Probate Court and Federal Estate Taxes

April 13, 2006

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When using asset protection trusts, it's important to realize that avoidance of probate court and elimination of federal estate taxes are two different issues. Separate rules apply to each situation.

Generally, it's much easier to avoid probate court than it is to avoid the estate tax collector. For example, a funded revocable trust (one supplied with assets before death) will always avoid probate court, because ownership is transferred outside of the grantor's will. On the other hand, a revocable unfunded trust--later given assets through a will--by definition will go through probate court (see our discussion of living or testamentary trusts).

However, neither type of trust will avoid federal estate taxes, because the trustor's control over the trust (due to the fact that he or she can amend or revoke it) means the trust's assets must be included in the trustor's taxable estate (see our discussion of revocable vs. irrevocable trusts).

Similarly, co-ownership of property in joint tenancy, POD (pay on death) designations for securities and bank accounts, and beneficiary designations for life insurance and retirement benefits mean that these assets will avoid the probate court process, because title passes to the designated heirs outside of the will. However, absent any specific additional strategy to eliminate the federal estate tax (e.g., creating an irrevocable life insurance trust), these assets are still included in the owner's taxable estate.