MARCH 17, 2000

Estate Q & A What is a Bypass Trust? A bypass trust (also known as a credit shelter trust, exemption equivalent trust, or non-marital trust) is one of the most basic and effective estate planning tools for married couples. The bypass trust serves two purposes:   1: To ensure that your assets go to the intended heirs, and 2: To reduce estate taxes by taking full advantage of the lifetime unified credit of the first spouse to die. Suppose you and your spouse both have children from a previous marriage. If you die before your spouse, your assets may go to him or her (if you have no will or estate plan). Then when your spouse dies, all of his or her assets, including your assets, will be distributed according to his or her wishes, not yours. Your children may never see any of the property you would want them to have. With a bypass trust, your assets will be held for the benefit of your heirs, but your spouse can still have access to the trust’s income and limited rights to invade the trust’s principal. Then, when your spouse dies, the assets are distributed according to your wishes. As far as reducing estate taxes, a bypass trust works by taking advantage of your lifetime unified gift and estate tax credit. Every individual receives a credit of $675,000 (which will increase to $1 million in 2006.) This means that during your lifetime, you can transfer up to $675,000 without paying federal estate taxes. But if all your assets go to your spouse when you die, your lifetime unified credit will be wasted. Transfers between spouses, including those made at death, are exempt from estate and gift taxes. So, suppose each spouse owns $700,000 in assets. If the husband dies first and leaves all his assets to his wife, his estate will not owe estate taxes, but her estate will be worth $1.4 million and may only claim a credit of $675,000, and thus must pay estate taxes on $725,000. If however, the husband uses a bypass trust to transfer $675,000 of assets to his children (thus "bypassing" the wife), he will still owe no federal estate taxes, but his wife’s estate, now worth $725,000, will still be able to claim the $675,000 credit, and thus will owe estate taxes on only $50,000.  Consult your estate planning advisor about the use of the bypass trust.