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Providing For The Year 3000
John Turrettini, 06.11.01
More states are letting you create never-ending trusts. Here come the planners.Michael Williams, an online promoter for rappers Snoop Dogg and Coolio, says he loves his wife. But he doesn't want her to have a claim on his new company, Entertainment Direct.tv>, should the marriage sour. Especially since he wants his children, grandchildren and other descendants to have it. So he put it in a divorce-proof, estate-tax-sheltered, never-ending "dynasty trust."
What's that? The popular term for a trust that never dies. Thus it differs from traditional trusts, which adhere to the common law "rule against perpetuities" and must end within about 90 years--on the theory that the living should control society's resources.
A few states, like Idaho, have permitted dynasty trusts for decades. But in the last few years banks and trust companies have persuaded a dozen others--including Maryland, New Jersey and Arizona--to allow them (see map). Others are considering jumping on the bandwagon, including New York, Texas and Connecticut.
No wonder planners are promoting dynasty trusts. The pitch is that you can combine a trust with the generation--skipping tax exemption--which allows $1.06 million per donor to escape all subsequent layers of estate tax after the donor's own-to create a potentially immortal asset. What if Congress kills the estate tax? The planners warn, with reason, that you can't trust the pols not to bring it back.
Perhaps you think perpetual planning is over the top. "Clients often dismiss it. They say, 'I know my children and grandchildren. The generations after that are on their own,'" says Lyn Walker, a partner at Hartford, Conn.'s Day, Berry & Howard. But if you like the idea of an eternal legacy, consider several current uses of them.
Among the most outlandish is the variation Williams chose. It was devised by Steven Oshins, an imaginative Las Vegas estate lawyer. In essence, you start a business and run it from within a dynasty trust, using the trust as a wrapper. It helps if the business is low-inventory and not capital-intensive so that the original gift of assets to the trust can squeeze below current gift- and estate- tax exemptions.
In addition, the grantor of the trust must contribute the startup capital and should be different from the person who runs the business. (Williams' mother contributed about $10,000.) Then two or more trustees are usually named: One runs the business and at least one other is an "independent" trustee--usually a trusted friend--who makes decisions about distributions of income or principal from the trust. Finally, beneficiaries are chosen; in this case it was Williams, any spouse and his descendants.
Another twist is that the trust is drafted so that Williams is allowed to withdraw the original gift to the trust immediately, making the trust income taxable to him. The point isn't to allow Williams to take the $10,000; he doesn't plan to. But the provision makes the trust "beneficiary-defective," meaning that the IRS recognizes it as bona fide for estate-tax but not for income-tax purposes. The "defect" makes Williams, rather than the trust, responsible for paying the trust's income taxes each year.
And that's just what Williams wants. A normal trust either pays tax on its income or distributes it so that the beneficiary can, but either way the assets take a hit. Here, Williams can pay income tax using assets from outside the trust and thus allow the trust to grow even more. Should he need cash, the other trustee can distribute income to him or lend him trust assets.
Result: If all goes according to plan, the firm will grow unimpeded by income tax during the designated beneficiary's life and be protected from estate taxes, creditors, and ex-spouses forever.
Another current use of dynasty trusts is to protect "sacred family assets"--say, a vacation property that the owner wants subsequent generations to enjoy. Hartford attorney Walker drew up a dynasty trust for clients with a Cape Cod compound.
It works like this: The owner or owners contribute the property to a dynasty trust, either now or at death. A couple could use a portion of their combined $1.35 million exemption to avoid gift or estate tax on the transfer. The owners also apply all or part of their combined $2.12 million generation-skipping exemption to the property, preserving it from further layers of estate tax.
There are drawbacks: Unless the property earns rental income or the grantor includes cash, beneficiaries will have to pay the property taxes, and the deduction for those taxes might be useless. And if the grantor wants to use the property, he or she will have to pay rent, though this can be a good way to get cash out of an estate.
If you have a lot of wealth--the experts have in mind $10 million--a dynasty trust can ensure that substantial money stays in the family for generations.
Fees can run from $2,000 to $10,000 to draft the trust, plus 0.4% to 1.25% of assets annually at an outfit like J.P. Morgan Private Bank for administration and portfolio management.
The real problem, however, is irrevocability. Any money you part with now for future generations will stay with them, even if you wind up in dire straits.
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