The Tax Cuts and Jobs Act (TCJA) doubled the lifetime gift, estate and generation skipping tax exemptions to $11.4 million per person in 2019. This provides affluent individuals the opportunity to pass on a significant part of their wealth tax-free — but only for a limited time.

These increased tax exemptions are set to expire on December 31, 2025. This means that, after 2025, exemption levels will revert to where they were before the passage of the TCJA (indexed for inflation). It's possible that these provisions may be rolled back even sooner, should the balance of power in Washington D.C. shift in the 2020 elections.

Affluent individuals and couples interested in taking advantage of these exemptions may want to do so sooner rather than later — especially when it comes to assets that will appreciate in value, to ensure that appreciation also is not part of their taxable estate. Per a recent U.S. Treasury proposal, using the increased exemptions now would not result in a penalty at death if exemption amounts are lower than they are now. The exemptions would not be "clawed back" into the taxable estate.

Of course, gifting assets to beneficiaries requires the gift giver to relinquish full control of that asset in order to remove the asset and any future appreciation from their taxable estate. Couples with a net worth between $15 and $40 million who wish to take advantage of the increased exemptions but are concerned about losing complete control and access to their assets may want to consider establishing a pair of Spousal Lifetime Access Trusts (SLATs, also known as Spousal Limited Access Trusts). In a typical SLAT, the grantor spouse may indirectly benefit from a trust that he or she creates because one of the beneficiaries of the trust is his or her spouse.

Putting SLATs Into Practice

Consider this scenario: Joe and Carol Smith have a net worth of $30 million, including $11 million in rapidly appreciating assets. To take advantage of the increased exemption amount and remove the future appreciation from their taxable estates, they each establish their own SLAT and gift their combined increased lifetime gift and generation skipping tax exemptions to each SLAT. Because Joe and Carol have made gifts in previous years, they each only have $5.5 million of exemption to use to fund the SLATs.

With the Reciprocal Trust Doctrine in mind, Joe and Carol's estate planning attorney drafts these SLATs with slight differences in certain provisions, such as trustee selection or succession, distribution criteria, or vesting provisions for descendants following their deaths.

Joe names Carol the beneficiary of his SLAT and Carol names Joe the beneficiary of her SLAT. While they are living, Joe's SLAT can make distributions to Carol and Carol's SLAT can make distributions to Joe to support any lifestyle needs they may have.

One drawback of SLATs is that the individual who established the SLAT generally cannot be its beneficiary, which could pose a problem in the event the beneficiary spouse dies. The surviving spouse would be cut off from the SLAT he or she created.

It may be possible to avoid this outcome, however. When creating a SLAT, the establishing spouse can stipulate that the first spouse to die has the right to (but is not required to) exercise a "limited power of appointment" to pass the SLAT assets to a new trust with the surviving spouse as a beneficiary, for the remainder of his or her life, before passing the assets on to their descendants.

This approach would allow the surviving spouse to access assets in both SLATs for their remaining lifetime while ensuring the assets and their growth are excluded from the taxable estates of both spouses.

However, in states with specialized trust laws, an individual may be able to become the beneficiary of their own SLAT following the death of their spouse with less risk of the SLAT assets being included in their taxable estate. This can be accomplished in Delaware, for example, by designating a trust protector in the trust document who can add the surviving spouse as a beneficiary of his or her own SLAT following the death of the first spouse.1 In states without such specialized laws, the risk may be comparatively higher. Couples should review appropriate situs for their SLATs with their estate planning attorney to ensure they can take advantage of this in order to minimize the risk of negative estate tax consequences.

Considerations

While they can be a powerful tool for affluent couples, SLATs are not without their disadvantages. A primary drawback can be the loss of access to the SLAT created by the surviving spouse after his or her spouse dies. Fortunately, as discussed above, there are two possibilities for dealing with this issue as described above that can involve either the use of limited powers of appointment or the use of certain states' specialized trust laws.

That said, the ability to take advantage of the increased tax exemptions while they are still in effect, retain access to the gifted assets throughout the couple's lifetime, and continue benefiting from both SLATs following the death of a spouse make this an option well worth considering.

  • Footnotes

    1. 12 Del. C. § 3313(f).

  • Disclosure

    This material is provided for illustrative/educational purposes only. This material is not intended to constitute legal, tax, investment or financial advice. Effort has been made to ensure that the material presented herein is accurate at the time of publication. However, this material is not intended to be a full and exhaustive explanation of the law in any area or of all of the tax, investment or financial options available. The information discussed herein may not be applicable to or appropriate for every investor and should be used only after consultation with professionals who have reviewed your specific situation. Trademarks and logos belong to their respective owners. BNY Mellon Wealth Management conducts business through various operating subsidiaries of The Bank of New York Mellon Corporation. ©2019 The Bank of New York Mellon Corporation. All rights reserved.