What is a QTIP Trust?

QTIP Trust

The estate planning process has a great deal of complexity and legal jargon. Likewise, there are many acronyms and abbreviations. Our most recent posting discussed the ILIT which is an irrevocable life insurance trust. This estate planning tool comes into play when large amounts of cash are anticipated to be needed at death to pay an estate tax bill. Today, we will cover the acronym “QTIP” which stands for “Qualified Terminable Interest Property”. The QTIP is a special exception to normal IRS regulations regarding the need for a gift or bequeathal between spouses to be complete and unencumbered. The QTIP strategy is usually employed in the case of a blended family.

Blended families have become more common in modern day America. In 1960, 73% of children under the age of 18 were living with two parents in a first marriage. By 2014 that number had declined to 46%. Twenty two percent of the remaining children in 2014 were living in a household with a new marriage or new non-marital relationship. Often both parents in a second marriage have children from an earlier relationship and this circumstance can cause potential conflicting interests when developing an estate plan.

Let’s consider George and Georgia who get married, with each having children from previous marriages. George’s assets are substantial and as such, they need to be concerned about possible estate taxes, especially after the death of the second spouse. They moved into George’s house when they were married, and with George being substantially older than Georgia, there is a concern about providing a home for her if George passes first. Spouses are permitted to give unlimited assets to each other with no tax consequences and their first thought was to simply add Geogia’s name to the title.  This would have created a joint tenancy with right of survivorship with complete ownership of the house passing to Georgia upon George’s passing. It occurred to George, however that this arrangement could effectively disinherit his children as far as the house was concerned. With Georgia becoming the sole owner, she could designate her children from her first marriage as the sole heirs of the property interest. Or, she could remarry and share ownership with a new spouse which would further distance George’s children from inheriting their father’s house.

Their estate planner had a better idea. Being aware of the special provisions of IRC 2056 (b)(7), he suggested George could accomplish both objectives by creating a testamentary QTIP trust in his will. This trust would permit Georgia to live in the house for the remainder of her life, with the house passing to George’s children after Georgia dies. Because there is a concern about estate taxes, they need Georgia’s life interest in the home to qualify for the unlimited estate tax marital deduction. Usually, this requires the complete transfer of ownership (“no strings attached”) by gift or bequeathal to the surviving spouse. But in this case, the law allows Georgia’s life interest “to terminate” upon her death with George’s children becoming the eventual owners. With this provision in George’s will, his executor merely needs to elect QTIP treatment for the home on George’s estate tax return.           

If you would like to learn more about these and other wise financial planning moves, please contact us through our Level 5 Financial LLC website or via phone at 719-323-1240.  This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice.  You should consult your own tax, legal and accounting advisors before engaging in any transaction.

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