; Wisconsin says no.

 Nine states plus D.C. provide either civil unions or domestic

partnerships to same-sex couples within the state: California (domestic partnerships), Colorado (civil unions), District of Columbia (domestic partnerships), Hawaii (civil unions), Illinois (civil unions) Maine (limited domestic partnerships), Nevada (domestic partnerships), New Jersey (civil unions), Oregon (domestic partnerships), Washington (limited domestic partnerships) and Wisconsin (domestic partnerships).

 What is Community Property?

• Community. To have community property, there must be a

community (typically a marriage). States differ whether the community property system applies to domestic registered

• partnerships. Nevada says yes; Wisconsin says no.

 Nine states plus D.C. provide either civil unions or domestic

partnerships to same-sex couples within the state: California (domestic partnerships), Colorado (civil unions), District of Columbia (domestic partnerships), Hawaii (civil unions), Illinois (civil unions) Maine (limited domestic partnerships), Nevada (domestic partnerships), New Jersey (civil unions), Oregon (domestic partnerships), Washington (limited domestic partnerships) and Wisconsin (domestic partnerships).

6

Community Property Law-Overview

 The nine (9) community property states are:

• Arizona
• California
• Idaho
• Louisiana
• Nevada
• New Mexico
• Texas
• Washington (the state not the District)
• Wisconsin.
• Alaska* (opt-in community property state where both parties

may make their property community property).

• Tennessee* (optional community property trust)

 The nine (9) community property states are:

• Arizona
• California
• Idaho
• Louisiana
• Nevada
• New Mexico
• Texas
• Washington (the state not the District)
• Wisconsin.
• Alaska* (opt-in community property state where both parties

may make their property community property).

• Tennessee* (optional community property trust)

7

Community Property Law - Overview

 General Approach. All property of the spouses is either

“community” or “separate” property. Community property comes from civil law, while separate property comes from common law. Under common law, title is critical for determining ownership.

 Separate Property. A spouse’s separate property includes:

• property owned or claimed by the spouse prior to marriage;
• property acquired during marriage by gift or inheritance; and
• (in some states) recovery for personal injuries sustained

during marriage, except recovery for loss of earning capacity.

• If separate property is sold or exchanged, the proceeds are

also separate property , but only if the proceeds can be traced to the original separate property.

 General Approach. All property of the spouses is either

“community” or “separate” property. Community property comes from civil law, while separate property comes from common law. Under common law, title is critical for determining ownership.

 Separate Property. A spouse’s separate property includes:

• property owned or claimed by the spouse prior to marriage;
• property acquired during marriage by gift or inheritance; and
• (in some states) recovery for personal injuries sustained

during marriage, except recovery for loss of earning capacity.

• If separate property is sold or exchanged, the proceeds are

also separate property , but only if the proceeds can be traced to the original separate property.

8

Community Property Law - Overview

 Community Property. Everything else. If it is not

separate property, then it is community property.

 Income from Separate Property. In five (5) states

(Arizona, California, New Mexico, Washington, and Wisconsin), income from separate property remains separate property. In the other community property states, it does not.

 Community Property. Everything else. If it is not

separate property, then it is community property.

 Income from Separate Property. In five (5) states

(Arizona, California, New Mexico, Washington, and Wisconsin), income from separate property remains separate property. In the other community property states, it does not.

9

Community Property Law - Overview

 ISSUE: Problems can arise where income from separate

property is treated as community property, i.e. interest and dividends (which are treated as income) retained in a separate property brokerage account are treated as “mixed” – part separate property and part community property.

 Mixed or Commingled Property. If property is

purchased with community property and separate property

• f one or both spouses, the property will be jointly owned

by the community and separate property estates in proportion to the consideration provided by each.

 ISSUE: Problems can arise where income from separate

property is treated as community property, i.e. interest and dividends (which are treated as income) retained in a separate property brokerage account are treated as “mixed” – part separate property and part community property.

 Mixed or Commingled Property. If property is

purchased with community property and separate property

• f one or both spouses, the property will be jointly owned

by the community and separate property estates in proportion to the consideration provided by each.

10

Community Property Law - Overview

 “Tracing” is required to determine the portion of mixed

property that constitutes separate property.

 Presumption of Community Property. Property acquired by

the spouses during marriage while domiciled in a community property state is presumed to be community property. The presumption can be rebutted only by showing through clear and convincing evidence establishing the property was acquired prior to the marriage, by gift or inheritance, or by funds from separate property.

 Note: The presumption is in favor of community property. If

the source of the property used for acquiring the asset cannot be traced, it is community property.

 “Tracing” is required to determine the portion of mixed

property that constitutes separate property.

 Presumption of Community Property. Property acquired by

the spouses during marriage while domiciled in a community property state is presumed to be community property. The presumption can be rebutted only by showing through clear and convincing evidence establishing the property was acquired prior to the marriage, by gift or inheritance, or by funds from separate property.

 Note: The presumption is in favor of community property. If

the source of the property used for acquiring the asset cannot be traced, it is community property.

11

Community Property Law - Overview

 Title and Possession Is Not Critical. In community

property states, the source of funds, not the manner in which the asset is titled, determine whether it is community property. In separate property states, the manner in which the asset is titled generally determines ownership.

 EXCEPTIONS: “Sole and Separate Property” & Gifts.

Property conveyed to one spouse as that spouse’s “Sole and separate property” is separate property IF the other spouse joined in the transaction. Absent evidence to the contrary, gifts by one spouse to the other become the separate property of the donee spouse. If a spouse uses separate property to purchase an asset titled in both spouses’ names, the donor spouse is presumed to have made a gift of a one-half interest in the asset to the donee spouse as the donee spouse’s separate property.

 Title and Possession Is Not Critical. In community

property states, the source of funds, not the manner in which the asset is titled, determine whether it is community property. In separate property states, the manner in which the asset is titled generally determines ownership.

 EXCEPTIONS: “Sole and Separate Property” & Gifts.

Property conveyed to one spouse as that spouse’s “Sole and separate property” is separate property IF the other spouse joined in the transaction. Absent evidence to the contrary, gifts by one spouse to the other become the separate property of the donee spouse. If a spouse uses separate property to purchase an asset titled in both spouses’ names, the donor spouse is presumed to have made a gift of a one-half interest in the asset to the donee spouse as the donee spouse’s separate property.

12

Community Property Law - Overview

 Inception of Title; Reimbursement Rights. In most

community property states the character of an asset (separate or community property) is determined when the asset is first acquired and its character will not be altered by a subsequent commingling. A minority of community property states follow the “apportionment rule.” In “inception” states, the expenditure of time or money by one spouse does not change the character of the asset, though it may give rise to a right of reimbursement, i.e. a spouse

• wned an encumbered asset prior to marriage and

community property is used to make debt payments during the marriage may give rise to a right of reimbursement, subject to an offsetting right of benefit obtained from use

• f the asset.

 Inception of Title; Reimbursement Rights. In most

community property states the character of an asset (separate or community property) is determined when the asset is first acquired and its character will not be altered by a subsequent commingling. A minority of community property states follow the “apportionment rule.” In “inception” states, the expenditure of time or money by one spouse does not change the character of the asset, though it may give rise to a right of reimbursement, i.e. a spouse

• wned an encumbered asset prior to marriage and

community property is used to make debt payments during the marriage may give rise to a right of reimbursement, subject to an offsetting right of benefit obtained from use

• f the asset.

