Is a Beneficiary-Defective Inheritance trust right for your estate plan?
Anyone running a small company knows how difficult it is to maintain a profitable business year after year. Business succession planning is essential for a smooth transition of a small business to the next generation after your death, disability, or retirement. An Indianapolis attorney at Frank & Kraft explains how a Beneficiary Defective Inheritance Trust (BDIT) might be able to help with your business succession plan.
Can’t I Just Make a Direct Transfer?
You may plan to pass down your personal assets directly to beneficiaries in your estate plan; however, passing down your business directly to the next generation can be problematic for several reasons, including:
- Creditors. Creditors of your estate might have a claim on the business, and it could be at risk due to your children’s debts after the transfer.
- Estate taxes. The entire value of the business becomes subject to federal (and potentially state) gift and estate taxes at a rate of 40 percent.
- In-laws. In the event of a divorce, future sons-in-law or daughters-in law could inherit the business. The trust’s provisions make sure that assets held in the trust are not considered to be the property of either the Grantor or beneficiary. This helps with tax avoidance. A professional Trustee will usually be appointed to administer the trust. The trust agreement gives the beneficiary the right of withdrawal for a short period (30-60 days, usually) after the trust is created. The beneficiary of a trust is considered the owner of any portion that they can independently vest themselves, for federal income taxes. The beneficiary is considered the Grantor of federal income tax purposes if the beneficiary has the right to withdraw money. This is true even if the beneficiary does not exercise the right. The beneficiary can sell assets to the trust for a promissory with an interest rate that is at least equal to the Applicable federal rate (AFR). The assets will appreciate in value but the value for taxation purposes is fixed at the time the note is transferred plus the interest rate. Any increase in value beyond that amount benefits the trust, and it is not subject to estate taxes.
Although the beneficiary (seller of assets) is not the Trustee, they can serve as a manager or investment advisor, allowing them to retain a considerable degree of control over the trust assets’ destiny. The trust agreement also includes provisions that allow the beneficiary to receive discretionary income and distributions from the trust. A BDIT offers tax benefits as well as asset protection, shielding assets against divorce, creditors and even bankruptcy. Finally, when structured correctly, assets transferred into a BDIT do not count against the beneficiary’s lifetime exemption limit since the transfers are not deemed “gratuitous.”
Benefits of Including a Beneficiary Defective Inheritance Trust in Your Plan
To understand why BDITs are a common additional to a business succession plan for small business owners, you need to understand the benefits of a BDIT which can be summed up as:
Tax Planning
. A BDIT can help minimize estate taxes by locking-in the value of assets at the time the transfer is made. This could save the business and its beneficiaries from higher tax obligations as the business increases in value. The trust structure provides protection against creditors, divorce, and bankruptcy, helping to safeguard the business assets for the benefit of the designated beneficiaries.
Control and Management
- . While relinquishing ownership, the business owner (now beneficiary) can still retain a significant level of control over the trust assets, acting as a manager or investment advisor.Flexibility.
- The trust agreement allows for distributions and discretionary income to the beneficiary and others, providing flexibility in managing financial aspects.Lifetime Exemption
- . For more information about a beneficiary defective inheritance trust, please join us at an upcoming FREE seminar. If you would like to discuss how a BDIT can fit into your estate plan, please contact an Indianapolis trust attorney by calling Frank & Kraft
- or (317) 684-500
- for an appointment. Mr. Kraft’s primary areas of expertise are estate planning and administration. He also assists clients in Medicaid planning, federal taxation, corporate law and real estate. Latest Posts by Paul A. Kraft Estate Planning Attorney
