Crummey Trust

Despite its name, a Crummey Trust is a rather magical little entity. Named after the Reverend D. Clifford Crummey, the first person to use this type of trust and successfully defend it in court, a Crummey Trust is a type of irrevocable living trust that allows you to avoid gift or estate taxes by paying money into a trust for the benefit of another person – with the added bonus of retaining the ability to specify how the money is used.

The most common reason people use Crummey Trusts is to gift money to their children. If you simply give money to your children outright, you must pay a 35% gift tax on that money before it even reaches their hands. If you wait until you die, your children will pay a 35% estate tax on their inheritance. This doesn’t sit well with people who have worked their entire lives and wish to pass their wealth onto their children without breaking off a huge chunk for Uncle Sam.

The solution is a Crummey Trust, which is a clever and powerful tool in an estate planning practitioner’s arsenal. Currently, the annual gift tax exclusion is $13,000. This means you can place $13,000 in a Crummey Trust once a year without paying gift taxes on that money. Because the trust is irrevocable, it is not included as part of your estate, allowing you to avoid estate taxes as well. You can keep on doing this, year after year, until your children reach a specific age. The catch is that the gift must give your beneficiary a “present interest” (as opposed to a “future interest”) in the money. It also will not work if you desire to use the gift for a particular purpose, such as an Irrevocable Life Insurance Trust. In effect, you must actually give someone something. Obviously, this is not ideal when your children are very young. Another concern is that the beneficiary will reach young adulthood and spend the money unwisely.

Save tax

To get around the present interest requirement, the trustee must make the gift available to the beneficiary for a short period of time, usually about 30 days, although courts and the IRS have upheld shorter time periods. By sending out an official notice – sometimes referred to colloquially as a “Crummey Letter” – of the beneficiary’s unrestricted right to withdraw the money, the trustee satisfies the present interest rule. In most cases, the beneficiary simply allows the withdrawal period to lapse, keeping the trust intact.

A note of caution regarding lapse: When a beneficiary allows the withdrawal period to lapse, there is some concern that this failure to make a withdrawal actually creates a future interest in the other beneficiaries, making the withdrawal amount subject to gift taxes. To avoid this problem, the beneficiary’s withdrawal rights must be limited to $5,000 or 5% of the trust principal – whichever is greater.

Understandably, parents still worry that older children will take advantage of the 30-day notice and recklessly withdraw the money. This is not a concern for two reasons:

  1. The beneficiary only has the right to withdraw the present gift of $13,000; all previous gifts stretching back over the years cannot be withdrawn.
  2. The child knows that withdrawing the money will likely stop his parent from making any future gifts. Once the withdrawal right lapses the gift remains in the trust, to be used or distributed per the trust terms.

It’s easy to see why a Crummey Trust is such a desirable estate planning technique. If set up properly, your gift can qualify for an annual gift tax exclusion and be excluded from your estate for estate tax purposes. A Crummey Trust also allows the trustee to place significant restrictions on how the money is used. For example, you can:

  • Specify that the money will not be paid out until your child is 35.
  • Put the money into an Irrevocable Life Insurance Trust and specify that it is to be used to pay for life insurance (a common reason for a Crummey Trust).

Finally, one word of caution: As with most trusts, assets in a Crummey Trust will usually be considered the assets of the beneficiary for purposes of qualifying for college student financial aid.

As with virtually all areas involving living trusts and estate planning, you should not try to do your own living trust. You will greatly benefit from speaking to an estate planning professional about the best way to accomplish your goals.

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