13

Community Property Law - Overview

 Transmutation. In a majority of community property

states spouses can agree to treat property as community property that would otherwise be separate property.

 Community Property and Foreign Jurisdictions.

Most non-English speaking civil law countries (China, France, Spain, and Latin American countries to name a few) have marital property systems very similar to community property. English speaking countries (England and Canada) generally do not have community property systems.

 Transmutation. In a majority of community property

states spouses can agree to treat property as community property that would otherwise be separate property.

 Community Property and Foreign Jurisdictions.

Most non-English speaking civil law countries (China, France, Spain, and Latin American countries to name a few) have marital property systems very similar to community property. English speaking countries (England and Canada) generally do not have community property systems.

14

Community Property Law - Overview

 Community Property Trusts (Alaska and

Tennessee). Under legislation in those states, nonresidents can establish community property trusts, and if the trust complies with the legislation, property contributed to the trust becomes community

• property. In Tennessee, when property is distributed
• ut of the community property trust it ceases to be

community property (T.C.A. Sec. 35-17-108).

 Community Property Trusts (Alaska and

Tennessee). Under legislation in those states, nonresidents can establish community property trusts, and if the trust complies with the legislation, property contributed to the trust becomes community

• property. In Tennessee, when property is distributed
• ut of the community property trust it ceases to be

community property (T.C.A. Sec. 35-17-108).

15

Community Property Law - Overview

 But I do not practice in a community property

state, so why does all this matter?

 But I do not practice in a community property

state, so why does all this matter?

16

Significance of Characterization of Property

 Property Rights.

• Ownership. Community property assets are owned one-half by each spouse.
• Management. Community property spouses generally have co-extensive

management rights over community property.

• Creditor’s Rights. The property’s character (community or separate) determines

what can be reached by the creditor of one spouse. Creditor rules vary among community property states.

• Survivorship Rights. Traditionally community property could not be held as

TBE or JTWROS. Some community property states now permit community property to be held with survivorship rights. In Rev. Rul. 87-98 the IRS ruled that community property with rights of survivorship would continue to be recognized as community property for tax purposes as long as it is recognized as community property under state law.

• Ability to Make Gifts. A few community property states prohibit a spouse from

making a gift of community property. Others permit a spouse to gift property

• ver which the spouse has “sole management authority” unless the gift would be

a “fraud” on the other spouse’s community property rights.  Property Rights.

• Ownership. Community property assets are owned one-half by each spouse.
• Management. Community property spouses generally have co-extensive

management rights over community property.

• Creditor’s Rights. The property’s character (community or separate) determines

what can be reached by the creditor of one spouse. Creditor rules vary among community property states.

• Survivorship Rights. Traditionally community property could not be held as

TBE or JTWROS. Some community property states now permit community property to be held with survivorship rights. In Rev. Rul. 87-98 the IRS ruled that community property with rights of survivorship would continue to be recognized as community property for tax purposes as long as it is recognized as community property under state law.

• Ability to Make Gifts. A few community property states prohibit a spouse from

making a gift of community property. Others permit a spouse to gift property

• ver which the spouse has “sole management authority” unless the gift would be

a “fraud” on the other spouse’s community property rights.

18

Significance of Characterization of Property

 Divorce. The usual starting point is that community

property is divided 50-50 between the spouses and each spouse keeps his or her separate property. Some states allow a “just and equitable” division of community property by the court.

 Death. The deceased spouse can dispose of his or her

separate property and his or her one-half interest in community property, which includes community property titled solely in the name of the other spouse. ALL community property is subject to administration for a limited time, and is therefore subject to the claims of creditors.

 Divorce. The usual starting point is that community

property is divided 50-50 between the spouses and each spouse keeps his or her separate property. Some states allow a “just and equitable” division of community property by the court.

 Death. The deceased spouse can dispose of his or her

separate property and his or her one-half interest in community property, which includes community property titled solely in the name of the other spouse. ALL community property is subject to administration for a limited time, and is therefore subject to the claims of creditors.

19

Effect of Migrating Between Community Property and Separate Property Jurisdictions

 American Rule. The Mutability Principle. The law

governing marital property depends upon where the couple is living from time to time. The law of the state in which the married couple is domiciled at the time the property is acquired determines the character of the property so

• acquired. When spouses move from a community property

to a separate property state, the property remains community property, including property acquired in separate property states with community property funds or proceeds of community property.

 European Rule. The Immutability Principle. The law of

the couple’s first marital domicile determines the character of their property.

 American Rule. The Mutability Principle. The law

governing marital property depends upon where the couple is living from time to time. The law of the state in which the married couple is domiciled at the time the property is acquired determines the character of the property so

• acquired. When spouses move from a community property

to a separate property state, the property remains community property, including property acquired in separate property states with community property funds or proceeds of community property.

 European Rule. The Immutability Principle. The law of

the couple’s first marital domicile determines the character of their property.

20

Planning Considerations and Strategies for Community Property

 Advice. Counsel clients regarding the property rights

• f each spouse, whether spousal agreements or waivers

exist, the tax consequences of characterization, and how rights are affected by divorce and death. Query: Conflict to advise both spouses?

 Blindsided? Do not be blindsided. Common mistake

by estate planners in common law (separate property) jurisdictions is to unwind community property without considering the impact of doing so, i.e. loss of double basis step up or possibility of fractionalization discounts.

 Advice. Counsel clients regarding the property rights

• f each spouse, whether spousal agreements or waivers

exist, the tax consequences of characterization, and how rights are affected by divorce and death. Query: Conflict to advise both spouses?

 Blindsided? Do not be blindsided. Common mistake

by estate planners in common law (separate property) jurisdictions is to unwind community property without considering the impact of doing so, i.e. loss of double basis step up or possibility of fractionalization discounts.

21

Planning Considerations and Strategies for Community Property

 Clients Moved? Always ask clients for a timeline of where

they have lived from the date of marriage to present. Clients may not even realize they own community property.

 Document. Migrating clients should maintain an

inventory of their assets and records sufficient to trace the source of funds used to acquire property.

 Establish Separate Accounts. Establish separate

accounts for community property and separate property or use revocable trusts to hold community and separate

• property. Avoid commingling community and separate

property to prevent tracing issues.

 Clients Moved? Always ask clients for a timeline of where

they have lived from the date of marriage to present. Clients may not even realize they own community property.

 Document. Migrating clients should maintain an

inventory of their assets and records sufficient to trace the source of funds used to acquire property.

 Establish Separate Accounts. Establish separate

accounts for community property and separate property or use revocable trusts to hold community and separate

• property. Avoid commingling community and separate

property to prevent tracing issues.

22

Planning Considerations and Strategies for Community Property

 Formalize Agreements. Request marital agreements

to document character of property. Beware of a triple- pronged agreement (all currently owned and after acquired property is community property, separate property is on attached schedule, and deceased spouse’s share of community property passes to surviving spouse without probate), which could create a problem funding a credit shelter trust.

 Formalize Agreements. Request marital agreements

to document character of property. Beware of a triple- pronged agreement (all currently owned and after acquired property is community property, separate property is on attached schedule, and deceased spouse’s share of community property passes to surviving spouse without probate), which could create a problem funding a credit shelter trust.

23

Planning Considerations and Strategies for Community Property

 Great - You have an agreement prepared in a

foreign country! Foreign spouses often have marital property agreements prepared by a notary adopting either a community property or a separate property

• regime. Those agreements are respected in the

United States for property and tax law purposes. Even if the client has never lived in a community property state in the United States, he or she may have a marital property agreement from a civil law country that deems all property community property.

