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Crummey Trust

Despite its name, a "Crummey Trust" is a rather magical little entity. It can be used to transfer money (or other assets) to someone else without having to pay either gift or estate tax on the assets -- AND still be able to specify (within limits) how the assets are used.

To understand how this works, let’s use the common example of a parent desiring to pass his or her wealth on to the next generation.

Of course, Mom or Dad, understandably, wants to avoid paying taxes on the transfer if possible.

Unfortunately, the tax code usually makes that objective impossible.

Normally, if you leave your kids an inheritance, your estate will be subject to paying estate tax on the inheritance.

And, if you simply want to give them something of value, while you are still alive, that transfer will be subject to a gift tax (with a tax rate identical to the estate tax rate).

However, an Irrevocable Living Trust can be used to avoid both gift and estate tax.

Save tax The one catch is that, for your gift to qualify for the annual gift tax exclusion (currently $12,000 per year; indexed periodically for inflation) – you have to actually give someone, something.

The beneficiary of your gift has to have a “present interest” (as opposed to a "future interest") in the property. The beneficiary has to be able to "take the money and run" if he or she wants to.

Obviously, this will not work at all if the beneficiary is your 12 year old son. It also won’t work if you desire to use the "gift" for a particular purpose – say to fund an Irrevocable Life Insurance Trust.

This is where the Crummey Trust comes in. If your Irrevocable Living Trust or Irrevocable Life Insurance Trust property qualifies as Crummey Trust – you can have your cake and eat it too.

Your gift can qualify for your annual gift tax exclusion; be excluded from your estate for estate tax purpose; and yet, you can still put significant restrictions on how the money is used.

For instance, you can put the "gift" into:

A trust and specify that the trust won’t be paid out until your child is 35.

You could also put the gift into an ILIT and specify that it is to be used to pay for life insurance (the most common reason for a Crummey Trust).

You still have to give the beneficiary a "present interest" in the gift.

But the unique feature of a Crummey Trust is that it allows a very narrow "present interest" to qualify for tax purposes.

As long as the beneficiary has (and is notified of) the unrestricted right to withdraw the gift from the trust for at least 30 days after the gift is made – that "right of withdrawal" will qualify as a present interest.

Once the withdrawal rights lapse, the gift remains in the trust, and is used or distributed per the terms of the trust -- and it will not be part of your estate for estate tax purposes or subject to gift tax.

Wow! You can see that the Crummey Trust is a creative and powerful estate planning technique.

[There is a separate issue as to whether allowing the lapse of the withdrawal right is a taxable gift by the beneficiary to the other beneficiaries of the trust. However, as long as the withdrawal power was limited to the greater of $5,000 or 5% of the value of the trust property, this issue is avoided].

Parents often have understandable concerns that their teenage (usually) child will rashly withdraw the money and spend it unwisely. This really should not be a serious concern for two reasons:

The beneficiary only has the right to withdraw the present gift; not previous gifts; not whatever else is in the trust.

The child knows if he withdraws the money, the gifts will very likely cease in the future.

You may wonder how the "Crummey Trust" got its name. It is named after D. Clifford Crummey; the first person to use this type of trust and have it upheld in court.

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

So, 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 talking to an estate planning professional about the best way to accomplish your goals.