Navigating Spousal Lifetime Access Trusts (SLATs)

Understanding the Crummey Trust Mechanism

The Crummey Trust, named after the landmark court case that validated its tax benefits, is a cornerstone in estate planning for those seeking to leverage the annual gift tax exclusion. Since 1998, the gift tax annual exclusion has been indexed for inflation, standing at $16,000 per individual and $32,000 for married couples in 2023, according to the IRS. This type of trust allows for contributions to be made that qualify for this exclusion without necessitating immediate asset distribution to beneficiaries.

When a contribution is made to a Crummey Trust, beneficiaries receive a temporary right—typically 30 days—to withdraw the contribution. If this right is not exercised, the funds remain under the trustee's management for the benefit of both the grantor and beneficiaries.

The Role of Life Insurance in Crummey Trusts

Life insurance is often the preferred funding mechanism for Crummey Trusts due to its tax advantages. Upon the death of the insured grantor, the proceeds are not only income tax-free but can also be structured to avoid estate taxes in the grantor's and their spouse's estates. These proceeds can then be utilized to cover federal estate taxes by purchasing assets from or lending money to the estates as permitted by the trust document.

For existing policies transferred to a trust, the insured grantor must outlive the transfer by at least three years to avoid inclusion in their estate. This rule can be circumvented for new policies by having the trust apply as the initial owner.

Advantages of an Irrevocable Life Insurance Trust (ILIT)

An ILIT can significantly reduce the gross estate through annual gifts and exclude life insurance proceeds from the estate. The key is that the grantor-insured must not retain any incidents of ownership or benefits from the trust.

Introducing the Spousal Lifetime Access Trust (SLAT)

A SLAT is a specialized ILIT designed to provide access to a policy's cash values while keeping the proceeds out of the grantor-insured's estate. Here's how a SLAT operates:

1. The grantor gifts cash to an ILIT, using separate property to avoid gift taxation.
2. The grantor's spouse is often named as the trustee.
3. The trustee purchases a life insurance policy on the grantor's life with the cash gifts.
4. The trustee can take loans and withdrawals from the policy's cash value.
5. Distributions can be made to the grantor's spouse and descendants for various needs.
6. The ILIT offers protection from creditors and other financial threats.
7. Upon the grantor's death, the proceeds are tax-free to the ILIT and beneficiaries.
8. After the grantor's spouse's death, assets pass tax-free to descendants.
9. The trustee can provide liquidity to the estate after the grantor's death.
10. With proper drafting, a survivorship policy can be included in the ILIT.

Potential Drawbacks and Considerations

While SLATs offer flexibility and tax benefits, they are not without limitations. The grantor has only indirect access to cash values through their spouse, which can be affected by divorce or the spouse's death. Careful drafting is essential to avoid unintended tax consequences.

Conclusion

SLATs can be an attractive option for couples navigating estate tax uncertainty, offering a blend of tax efficiency and access to funds. However, it is crucial to consult with legal and tax advisors to tailor the trust to specific circumstances and ensure compliance with current tax laws.

Please note that this article is for informational purposes only and is not intended as legal or tax advice. Taxpayers should seek advice from their own legal and tax advisors regarding their unique situation.

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