 Great - You have an agreement prepared in a

foreign country! Foreign spouses often have marital property agreements prepared by a notary adopting either a community property or a separate property

• regime. Those agreements are respected in the

United States for property and tax law purposes. Even if the client has never lived in a community property state in the United States, he or she may have a marital property agreement from a civil law country that deems all property community property.

24

Planning Considerations and Strategies for Community Property

 Have You Considered Confirming or Changing the

Character of Property? Consider and discuss with your client whether the character of property should be confirmed or changed by agreement, conveyance,

• r partition. Be sure to address the impact of any

change on the spouse’s expectations with respect to that property. TBE agreements have tax consequences and ethical issues. The character of property can be segregated in a RLT that specifically identifies property as separate or community property.

 Have You Considered Confirming or Changing the

Character of Property? Consider and discuss with your client whether the character of property should be confirmed or changed by agreement, conveyance,

• r partition. Be sure to address the impact of any

change on the spouse’s expectations with respect to that property. TBE agreements have tax consequences and ethical issues. The character of property can be segregated in a RLT that specifically identifies property as separate or community property.

25

Planning Considerations and Strategies for Community Property

 Income From Separate Property and Other Reasons to

Change Characterization.

• Under the laws of Idaho, Louisiana, Texas, and Wisconsin income

from separate property is community property. Clients may want to switch characterization to keep income as separate property.

• Because of the double basis step up with community property, it

may be desirable to change rapidly appreciating separate property to community property. For depreciating property, the reverse is true and clients should consider changing community property to separate property.

• Couples moving from a common law (separate property state) to

Arizona, Nevada, New Mexico, or Texas may leave no protection for the non-owner spouse at death because those states do not recognize “quasi community property.” Clients may wish to consider changing separate property to community property so the surviving spouse has protected property rights.

 Income From Separate Property and Other Reasons to

Change Characterization.

• Under the laws of Idaho, Louisiana, Texas, and Wisconsin income

from separate property is community property. Clients may want to switch characterization to keep income as separate property.

• Because of the double basis step up with community property, it

may be desirable to change rapidly appreciating separate property to community property. For depreciating property, the reverse is true and clients should consider changing community property to separate property.

• Couples moving from a common law (separate property state) to

Arizona, Nevada, New Mexico, or Texas may leave no protection for the non-owner spouse at death because those states do not recognize “quasi community property.” Clients may wish to consider changing separate property to community property so the surviving spouse has protected property rights.

26

Planning Considerations and Strategies for Community Property

 Joint Revocable Trusts. Community property

contributed to a joint revocable trust will be recognized as community property for tax purposes as long as it is still recognized as community property under state law. Contributing property to a one- spouse RLT may not be sufficient to change the character of community property to separate property. See Katz v. United States, 382 F.2d 723 (9th. Cir. 1967).

 Joint Revocable Trusts. Community property

contributed to a joint revocable trust will be recognized as community property for tax purposes as long as it is still recognized as community property under state law. Contributing property to a one- spouse RLT may not be sufficient to change the character of community property to separate property. See Katz v. United States, 382 F.2d 723 (9th. Cir. 1967).

27

Planning Considerations and Strategies for Community Property

 Know Before You Title (or Re-Title). Couples moving

from community property states should generally avoid taking title to assets as TBE or JTWROS if purchased with community property funds or proceeds of community property assets. Those designations are generally inconsistent with community property ownership.

 Leaving Gifts of Community Property? Gift splitting is

not needed for gifts of community property, but often requires the consent of both spouses. DO NOT make a gift

• f a community property asset to a trust of which the

spouse is a beneficiary IF the desire is to exclude that asset from the gross estate of both spouses. The beneficiary spouse will be treated as making a gift of a one-half interest with a retained beneficial interest.

 Know Before You Title (or Re-Title). Couples moving

from community property states should generally avoid taking title to assets as TBE or JTWROS if purchased with community property funds or proceeds of community property assets. Those designations are generally inconsistent with community property ownership.

 Leaving Gifts of Community Property? Gift splitting is

not needed for gifts of community property, but often requires the consent of both spouses. DO NOT make a gift

• f a community property asset to a trust of which the

spouse is a beneficiary IF the desire is to exclude that asset from the gross estate of both spouses. The beneficiary spouse will be treated as making a gift of a one-half interest with a retained beneficial interest.

28

Planning Considerations and Strategies for Community Property

 Make Sure Beneficiary Designations Are Correct. Be careful

before naming someone other than the spouse as beneficiary of a community property life insurance policy or retirement account. The non-insured/non-participant spouse may be treated as making a gift of one-half of the community property asset.

 Never Unintentionally Disinherit a Spouse. Typically

elective share and forced share rules do not apply in community property states because these rules do not exist in those states. As a result a spouse could be disinherited if one spouse owns most of the assets when moving from a separate property to a community property state. Consider a joint trust to prevent unintentionally disinheriting the surviving spouse where assets are titled predominantly in one spouse’s name.

 Make Sure Beneficiary Designations Are Correct. Be careful

before naming someone other than the spouse as beneficiary of a community property life insurance policy or retirement account. The non-insured/non-participant spouse may be treated as making a gift of one-half of the community property asset.

 Never Unintentionally Disinherit a Spouse. Typically

elective share and forced share rules do not apply in community property states because these rules do not exist in those states. As a result a spouse could be disinherited if one spouse owns most of the assets when moving from a separate property to a community property state. Consider a joint trust to prevent unintentionally disinheriting the surviving spouse where assets are titled predominantly in one spouse’s name.

29

Common Law Property – Basics



With community property, each spouse’s one-half interest in community property generally receives a basis adjustment equal to fair market value at the first spouse’s death [IRC Section 1014(b)(6)] = 100% basis adjustment at the first spouse’s death

• States that apply community property law include Alaska, Arizona, California, Idaho,

Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin 

With non-community property, only 50% of any jointly-owned spousal property (JSP) is included in deceased spouse’s estate and eligible for basis adjustment [IRC Section 2040(b)]

• Tracing rules apply if surviving spouse is a non-US citizen
• 100% stepped-up basis may be available for JSP created prior to 1977 under the so-called

Gallenstein rule 

Traditionally, separate revocable trusts are created by each spouse and funded with the couple’s separate and/or JSP

• Often requires the severance of joint ownership/tenancy by entirety (TBE) protection to

sufficiently fund credit shelter trust (“CST”) at first spouse’s death



Some states (VA, MD, Missouri, Indiana, Illinois Hawaii and DE) preserve TBE character

• Deceased spouse’s 50% interest in any JSP can also be disclaimed by surviving spouse into

CST via qualified disclaimer 

With community property, each spouse’s one-half interest in community property generally receives a basis adjustment equal to fair market value at the first spouse’s death [IRC Section 1014(b)(6)] = 100% basis adjustment at the first spouse’s death

• States that apply community property law include Alaska, Arizona, California, Idaho,

Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin 

With non-community property, only 50% of any jointly-owned spousal property (JSP) is included in deceased spouse’s estate and eligible for basis adjustment [IRC Section 2040(b)]

• Tracing rules apply if surviving spouse is a non-US citizen
• 100% stepped-up basis may be available for JSP created prior to 1977 under the so-called

Gallenstein rule 

Traditionally, separate revocable trusts are created by each spouse and funded with the couple’s separate and/or JSP

