The Spousal Lifetime Access Trust: Having Indirect Access to the Trust Assets
By Steven J. Oshins, Esq., AEP (Distinguished)
Imagine that there is a type of trust that you can set up where you can transfer assets and not only protect them from creditors and estate tax but also have access to them through your spouse. No, this is not a hypothetical world where there are rainbows and unicorns! This world really does exist!
This trust is often called a Spousal Lifetime Access Trust, or “SLAT” for short. Most people are aware of the completed gift version where estate tax avoidance is the primary motivating factor. However, there are really two different types of SLATs – a Completed Gift SLAT and an Incomplete Gift SLAT. This newsletter article will describe both types.
The Completed Gift SLAT
The Completed Gift SLAT is the much more common version. The primary objective is to move the assets out of the settlor’s estate while maintaining the ability to access the assets through distributions to the settlor’s spouse. Although many of these trusts own life insurance, other assets may be owned by the trust.
The settlor sets up the trust for the benefit of the settlor’s spouse and descendants and makes gifts to the trust that must come from the settlor’s separate property. If drafted properly, the trust assets are protected from the creditors and divorcing spouses of the beneficiaries and aren’t subject to estate taxes when the settlor and settlor’s spouse pass away.
Given that the federal estate tax exemption is now so high that only roughly 0.1% of the United States would pay a federal estate tax were they to pass away now, there are less Completed Gift SLAT opportunities than there were in the past. Therefore, the Incomplete Gift SLAT should be the version that is more widely used in today’s regime.
The Incomplete Gift SLAT
Most people have never heard of the Incomplete Gift SLAT. You don’t hear it being discussed at industry conferences or read articles about it, other than those that I author. But yet it is one of the smartest trust options available.
Probably the number one reason why it doesn’t get discussed is that the estate planning industry seems to shy away from asset protection planning. There is no rhyme or reason for estate planners to neglect such an important part of estate planning, but yet it happens frequently.
The primary objective in setting up an Incomplete SLAT is to protect the trust assets from creditors. The settlor transfers assets into the trust for the benefit of the transferor’s spouse and descendants. If the settlor gets sued or divorced, the assets are protected. If the beneficiaries get sued or divorced, the assets are protected.
Unlike with the Completed Gift SLAT, the settlor retains a lifetime and testamentary power to appoint income and principal to anybody except the settlor, the settlor’s estate or the creditors of the settlor or settlor’s estate. The settlor also retains the power to veto any distributions. Because the settlor retains these powers, the transfers to the trust aren’t completed transfers for gift tax purposes and are included in the settlor’s taxable estate for estate tax purposes.
The Non-Grantor SLAT
A regular SLAT is a grantor trust whereby the taxable income is reported on the settlor’s personal tax return on account of IRC Sec. 677 which taxes the settlor if the settlor’s spouse is a beneficiary of the trust.
Another SLAT option is to design the trust so that the settlor is not taxed on the taxable income. This is done by requiring any one adverse party (i.e., beneficiary other than the settlor’s spouse) to sign off on beneficiary distributions.
For example, settlor sets up and funds a non-grantor SLAT for the benefit of settlor’s spouse and descendants. All distributions to the settlor’s spouse must be made by the distribution trustee with the written approval of one of the settlor’s children (or a named guardian for a child who is under 18 at the time of the distribution).
The non-grantor SLAT is often used to avoid state income taxes by drafting around the state income tax rules that apply based on the residency of the settlor, the residency of the trustees, the place of administration and sometimes the residency of the beneficiaries (keeping the Kaestner case in mind which is beyond the scope of this newsletter article).
Thus, the non-grantor SLAT can be used to save state income taxes, save estate taxes, provide creditor and divorce protection and also give the settlor indirect access to the trust assets through distributions to the settlor’s spouse who can share them with him or her.
SLAT with a Back Door
What if the settlor would like the potential ability to benefit from the SLAT should the settlor’s spouse either divorce or predecease the settlor?
This is handled by situsing the SLAT in a jurisdiction such as Nevada or South Dakota that has a Domestic Asset Protection Trust (“DAPT”) statute. We call this a Hybrid DAPT because it’s a SLAT that can be turned into a DAPT.
