Of the many considerations involved in comprehensive estate planning, minimizing or avoiding tax liabilities and shielding assets from creditors are often paramount concerns. For high-net-worth individuals, that means taking the steps, establishing the mechanisms, and making the transfers that can keep their taxable estate below the federal estate tax threshold and beyond the reach of creditors. Many of the strategies for doing so involve establishing and funding various types of trusts. One trust increasing in popularity among high-net-worth married couples is the spousal lifetime access trust (SLAT).

As with all estate planning vehicles, SLATs have significant benefits and limitations that should be fully understood before utilizing one as part of a wealth protection and preservation strategy.

SLAT 101

A SLAT is an irrevocable trust you establish for the benefit of your spouse. In exchange for forfeiting the right to use or manage assets contributed to the trust, those assets are not included in your taxable estate. The trust document is typically drafted to immediately let the beneficiary spouse access those funds. This means your spouse can reap the benefits of your estate while you are still alive.

Estate and Gift Tax Benefits

Using lifetime gifting strategies, you can transfer assets up to the amount of the federal estate, gift, and generation-skipping transfer (GST) tax exemptions before paying any transfer taxes. The Tax Cuts and Jobs Act of 2017 increased these exemptions to an all-time high. In 2022, the exemption amount is $12.6 million for an individual and $24.12 million for a married couple. The lifetime gift tax exclusion, which is the amount you can gift without incurring a tax, is also $12.6 million. However, absent any federal legislative action, the exemption is set to drop back to the previous amount of $5.49 million (adjusted for inflation) in 2026.

Taking advantage of this high but possibly fleeting exemption level is one driver behind the increased use of SLATs in estate planning. A SLAT effectively lets you use and lock in the present exemption instead of being subject to the one in effect the year you pass away. This means you could contribute $12.6 million to a SLAT in 2022 without owing a dollar in gift or estate taxes. In fact, each spouse can create a SLAT for the other, meaning you could shelter a combined $24.12 million from future estate and gift tax. Additionally, any appreciation of assets held in the trust will also be excluded from your taxable estate.

For federal income tax purposes, a SLAT is treated as a “grantor trust.” This means that after transferring assets to the trust, you are still responsible for the payment of income taxes on the income generated by the trust assets. This has the added benefit of allowing the assets of the trust to compound without being reduced by income taxes. In effect, the payment of the trust’s income taxes is a tax free gift to the trust.

Protection From Creditors

Transferring assets to a SLAT can also protect those assets from creditor claims against you and your spouse. Because you have relinquished control over the transferred assets and provided that you have retained no interest in or been named a trustee of the SLAT, the transferred assets should be free from the claims of your creditors. If the trust is structured so your spouse has only a discretionary interest in the SLAT (that is, he or she will receive trust income or principal only at the discretion of an independent trustee), the assets in the SLAT should also be protected from your spouse’s creditors.

Potential Downsides

As noted, SLATs are not without their downsides or risks, especially if not structured properly. Some of the potentially less attractive aspects of a SLAT include:

• Loss of indirect access to trust assets upon the beneficiary spouse’s death or in the event of divorce.
• Liability for income tax on income generated from the SLAT.
• Possible tax liabilities under the “reciprocal trust doctrine” when both spouses establish SLATs if the IRS finds the trusts to be too similar or interrelated, which would result in the trusts being “undone” and included in the donor spouses’ respective taxable estates.
• While a beneficiary spouse can serve as a SLAT’s trustee and authorize their own distributions from the trust, their ability to do so is limited as any distributions beyond that considered reasonable to pay for education, healthcare, or support would result in assets being included in the beneficiary spouse’s taxable estate.

Including a SLAT as part of your estate plan can be a wise move, but it is no small undertaking. The information provided is merely an overview of this type of trust, and your goals and circumstances may implicate many other issues other than those discussed here. It is critical that you seek the counsel of an experienced estate planning attorney if you are considering or want to learn more about SLATs. Please contact one of the estate planning attorneys at Sherrard Roe Voigt & Harbison today to arrange for a consultation.