• Often requires the severance of joint ownership/tenancy by entirety (TBE) protection to

sufficiently fund credit shelter trust (“CST”) at first spouse’s death



Some states (VA, MD, Missouri, Indiana, Illinois Hawaii and DE) preserve TBE character

• Deceased spouse’s 50% interest in any JSP can also be disclaimed by surviving spouse into

CST via qualified disclaimer

30

Non-Tax Advantages of Joint Spousal Property (JSP) and JRTs



JSP/JRTs convey a sense of comfort and security to many spouses, because the assets are perceived as “ours” rather than “mine” or “yours”



JSP owned as joint tenants with rights of survivorship (JTWRS) or tenants by the entirety (TBE) generally avoids probate upon the first spouse’s death and passes automatically by

• peration of law to surviving spouse
• As a result, probate is deferred until the death of the surviving spouse (or their

simultaneous death)

• JSP is generally not available to fund CST unless qualified disclaimer is made by surviving

spouse

• TBE character is only available for JSP - confers additional asset protection benefits in that

JSP cannot be used to satisfy creditors of an individual spouse 

JRTs offer similar advantages of JSP, plus:

• Avoids probate of the couple’s assets upon their simultaneous death, and upon the

subsequent death of the surviving spouse

• Provide more specific terms and direction as to the desired management and distribution
• f the couple’s assets in the event of their incapacity
• Depending on how JRT is designed, all or a portion of JRT assets may be used to fund CST
• As previously stated, some states (VA, MD, Missouri, Indiana, Illinois Hawaii and DE)

preserve TBE character (during the couple’s joint lifetime) for TBE property transferred to JRT or separate revocable trusts 

JSP/JRTs convey a sense of comfort and security to many spouses, because the assets are perceived as “ours” rather than “mine” or “yours”



JSP owned as joint tenants with rights of survivorship (JTWRS) or tenants by the entirety (TBE) generally avoids probate upon the first spouse’s death and passes automatically by

• peration of law to surviving spouse
• As a result, probate is deferred until the death of the surviving spouse (or their

simultaneous death)

• JSP is generally not available to fund CST unless qualified disclaimer is made by surviving

spouse

• TBE character is only available for JSP - confers additional asset protection benefits in that

JSP cannot be used to satisfy creditors of an individual spouse 

JRTs offer similar advantages of JSP, plus:

• Avoids probate of the couple’s assets upon their simultaneous death, and upon the

subsequent death of the surviving spouse

• Provide more specific terms and direction as to the desired management and distribution
• f the couple’s assets in the event of their incapacity
• Depending on how JRT is designed, all or a portion of JRT assets may be used to fund CST
• As previously stated, some states (VA, MD, Missouri, Indiana, Illinois Hawaii and DE)

preserve TBE character (during the couple’s joint lifetime) for TBE property transferred to JRT or separate revocable trusts

31

Increased Use of JRTs in Common Law Property States



Tax law changes made permanent under the American Taxpayer Relief Act of 2012 (“ATRA”) have eliminated or lessened the need to plan for the Federal estate and gift tax for many married couples

• Increased Federal estate/gift/GST tax exemption ($5.45MM for 2016)
• Portability election allows for transfer of deceased spouse’s Federal estate/gift tax exemption amount to

surviving spouse



Not available for GST tax or state estate tax purposes



In order to make the election, Federal estate tax return must be filed at the first spouse’s death even if the gross estate does not exceed the exemption amount



JRTs are viewed as simpler/cheaper estate planning solution

• One trust document vs. two separate trusts for each spouse
• Alleviates need to divide couple’s joint and/or separate property between two separate trusts



Joint Exempt Step-up Trusts (“JESTs”) and “Community Property” JRTs (formed in AL or TN) may also allow couples domiciled in common law property states to obtain 100% stepped-up basis at first spouse’s death



Given the lack of case law, rulings and other supporting authority concerning JRTs, this seemingly- less complicated planning technique can create unintended pitfalls and complexity, and may not be suitable for every client

• Particularly couples with significant separate property that desire to maintain its separate character



Tax law changes made permanent under the American Taxpayer Relief Act of 2012 (“ATRA”) have eliminated or lessened the need to plan for the Federal estate and gift tax for many married couples

• Increased Federal estate/gift/GST tax exemption ($5.45MM for 2016)
• Portability election allows for transfer of deceased spouse’s Federal estate/gift tax exemption amount to

surviving spouse



Not available for GST tax or state estate tax purposes



In order to make the election, Federal estate tax return must be filed at the first spouse’s death even if the gross estate does not exceed the exemption amount



JRTs are viewed as simpler/cheaper estate planning solution

• One trust document vs. two separate trusts for each spouse
• Alleviates need to divide couple’s joint and/or separate property between two separate trusts



Joint Exempt Step-up Trusts (“JESTs”) and “Community Property” JRTs (formed in AL or TN) may also allow couples domiciled in common law property states to obtain 100% stepped-up basis at first spouse’s death



Given the lack of case law, rulings and other supporting authority concerning JRTs, this seemingly- less complicated planning technique can create unintended pitfalls and complexity, and may not be suitable for every client

• Particularly couples with significant separate property that desire to maintain its separate character

32

Basic Design Alternatives of JRTs (Non-Community Property)

 Separate Share JRT  Estate Equalization (or other defined undivided

fractional share) JRT

 General Power of Appointment “Add-On” feature

(JEST)

 Separate Share JRT  Estate Equalization (or other defined undivided

fractional share) JRT

 General Power of Appointment “Add-On” feature

(JEST)

33

Separate Share JRT

 Separate shares are created and maintained for joint property contributed to

the trust, and for any separate property contributed by each respective spouse

 Both spouses are co-trustees  Spouses retain joint right to income and principal with regard to the joint

property share, and unilateral right to income and principal with regard to their respective share of separate property

 Spouses retain joint right to amend and revoke with regard to the joint

property share, and unilateral right to amend and revoke with regard to their respective share of separate property

• Can be cumbersome to revoke/unwind upon divorce if separate shares are not

maintained  Upon first spouse’s death, deceased spouse’s 50% share of joint property, and of

all of his or her separate property, is directed to CST (or to the surviving spouse’s share, with ability to disclaim to CST)

 Surviving spouse retains right to income and principal, and right to amend/

revoke, over surviving spouse’s share

 Separate shares are created and maintained for joint property contributed to

the trust, and for any separate property contributed by each respective spouse

 Both spouses are co-trustees  Spouses retain joint right to income and principal with regard to the joint

property share, and unilateral right to income and principal with regard to their respective share of separate property

 Spouses retain joint right to amend and revoke with regard to the joint

property share, and unilateral right to amend and revoke with regard to their respective share of separate property

• Can be cumbersome to revoke/unwind upon divorce if separate shares are not

maintained  Upon first spouse’s death, deceased spouse’s 50% share of joint property, and of

all of his or her separate property, is directed to CST (or to the surviving spouse’s share, with ability to disclaim to CST)

 Surviving spouse retains right to income and principal, and right to amend/

revoke, over surviving spouse’s share

34

Separate Share JRT Example

 Husband (H) and Wife (W) contribute $4 million of joint spousal property to

the JRT, which is directed to Share A of the JRT (Joint Spousal Share)

 H contributes $4 million of separately-owned property, which directed to Share

B (H’s Separate Property Share)

