Estate Planner's Arsenal: Disclaimer Trust

The "Estate Planner's Arsenal" series highlights specific estate planning tools and their uses.

The Disclaimer Trust is an increasingly popular method for married couples to fully utilize the marital deduction in order to decrease possible estate taxes upon the second spouse's death, thus preserving more assets for the heirs.

Here is one way a Disclaimer Trust can work.  Husband and Wife are married with several children.  Husband dies and leaves all property to Wife.  Husband can leave all his property to Wife without incurring estate tax liability because married couples can pass unlimited amounts of property to each other tax free.  This is called the unlimited marital deduction.  However, all that property becomes taxable upon Wife's death if her estate is above a certain amount - thus, the estate tax has simply been deferred.  Here's where the disclaimer trust can come into play.

If adding Husband's assets to Wife's assets will create an estate tax liability upon Wife's death, then Wife can make a "qualified disclaimer" of the property received from Husband.  A "disclaimer" is a rejection of a property interest and disclaimers can be partial or full.  Wife would be rejecting the property left by Husband.  However, with proper planning, Husband can have a provision in his Will which states that if Wife disclaims (rejects) any interest in the property, the property shall pass to a Disclaimer Trust.  To be effective, disclaimers must conform to strict statutory requirements.

The disclaimed assets will then pass into the Disclaimer Trust and will be distributed according to the terms of the trust.  Wife will be able to receive income and principal from the Disclaimer Trust, so although Wife rejected the assets, the assets are really still being used for Wife's benefit.  Any assets left in the Disclaimer Trust upon Wife's death will pass to the couple's children and escape taxation because the trust assets are not considered to be part of Wife's estate.    

While estates do not become taxable at the federal level until they reach $5 million (as of the date of this article), Minnesota's state estate tax kicks in at $1 million.  Thus, a Disclaimer Trust is a good way to minimize state estate taxes.  One major advantage of disclaimer planning is flexibility.  Whether or not to disclaim assets is entirely in the surviving spouse's control, and the decision to disclaim is made after Spouse 1's death, thus giving Spouse 2 an opportunity to assess his/her financial needs as well as the current state of the tax laws.    

Please note that the above article is a very basic description of a Disclaimer Trust to give you the general outline of how it works.  Consult an estate planning attorney if you are considering disclaimer planning.