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  • Writer's pictureVincent Chambers, Esq.

Preserving Wealth with a Spousal Lifetime Access Trust (SLAT)

A spousal lifetime access trust (SLAT) is an irrevocable trust that can be used to move assets out of your estate. This type of trust can be helpful for people who may be subject to federal estate taxes, which can be as high as 40%. We’ll explore how these trusts operate, circumstances when they might be appropriate, and some potential drawbacks.

1. SLAT Structure

Creating a SLAT involves two spouses – the donor spouse and the non-donor spouse. The donor spouse (grantor) gifts assets to the SLAT, and the non-donor spouse is the beneficiary of the SLAT. Children and grandchildren can be future beneficiaries of the SLAT. Gifting assets to the SLAT removes those assets and future appreciation on those assets from the spouses’ estate. Assets that have the potential to appreciate over time can be good candidates for gifting to the SLAT. Some examples of property that could be gifted include:

  • Real estate

  • Securities (e.g., stocks, bonds)

  • Cash

  • Business interests in closely held businesses

  • Intellectual property (trademarks, copyrights, patents)

Like all trusts, the SLAT needs a trustee who manages the trust's assets and follows the trust’s terms. In the case of SLATs, the non-donor spouse (i.e., the primary beneficiary of the SLAT) could serve as trustee; however, in that type of setup, distributions from the trust would need to meet specific standards to be valid. In particular, the distributions would likely need to fall within one of the standardized categories for health, education, maintenance, or support. Alternatively, and arguably a better option, someone who is not a beneficiary of the SLAT can serve as trustee. This type of independent trustee can allow the SLAT to be more flexible and allow broader discretion in distributing trust funds. That said, if you’re seeking to maximize the benefits of the SLAT, it would behoove you to avoid taking distributions from the SLAT so that the assets within it can appreciate as much as possible.

When assets are gifted to the SLAT, care should be taken to only gift assets that belong to the donor spouse, i.e., jointly-owned or community property assets should not be donated. In a community property state such as California, it may require extra documentation and property transfers (a process known as transmutation of the community property) to properly fund the SLAT with assets owned solely by the donor spouse.

2. Who May Benefit from a SLAT

When assets are donated to a SLAT, the gift uses (counts toward) the donor’s lifetime gift and estate tax exemption. Currently (2023), this exemption stands at $12.92 million per spouse. At its current rate, a spouse can gift up to the $12.92 exemption amount without triggering any estate taxes. However, the exemption is scheduled to sunset at the end of 2025 and will be cut in half to roughly $6 million. After that, once the limit of roughly $6 million has been reached, gifts and wealth transfers would be subject to tax.

Whether a SLAT makes sense is primarily centered around the size of the estate. For a married couple, if their estate exceeds $12.92 million, a SLAT could be an excellent option to shield some of the assets from estate tax. Moreover, suppose a married couple’s estate exceeds $25.84 million (the combined lifetime gift and estate tax exemption for both spouses). In that case, it’s almost a no-brainer to consider creating a SLAT.

If the estate is large enough, it is possible for each spouse to create a SLAT for the benefit of the other spouse, thereby removing up to $25.84 million from their estate. If the two SLATs are correctly structured to avoid the reciprocal trust doctrine (whereby the IRS could treat the two trusts as interrelated and tax them), this structure could leave a massive windfall to future beneficiaries. Your estate planning attorney should take extra care to avoid running afoul of this doctrine. Some strategies include, but are not limited to, creating the SLATs in different years, naming different beneficiaries, and using different distribution rules and language.

Additionally, since SLATs are traditionally structured as grantor trusts, the donor spouse will usually pay the annual income tax on taxable trust income, and a separate tax return for the SLAT is not required. Since the income tax payments are not an additional taxable gift, they can further reduce the donor spouse’s taxable estate and allow the assets within the SLAT and the income they produce to grow virtually unincumbered by additional taxes.



3. Potential Drawbacks

When assets are donated to a SLAT, they pass out of the donor’s estate, and the donor-spouse technically loses control of and access to those assets. Although the donor spouse can potentially benefit indirectly if SLAT distributions are made to the non-donor spouse, there are a couple of scenarios when a SLAT can have particularly adverse consequences: 1) if the two spouses get a divorce and 2) if the non-donor spouse passes away before the donor spouse. In these two scenarios, and with SLATs generally, since the SLAT’s trustee will control the assets for the benefit of the non-donor spouse, the donor spouse could potentially lose a substantial amount of wealth.

When considering a SLAT, it is important to evaluate the loss of the step-up in tax basis that would traditionally occur upon the donor's death – which has implications for capital gains taxes. For example, if a married couple paid $500,000 for their home, owned it via a traditional living/revocable trust, and the home was worth $1,000,000 at the passing of the second spouse, the beneficiaries could inherit the home, and it would have a stepped-up cost basis of $1,000,000. If the beneficiaries sold the home for $1,000,000, it would not trigger any capital gains taxes. However, if the $500,000 home were gifted to the SLAT, it would maintain its $500,000 cost basis even after the donor and non-donor spouses pass. If the home were worth $1,000,000 upon the passing of the donor spouse and the home was sold, there would be no step-up in cost basis and a resulting capital gain of $500,000 – the SLAT could potentially be responsible for the taxes associated with that gain. Depending on the terms of the SLAT, some scenarios exist in which assets with a low cost basis could be swapped out for assets with a high cost basis to mitigate the capital gains taxes. These potential tax consequences are a trade-off that should be thoroughly evaluated when the donor-spouse decides which assets to gift to the SLAT.

Final Thoughts

Despite their generous benefits, SLATs are an often overlooked estate planning tool. If you think a SLAT may benefit you, or if you’d like us to analyze your finances and discuss other potential estate planning options, please don’t hesitate to schedule a call or email us at info@sherwoodfp.com.

Disclosures: This information should not be construed as investment, tax, or legal advice. All statements and opinions expressed herein are based upon information considered reliable at the time of publication and are subject to change without notice.

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