 W contributes $2 million of separately-owned property to the JRT, which is

directed to Share C (W’s Separate Property Share)

 During the spouse’s joint lifetime, they are each entitled to distributions of

income and/or principal from their share of the trust assets (i.e., 50% of joint spousal property and 100% of separately-owned property contributed by each respective spouse), and either spouse has the unilateral right to revoke the trust and receive outright distribution of his or her share of the trust assets

 At H’s death, his one-half share of Share A and all of Share B become

irrevocable and are directed to Share C (Survivor’s Share)

• In the alternative, H’s share of Share A and Share B can be directed (or

disclaimed by W) to CST up to H’s unused estate tax exemption amount, with any remaining assets in excess of this amount directed to Survivor’s Share (or QTIP Marital Trust)  Husband (H) and Wife (W) contribute $4 million of joint spousal property to

the JRT, which is directed to Share A of the JRT (Joint Spousal Share)

 H contributes $4 million of separately-owned property, which directed to Share

B (H’s Separate Property Share)

 W contributes $2 million of separately-owned property to the JRT, which is

directed to Share C (W’s Separate Property Share)

 During the spouse’s joint lifetime, they are each entitled to distributions of

income and/or principal from their share of the trust assets (i.e., 50% of joint spousal property and 100% of separately-owned property contributed by each respective spouse), and either spouse has the unilateral right to revoke the trust and receive outright distribution of his or her share of the trust assets

 At H’s death, his one-half share of Share A and all of Share B become

irrevocable and are directed to Share C (Survivor’s Share)

• In the alternative, H’s share of Share A and Share B can be directed (or

disclaimed by W) to CST up to H’s unused estate tax exemption amount, with any remaining assets in excess of this amount directed to Survivor’s Share (or QTIP Marital Trust)

35

Estate Equalization JRT



Each spouse owns or is deemed to own (via deemed gifts upon contribution of any separate property to the trust) an undivided 50% (or other stated fractional share) of the trust assets



No separate shares are maintained



Both spouses are co-trustees



During their joint lifetime, they are each entitled to equal (pro rata) distributions of income and/or principal from the trust assets, and either spouse has the unilateral right to revoke the trust and receive outright distribution of his or her undivided 50% (or other fractional percentage) share of the trust

• May also provide for automatic revocation and 50/50 (pro rata) distribution upon divorce,

unless decree of divorce directs or the spouses mutually agree otherwise 

Upon first spouse’s death, deceased spouse’s 50% share is directed to CST (or to the surviving spouse’s share, with ability to disclaim to CST)

• May not fully utilize first spouse’s exemption amount, but portability election could be

made to transfer any unused exemption to surviving spouse

• Similar to JSP, disclaimer may not be possible if surviving spouse accepts benefits from the

property to be disclaimed 

Surviving spouse retains right to income and principal, and right to amend/revoke, over surviving spouse’s share



Each spouse owns or is deemed to own (via deemed gifts upon contribution of any separate property to the trust) an undivided 50% (or other stated fractional share) of the trust assets



No separate shares are maintained



Both spouses are co-trustees



During their joint lifetime, they are each entitled to equal (pro rata) distributions of income and/or principal from the trust assets, and either spouse has the unilateral right to revoke the trust and receive outright distribution of his or her undivided 50% (or other fractional percentage) share of the trust

• May also provide for automatic revocation and 50/50 (pro rata) distribution upon divorce,

unless decree of divorce directs or the spouses mutually agree otherwise 

Upon first spouse’s death, deceased spouse’s 50% share is directed to CST (or to the surviving spouse’s share, with ability to disclaim to CST)

• May not fully utilize first spouse’s exemption amount, but portability election could be

made to transfer any unused exemption to surviving spouse

• Similar to JSP, disclaimer may not be possible if surviving spouse accepts benefits from the

property to be disclaimed 

Surviving spouse retains right to income and principal, and right to amend/revoke, over surviving spouse’s share

37

Estate Equalization JRT Example

 H and W contribute $4 million of joint spousal property to the JRT  H contributes $4 million of separately-owned property to the JRT  W contributes $2 million of separately-owned property to the JRT  The terms of the JRT provide that, upon contribution of assets to the trust and

at all times thereafter, each spouse is deemed to own an undivided 50% of the trust assets ($10 million x 50% = $5 million) as tenants in common

• Separate shares are not created or maintained

 During their joint lifetime, they are each entitled to equal distributions of

income and/or principal from the trust assets, and either spouse has the unilateral right to revoke the trust and receive outright distribution of his or her undivided 50% share of the trust assets

 At H’s death, his one-half share of the JRT becomes irrevocable and is directed

to the Survivor’s Share.

• In the alternative, H’s 50% share can be directed (or disclaimed by W) to a CST

up to H’s unused estate tax exemption amount, with any remaining assets in excess of this amount directed to Survivor’s Share (or QTIP Marital Trust)  H and W contribute $4 million of joint spousal property to the JRT  H contributes $4 million of separately-owned property to the JRT  W contributes $2 million of separately-owned property to the JRT  The terms of the JRT provide that, upon contribution of assets to the trust and

at all times thereafter, each spouse is deemed to own an undivided 50% of the trust assets ($10 million x 50% = $5 million) as tenants in common

• Separate shares are not created or maintained

 During their joint lifetime, they are each entitled to equal distributions of

income and/or principal from the trust assets, and either spouse has the unilateral right to revoke the trust and receive outright distribution of his or her undivided 50% share of the trust assets

 At H’s death, his one-half share of the JRT becomes irrevocable and is directed

to the Survivor’s Share.

• In the alternative, H’s 50% share can be directed (or disclaimed by W) to a CST

up to H’s unused estate tax exemption amount, with any remaining assets in excess of this amount directed to Survivor’s Share (or QTIP Marital Trust)

38

General Power of Appointment “Add-On”

 Equalization or Separate Share JRT plan designs are utilized

during the spouse’s joint lifetime

 Upon the first spouse’s death, the deceased spouse has a

testamentary general power of appointment over part or all

• f the trust assets

 In default of such exercise, the deceased spouse’s

remaining estate tax exemption amount is directed to CST

• any excess is directed to surviving spouse’s share

 Surviving spouse retains right to income and principal, and

right to amend/revoke, over surviving spouse’s share

 Goal is to obtain maximum funding of CST and potential

100% stepped-up basis at first spouse’s death (JEST)

 Can also be utilized using separate revocable trusts  Equalization or Separate Share JRT plan designs are utilized

during the spouse’s joint lifetime

 Upon the first spouse’s death, the deceased spouse has a

testamentary general power of appointment over part or all

• f the trust assets

 In default of such exercise, the deceased spouse’s

remaining estate tax exemption amount is directed to CST

• any excess is directed to surviving spouse’s share

 Surviving spouse retains right to income and principal, and

right to amend/revoke, over surviving spouse’s share

 Goal is to obtain maximum funding of CST and potential

100% stepped-up basis at first spouse’s death (JEST)

 Can also be utilized using separate revocable trusts

39

Marital Law Considerations for JSP/JRTs

 When separate property owned by an individual spouse is re-titled into

the couple’s joint names—or contributed to a Separate Share JRT and separate shares are not properly maintained, or to an Equate Equalization JRT where each spouse is deemed to own fifty percent of the trust assets regardless of the proportionate value of assets contributed—there is generally a presumption in most states that the property has been gifted to the marital estate

 In order to rebut this presumption and demonstrate the couple’s intent

to avoid any marital gift or transmutation upon funding a JRT, a separate written agreement should be executed by the parties to affirm that assets currently held or after-acquired as non-marital property shall remain non-marital property (and any marital property owned or acquired during the marriage shall remain marital property), and that any re-titling of such property is being done for estate planning purposes only

 When separate property owned by an individual spouse is re-titled into

the couple’s joint names—or contributed to a Separate Share JRT and separate shares are not properly maintained, or to an Equate Equalization JRT where each spouse is deemed to own fifty percent of the trust assets regardless of the proportionate value of assets contributed—there is generally a presumption in most states that the property has been gifted to the marital estate

 In order to rebut this presumption and demonstrate the couple’s intent

to avoid any marital gift or transmutation upon funding a JRT, a separate written agreement should be executed by the parties to affirm that assets currently held or after-acquired as non-marital property shall remain non-marital property (and any marital property owned or acquired during the marriage shall remain marital property), and that any re-titling of such property is being done for estate planning purposes only

40

Four Basic Questions for JRTs

 What portion of the trust does each spouse own

during their lifetime?

