New York Estate Planning & Elder Law Blog
The popularity of trusts in estate planning has increased steadily over the last few decades. They are often excellent vehicles that can help people protect their assets and avoid excessive tax penalties related to such assets. One of the more traditional types of trust is known as a Crummey Trust. A Crummey Trust is a trust structured in a way that allows parents to make annual deposits to it within the currently established annual limit while allowing for beneficiaries to maintain a present interest in gifts. This trust has some features that might make it applicable to your estate planning needs.
Features of a Crummey Trust
A Crummey Trust allows individuals to use the annual gift tax exclusion while funding a substantial trust that a recipient cannot access until a certain age. As such, it requires the recipient to have what is known as a present interest in the trust. This means that the recipient has immediate access to funds deposited into the trust. In order for Crummey powers in a trust to adhere to this present interest, funds deposited to the trust are available for immediate withdrawal/use by the recipient for a reasonable period of time, such as 30 days after the gift has been made. Once 30 days has passed, the money automatically gets deposited into the trust where it will be protected until the age at which the recipient has been designated as having access to it.
One of the positives of making an annual gift to this kind of trust is that it allows you to control the assets you would ultimately like distributed to an heir. In other words, if your wealth continues to accumulate and you wish to eventually leave a large sum of money to an heir, that money could be subject to the gift tax or the estate tax if your estate surpasses the annual exemption amount. By contributing regularly throughout the lifetime of the trust, you may be reducing your own estate tax liability in the long run.
Potential Pitfalls
One of the potential pitfalls associated with this type of trust is structuring the withdrawal rights of a recipient in a way that is incompatible with the law. As such, it is important to make sure that you have a firm grasp on the extent of withdrawal rights versus the size of the trust. One method of ensuring that this does not happen is to make sure that you incorporate a mechanism known as a “5 by 5 power” into the trust. By doing this, you will structure the trust so that a recipient will only be able to make withdrawals that are equal to the greater of either a). $5,000 per year or b). 5 percent of the fair market value of the total assets within the trust.
Another option would be to ensure that the trust is sufficiently funded so that no future gifts that might be accessed within the withdrawal window could violate a 5 by 5 power mechanism. You could also increase the number of trust beneficiaries so that you have a higher gift tax exemption since the gift tax is applied on an individual basis. However, even by adding these features into the trust, you cannot structure the trust based on an express or implied agreement with beneficiaries that they will not exercise their withdrawal rights on gifts made to the trust. Doing so could kick in additional taxes as it may appear to the IRS that the trust has been structured in a way that violates U.S. tax law. An experienced estate planning attorney can help you understand more information about the various mechanisms that can be inserted into a trust to help accomplish your individual goals for that trust, including tax-saving opportunities like the potential benefits of including Crummey powers in your trust.