The Hybrid DAPT is a strategy that substantially increases the likelihood that the trust assets will be protected. And it is very simple. The Hybrid DAPT is just like a regular DAPT except that the settlor isn’t a beneficiary of the trust but can be added later.
Thus, the trust is set up for the benefit of the settlor’s spouse and descendants, for example, but not for the settlor. By not including the settlor as a beneficiary of the trust, the Hybrid DAPT is by definition a third-party trust and therefore almost certainly avoids the potential risk of uncertainty and scrutiny of a regular DAPT or a Foreign Asset Protection Trust.
Especially where the settlor is married and has a strong, trusting relationship with his or her spouse, is there any good reason that the settlor must have his or her name in the trust agreement as a beneficiary? It is very simple to indirectly access the trust assets through the spouse. And the trust agreement should define the settlor’s “spouse” using a “floating spouse provision” that says that the spouse is the person the settlor is married to from time to time. This gives the settlor the ability to access the trust assets through a subsequent spouse in the event of a divorce or the death of the settlor’s current spouse.
If the settlor has no spouse, then it becomes more difficult for the settlor to access the assets without being a beneficiary. Therefore, for the unmarried client, you simply put less of the wealth into this trust and often set up a limited liability company for assets that aren’t transferred to the trust. And since a good asset protection planner will be sure to leave sufficient wealth outside of the client’s asset protection trust, in most cases the settlor won’t have to work through this issue anytime soon.
In case the settlor needs to be a discretionary beneficiary of the Hybrid DAPT sometime in the future (i.e., if the settlor has no spouse or child that will “share” a distribution with the settlor and the settlor now needs a distribution), the trust agreement provides that the trust protector can add additional beneficiaries, including the settlor. However, if the settlor is added, then the Hybrid DAPT becomes a regular DAPT rather than a SLAT and thus risks that the law is still unsettled on DAPTs (even though most people believe that they work).
There are so many ways for the settlor to indirectly access the Hybrid DAPT assets that it almost inconceivable that a settlor will ever be added as a beneficiary. The various strategies are beyond the scope of this newsletter article.
Finally, note that the Hybrid DAPT cannot be designed as a non-grantor trust, so if state income tax avoidance planning is a key objective, a different trust alternative should be used.
The Psychology of a Hybrid DAPT
The settlor should almost never be added as a beneficiary since that creates a minor uncertainty when not adding the settlor provides near-certainty.
However, psychologically, simply knowing that one can be added if necessary, especially since the settlor indirectly can influence being added, can make a person feel much more comfortable transferring a larger amount of assets to the trust.
If the settlor ever actually needs to be added as a beneficiary, one strategy is to add the settlor, then make a very large distribution to the settlor, and then immediately remove the settlor as a beneficiary in order to cleanse the trust. A pattern of doing this multiple times, although technically okay, is not a good idea, so common sense is the best tool when deciding whether to add the settlor versus accessing trust assets via other alternative options.
Summary
The SLAT is a popular trust option. The Completed Gift version is much more popular and widely-used than the Incomplete Gift version, but both tools should be mastered by any estate planning professional. In fact, because of the high federal estate tax exemption, the Incomplete Gift SLAT should be the more widely-used option.
One alternative is to create a non-grantor SLAT. This is most often used as a state income tax avoidance technique.
Finally, consider a SLAT with a back door. This is often known as a Hybrid DAPT because it’s a SLAT that can be converted into a DAPT (even though the settlor almost never should be added as a beneficiary). Consider the added psychological benefits of adding the Hybrid Provision.
ABOUT THE AUTHOR
Steven J. Oshins, AEP (Distinguished) is a member of the Law Offices of Oshins & Associates, LLC in Las Vegas, Nevada. He was inducted into the NAEPC Estate Planning Hall of Fame® in 2011. He was named one of the 24 “Elite Estate Planning Attorneys” and the “Top Estate Planning Attorney of 2018” by The Wealth Advisor and one of the Top 100 Attorneys in Worth. He is listed in The Best Lawyers in America® which also named him Las Vegas Trusts and Estates/Tax Law Lawyer of the Year in 2012, 2015, 2016, 2018, 2020, 2022, 2024 and 2026. He can be reached at 702-341-6000, ext. 2 or [email protected] . His law firm’s website is www.oshins.com