 What portion of the trust is included in the estate of

the first spouse to die for estate tax purposes, as well as for income tax purposes in determining what portion

• f the trust is eligible for a stepped-up basis?

 What portion of the trust remains revocable after the

first spouse’s death?

 What portion of the trust is includible in the estate of

the surviving spouse?

 What portion of the trust does each spouse own

during their lifetime?

 What portion of the trust is included in the estate of

the first spouse to die for estate tax purposes, as well as for income tax purposes in determining what portion

• f the trust is eligible for a stepped-up basis?

 What portion of the trust remains revocable after the

first spouse’s death?

 What portion of the trust is includible in the estate of

the surviving spouse?

41

JRTs - Federal Gift Tax Issues (Non-Community Property)



Potential gift to non-donor spouse upon contribution of unequal amounts of any separate property to JRT without each spouse having a unilateral right to revoke

• Donor spouse’s joint revocation power does not make gift incomplete if only exercisable

jointly with, or only with the consent of, a person who has a substantial adverse interest (i.e., non-donor spouse)

• Gift would a “terminable interest” (i.e., life estate) that may not qualify for the unlimited

gift tax marital deduction under IRC Section 2523(e) or 2523(f)



Would not be considered “qualifying income interest” eligible for QTIP treatment under IRC Section 2523(f) because the donee spouse does not have the exclusive right to income from the gifted funds

• To avoid this issue, each spouse should retain a unilateral right to revoke over his or her

share of trust assets



Even if unilateral right to revoke over separate property is retained for Separate Share JRT, may be difficult to exercise if separate shares are not maintained



Potential gift by surviving spouse to remainder beneficiaries when CST portion of JRT becomes irrevocable at first spouse’s death

• Any such gift can be rendered incomplete if surviving spouse retains a testamentary

special power of appointment over the CST 

Potential gift to non-donor spouse upon contribution of unequal amounts of any separate property to JRT without each spouse having a unilateral right to revoke

• Donor spouse’s joint revocation power does not make gift incomplete if only exercisable

jointly with, or only with the consent of, a person who has a substantial adverse interest (i.e., non-donor spouse)

• Gift would a “terminable interest” (i.e., life estate) that may not qualify for the unlimited

gift tax marital deduction under IRC Section 2523(e) or 2523(f)



Would not be considered “qualifying income interest” eligible for QTIP treatment under IRC Section 2523(f) because the donee spouse does not have the exclusive right to income from the gifted funds

• To avoid this issue, each spouse should retain a unilateral right to revoke over his or her

share of trust assets



Even if unilateral right to revoke over separate property is retained for Separate Share JRT, may be difficult to exercise if separate shares are not maintained



Potential gift by surviving spouse to remainder beneficiaries when CST portion of JRT becomes irrevocable at first spouse’s death

• Any such gift can be rendered incomplete if surviving spouse retains a testamentary

special power of appointment over the CST

42

JRTs – Federal Estate Tax Issues (Non-Community Property)



May be unclear what portion of JRT is includible in deceased spouse’s estate

• Affects what portion of the trust assets would be eligible for stepped-up basis at first

spouse’s death

• “Qualified joint interest” treatment under IRC Section 2040(b) only applies to property

held by spouses as TBE or JTWRS

• To the extent spouse contributed property to the trust and retained a right to alter, amend,

revoke, or terminate such interest (either alone or in conjunction with any other person), property would be includible in his or her estate under IRC Section 2038

• To the extent spouse has general power of appointment over part or all of the trust assets,

trust assets would be includible in his or her estate under IRC Section 2041



IRS says no stepped-up basis for portion of trust assets contributed by the surviving spouse, under IRC Section 1014(e) [PLRs 200101021 and 200210051]

• Tracing may be required to determine character/ownership of trust assets, if separate

shares are not maintained 

Potential inclusion of CST assets in surviving spouse’s estate under IRC Section 2036(a)(1) if he or she is treated as a contributor/transferor of these assets, particularly with Separate Share JRT where separate shares for separate property are not maintained

• IRS ruled favorably on this (no inclusion) for JRT where general power of appointment was

given to first spouse to die [PLRs 200101021 and 200210051 – see next slide(s)] 

May be unclear what portion of JRT is includible in deceased spouse’s estate

• Affects what portion of the trust assets would be eligible for stepped-up basis at first

spouse’s death

• “Qualified joint interest” treatment under IRC Section 2040(b) only applies to property

held by spouses as TBE or JTWRS

• To the extent spouse contributed property to the trust and retained a right to alter, amend,

revoke, or terminate such interest (either alone or in conjunction with any other person), property would be includible in his or her estate under IRC Section 2038

• To the extent spouse has general power of appointment over part or all of the trust assets,

trust assets would be includible in his or her estate under IRC Section 2041



IRS says no stepped-up basis for portion of trust assets contributed by the surviving spouse, under IRC Section 1014(e) [PLRs 200101021 and 200210051]

• Tracing may be required to determine character/ownership of trust assets, if separate

shares are not maintained 

Potential inclusion of CST assets in surviving spouse’s estate under IRC Section 2036(a)(1) if he or she is treated as a contributor/transferor of these assets, particularly with Separate Share JRT where separate shares for separate property are not maintained

• IRS ruled favorably on this (no inclusion) for JRT where general power of appointment was

given to first spouse to die [PLRs 200101021 and 200210051 – see next slide(s)]

43

Limited IRS Rulings on JRTs (Non-Community Property)

 PLR 200101021

• Facts



JRT funded solely with TBE property



Either spouse had unilateral right to revoke; if exercised, an undivided 50% interest in the trust property was returned to each spouse as tenants in common



First spouse to die had testamentary general power of appointment over all of the trust assets; upon failure to exercise, amount equal to remaining exemption amount passed to Credit Shelter Trust, any excess amount passed outright to the surviving spouse

• IRS ruled as follows:



No completed gift upon funding due to unilateral right to revoke



Deceased spouse’s one-half of the trust assets included in his/her estate under IRC Section 2038, surviving spouse’s one-half of trust assets included deceased spouse’s estate under IRC Section 2041



Completed gift of surviving spouse’s one-half of trust assets to deceased spouse at first spouse’s death – qualifies for the gift tax marital deduction and prevents stepped-up basis in this portion under IRC Section 1014(e)



Credit Shelter Trust not includible in surviving spouse’s estate because the property is treated as passing from the deceased spouse and not from the surviving spouse

