How Do Trusts Save Taxes?

September 17, 2015

trusts save taxesA trust can be a significant financial tool, helping you to control your money and provide for the future of your loved ones.  If you are wondering whether you should create a trust, as part of your overall estate planning, also consider how useful they are in helping to avoid estate taxes.  So, how do trusts save taxes?
The purpose of a trust
The basic purpose of a trust, in estate planning, is to reduce estate taxes as much as possible and avoid probate. A trust is essentially a fiduciary agreement, that is - one based on confidence and trust, between the trustee and the grantor or maker of the trust. The agreement authorizes the trustee to hold and manage the trust assets on behalf of the beneficiaries, while providing specific instructions on how to manage and distribute those assets. There are many different types of trusts, each with their own specific purposes or goals.
The general benefits of a trust
If one of your goals in estate planning is to ensure that more of your property and money is left to your beneficiaries, as opposed to being reduced by estate taxes, then a trust may be a great option.  But, creating a trust does not magically reduce your estate tax rate.  One way to reduce estate taxes is to reduce the value of your estate.  This is done by transferring your assets to a trust, in order to lower your estate’s value.  Because the assets you transfer to a trust technically belongs to the trust, you may reduce the amount that will be taxed, with the appropriate documentation.  However, there are other tax issues that also arise after your death.  Therefore, consulting with an estate planning attorney is essential.
What about a Grantor trust?
If you create a grantor trust, then you can retain your power over most aspects of the trust.  As the grantor, or the person who establishes the trust, you personally continue to pay the income taxes on the assets.  For tax purposes, you are considered a “disregarded entity,” so the taxable income or deductions that are earned by the trust will be included on your tax return.
What are the tax advantages?
There are several advantages in creating a grantor trust.  Your trustee, at your death, can sell the trust assets without recognizing the capital gain from the sale.  You can also lend money to your trust at the minimum interest rate allowed.  However, the interest income will not be taxable to you, as the grantor.  In other words, the trust assets can grow for the benefit of your beneficiaries, while eliminating the economic burden of paying income taxes.  That way, the gifts you make to your beneficiaries that are below the annual exemption amount, will be free of the gift tax.
If you have questions regarding tax savings, or any other estate planning needs, please contact Anderson, Dorn & Rader, Ltd., either online or by calling us at (775) 823-9455.

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