 PLR 200101021

• Facts



JRT funded solely with TBE property



Either spouse had unilateral right to revoke; if exercised, an undivided 50% interest in the trust property was returned to each spouse as tenants in common



First spouse to die had testamentary general power of appointment over all of the trust assets; upon failure to exercise, amount equal to remaining exemption amount passed to Credit Shelter Trust, any excess amount passed outright to the surviving spouse

• IRS ruled as follows:



No completed gift upon funding due to unilateral right to revoke



Deceased spouse’s one-half of the trust assets included in his/her estate under IRC Section 2038, surviving spouse’s one-half of trust assets included deceased spouse’s estate under IRC Section 2041



Completed gift of surviving spouse’s one-half of trust assets to deceased spouse at first spouse’s death – qualifies for the gift tax marital deduction and prevents stepped-up basis in this portion under IRC Section 1014(e)



Credit Shelter Trust not includible in surviving spouse’s estate because the property is treated as passing from the deceased spouse and not from the surviving spouse

44

Limited IRS Rulings on JRTs (Non-Community Property)



PLR 200210051

• Facts



JRT funded with JTWRS and/or separate property



Either spouse had unilateral right to revoke; if exercised, trust property was to be distributed in accordance with the direction of both spouses



Each spouse also had a unilateral power to withdraw principal (lifetime general power of appointment)



Upon first spouse’s death, trust was divided into Credit Shelter Trust (up to deceased spouse’s remaining exemption amount) and Marital Trust

• IRS ruled as follows:



Portion of trust property transferred to the trust by the deceased spouse was included in his/her estate under IRC Section 2038, portion contributed by the surviving spouse included in deceased spouse’s estate under IRC Section 2041



Completed gift of surviving spouse’s entire interest in the trust to deceased spouse at first spouse’s death – qualifies for the gift tax marital deduction and prevents stepped-up basis in this portion under IRC Section 1014(e)



Credit Shelter Trust not includible in surviving spouse’s estate because the property is treated as passing from the deceased spouse and not from the surviving spouse



See also PLRs 200403094 and 200604028 (similar rulings involving separate revocable trusts where the first spouse to die is granted a general power of appointment over assets

• f the other spouse’s revocable trust)



PLR 200210051

• Facts



JRT funded with JTWRS and/or separate property



Either spouse had unilateral right to revoke; if exercised, trust property was to be distributed in accordance with the direction of both spouses



Each spouse also had a unilateral power to withdraw principal (lifetime general power of appointment)



Upon first spouse’s death, trust was divided into Credit Shelter Trust (up to deceased spouse’s remaining exemption amount) and Marital Trust

• IRS ruled as follows:



Portion of trust property transferred to the trust by the deceased spouse was included in his/her estate under IRC Section 2038, portion contributed by the surviving spouse included in deceased spouse’s estate under IRC Section 2041



Completed gift of surviving spouse’s entire interest in the trust to deceased spouse at first spouse’s death – qualifies for the gift tax marital deduction and prevents stepped-up basis in this portion under IRC Section 1014(e)



Credit Shelter Trust not includible in surviving spouse’s estate because the property is treated as passing from the deceased spouse and not from the surviving spouse



See also PLRs 200403094 and 200604028 (similar rulings involving separate revocable trusts where the first spouse to die is granted a general power of appointment over assets

• f the other spouse’s revocable trust)

45

Limited IRS Rulings on JRTs (Non-Community Property)

 PLR 201429009

• Estate Equalization JRT was used, and the surviving spouse (as trustee)

failed to divide the trust assets at the first spouse’s death between the Family Trust (with the deceased spouse’s one-half share of the trust assets) and the Survivor’s Trust (with the surviving spouse’s one-half share of the trust assets), as directed by the trust document – rather, all assets were administered as a combined trust

• Upon subsequent advice by estate planning counsel, corrective action

was taken to properly allocate assets between the Family Trust and the Survivor’s Share

• Through a forensic review of the historical financial records, the

surviving spouse was able to ascertain and track the assets which should have been allocated to the Family Trust at the deceased spouse’s death

• Accordingly, the IRS ruled that the value of the assets of the Family

Trust were not includible in the surviving spouse’s estate  PLR 201429009

• Estate Equalization JRT was used, and the surviving spouse (as trustee)

failed to divide the trust assets at the first spouse’s death between the Family Trust (with the deceased spouse’s one-half share of the trust assets) and the Survivor’s Trust (with the surviving spouse’s one-half share of the trust assets), as directed by the trust document – rather, all assets were administered as a combined trust

• Upon subsequent advice by estate planning counsel, corrective action

was taken to properly allocate assets between the Family Trust and the Survivor’s Share

• Through a forensic review of the historical financial records, the

surviving spouse was able to ascertain and track the assets which should have been allocated to the Family Trust at the deceased spouse’s death

• Accordingly, the IRS ruled that the value of the assets of the Family

Trust were not includible in the surviving spouse’s estate

46

JRTs - Federal Income Tax Issues (Non-Community Property)

 Amount includible in estate of first spouse to die is generally eligible for

stepped-up basis, unless IRC Section 1014(e) applies

• Tracing may be required if separate shares are not maintained for Separate

Share JRT, or if portion of JRT assets includible in deceased spouse’s estate cannot otherwise be determined under the terms of the JRT

• Can trustee pick and choose assets upon division at the first spouse’s death, or

does fractional interest of each asset have to be used?  Other reporting issues similar to joint spousal accounts/JSP

• Only one spouse’s SSN can be used during joint lifetime
• Separate EIN must be obtained for deceased spouse’s portion of trust at first

spouse’s death (“administrative trust”) and for CST/ Marital Trust

• Surviving spouse’s SSN should be used for Survivor’s Share

 Can be cumbersome/confusing having one trust document for deceased share’s

irrevocable portion and surviving spouse’s revocable portion after first spouse’s death

• Consider transferring surviving spouse’s portion into newly-created separate

revocable trust for surviving spouse  Amount includible in estate of first spouse to die is generally eligible for

stepped-up basis, unless IRC Section 1014(e) applies

• Tracing may be required if separate shares are not maintained for Separate

Share JRT, or if portion of JRT assets includible in deceased spouse’s estate cannot otherwise be determined under the terms of the JRT

• Can trustee pick and choose assets upon division at the first spouse’s death, or

does fractional interest of each asset have to be used?  Other reporting issues similar to joint spousal accounts/JSP

• Only one spouse’s SSN can be used during joint lifetime
• Separate EIN must be obtained for deceased spouse’s portion of trust at first

spouse’s death (“administrative trust”) and for CST/ Marital Trust

• Surviving spouse’s SSN should be used for Survivor’s Share

 Can be cumbersome/confusing having one trust document for deceased share’s

irrevocable portion and surviving spouse’s revocable portion after first spouse’s death

• Consider transferring surviving spouse’s portion into newly-created separate

revocable trust for surviving spouse

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JESTs

 Gist of the PLRs [200101021, 200210051, 200403094 and 200604028 ] is

that IRC Section 1014(e) precludes a basis adjustment for the surviving spouse’s share of trust assets subject to the deceased spouse’s power of appointment and includible in the deceased spouse’s estate, because such property:

• Was acquired by the decedent by gift during the 1-year period ending
• n the date of the decedent's death, and
• Is acquired from the decedent by (or passes from the decedent to) the

donor of such property (i.e., surviving spouse), either directly or indirectly, pursuant to the deceased spouse’s exercise, or failure to exercise, the general power of appointment  JEST authors argue that 1014(e) should not apply if the assets are not

passing outright to the surviving spouse, but rather to CST

• They suggest avoiding this argument by not having the surviving

spouse as a beneficiary of CST funded with the deceased spouse’s assets  Gist of the PLRs [200101021, 200210051, 200403094 and 200604028 ] is

that IRC Section 1014(e) precludes a basis adjustment for the surviving spouse’s share of trust assets subject to the deceased spouse’s power of appointment and includible in the deceased spouse’s estate, because such property:

• Was acquired by the decedent by gift during the 1-year period ending
• n the date of the decedent's death, and
• Is acquired from the decedent by (or passes from the decedent to) the

donor of such property (i.e., surviving spouse), either directly or indirectly, pursuant to the deceased spouse’s exercise, or failure to exercise, the general power of appointment  JEST authors argue that 1014(e) should not apply if the assets are not

passing outright to the surviving spouse, but rather to CST

• They suggest avoiding this argument by not having the surviving

spouse as a beneficiary of CST funded with the deceased spouse’s assets

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49

“Community Property” JRTs



Statutes in AL and TN allow nonresidents to establish a community property trust, and to potentially convert property transferred to the trust to community property

• At least one trustee must be a resident of the state
• See Alaska Stat. §§ 34.77.020 - 34.77.995; 4.Tenn. Code Ann. §35-17-101, et seq.



IRC Section 1014(b)(6) says the surviving spouse’s one-half share of community property held “under the community property laws of any state” shall be eligible for a stepped-up basis



US Supreme Court ruled that a statute allowing spouses to elect a community property system under Oklahoma law would not be recognized for federal income tax reporting purposes. [Commissioner v. Harmon, 323 U.S. 44 (1944)]

• “The Harmon decision should also apply to the Alaska system for income reporting purposes.” [Internal Revenue

Manual, Section 25.18.1.1.2]

• Case was decided prior to the allowance of joint returns – IRS argued income should be included on husband’s

separate return under the assignment of income doctrine



• Rev. Rul. 77-359 - Washington couple agreed to convert their separate property to community
• property. IRS ruled that conversion was effective for federal tax purposes, but added “ To the extent that the

agreement affects the income from separate property and not the separate property itself, the Service will not permit the spouses to split that income for Federal income tax purposes where they file separate income tax returns.”



See Blattmachr, Zaritsky and Ascher, “Tax Planning with Consensual Community Property: Alaska’s New Community Property Law,” 33 Real Property, Probate and Trust Journal (Winter 1999).



Statutes in AL and TN allow nonresidents to establish a community property trust, and to potentially convert property transferred to the trust to community property

• At least one trustee must be a resident of the state
• See Alaska Stat. §§ 34.77.020 - 34.77.995; 4.Tenn. Code Ann. §35-17-101, et seq.



IRC Section 1014(b)(6) says the surviving spouse’s one-half share of community property held “under the community property laws of any state” shall be eligible for a stepped-up basis



US Supreme Court ruled that a statute allowing spouses to elect a community property system under Oklahoma law would not be recognized for federal income tax reporting purposes. [Commissioner v. Harmon, 323 U.S. 44 (1944)]

• “The Harmon decision should also apply to the Alaska system for income reporting purposes.” [Internal Revenue

Manual, Section 25.18.1.1.2]

• Case was decided prior to the allowance of joint returns – IRS argued income should be included on husband’s

separate return under the assignment of income doctrine



• Rev. Rul. 77-359 - Washington couple agreed to convert their separate property to community
• property. IRS ruled that conversion was effective for federal tax purposes, but added “ To the extent that the

agreement affects the income from separate property and not the separate property itself, the Service will not permit the spouses to split that income for Federal income tax purposes where they file separate income tax returns.”



See Blattmachr, Zaritsky and Ascher, “Tax Planning with Consensual Community Property: Alaska’s New Community Property Law,” 33 Real Property, Probate and Trust Journal (Winter 1999).

50

Additional Resources

 Louis S. Harrison and Emily J. Kuo, “The Good, the Bad, and the Innovative:

The Evolution of Joint Spousal Trusts in Today's Estate Planning,” ACTEC Fall Meeting Professional Program (2013)

 John H. Martin, “The Joint Trust: Estate Planning in a New Environment,” 39

REAL PROP. PROB. & TR. J. 275 (Summer 2004)

 J. Lee E. Osborne, “Joint Trusts,” Virginia CLE Douglas W. Conner 35th Annual

Advanced Estate Planning and Administration Seminar (2014)

 Alan S. Gassman, Christopher J. Denicolo and Kacie Hohnadell, “JEST Offers

Serious Estate Planning Plus for Spouses—Part 1,” EST. PLAN. Oct. 2013); Alan

• S. Gassman, Christopher J. Denicolo and Kacie Hohnadell, “JEST Offers Serious

Estate Planning Plus for Spouses—Part 2,” EST. PLAN. (Nov. 2013)

 Michael D. Mulligan, “Is It Safer to Use a Power of Appointment in

Predeceasing Spouse to Avoid Wasting Applicable Exclusion Amount?” 32 Estates Gifts and Trusts Journal 191 (2007)

 Jonathan G. Blattmachr, Howard M. Zaritsky and Mark L. Ascher, “Tax

Planning with Consensual Community Property: Alaska’s New Community Property Law” 33 REAL PROP. PROB. & TR. J. 615 (Winter 1999)

 Louis S. Harrison and Emily J. Kuo, “The Good, the Bad, and the Innovative:

The Evolution of Joint Spousal Trusts in Today's Estate Planning,” ACTEC Fall Meeting Professional Program (2013)

 John H. Martin, “The Joint Trust: Estate Planning in a New Environment,” 39

REAL PROP. PROB. & TR. J. 275 (Summer 2004)

 J. Lee E. Osborne, “Joint Trusts,” Virginia CLE Douglas W. Conner 35th Annual

Advanced Estate Planning and Administration Seminar (2014)

 Alan S. Gassman, Christopher J. Denicolo and Kacie Hohnadell, “JEST Offers

Serious Estate Planning Plus for Spouses—Part 1,” EST. PLAN. Oct. 2013); Alan

• S. Gassman, Christopher J. Denicolo and Kacie Hohnadell, “JEST Offers Serious

Estate Planning Plus for Spouses—Part 2,” EST. PLAN. (Nov. 2013)

 Michael D. Mulligan, “Is It Safer to Use a Power of Appointment in

Predeceasing Spouse to Avoid Wasting Applicable Exclusion Amount?” 32 Estates Gifts and Trusts Journal 191 (2007)

 Jonathan G. Blattmachr, Howard M. Zaritsky and Mark L. Ascher, “Tax

Planning with Consensual Community Property: Alaska’s New Community Property Law” 33 REAL PROP. PROB. & TR. J. 615 (Winter 1999)

51

Lauren Evans DeJong, Of Counsel Stahl Cowen Crowley Addis Chicago, IL ldejong@stahlcowen.com Scott K. Tippett, Attorney The Tippett Law Firm Oak Ridge, NC skt@sktlaw.com Lauren Evans DeJong, Of Counsel Stahl Cowen Crowley Addis Chicago, IL ldejong@stahlcowen.com Scott K. Tippett, Attorney The Tippett Law Firm Oak Ridge, NC skt@sktlaw.com

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