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How it Works: The QTIP Trust

Let’s talk today about the Qualified Terminal Interest Property Trust, also known as the QTIP trust. It’s a great tool to avoid paying estate tax.

The QTIP is very similar to a bypass trust, but with some tiny differences. It’s a trust that goes to your spouse when you pass away, naming your spouse as beneficiary. The spouse has the right to certain income from the trust for his or her life. Upon death, the assets in the trust go to the beneficiaries designated in the trust.

This trust is for married couples. And only a U.S. citizen spouse can be named as a beneficiary of the trust.

The reasoning behind this is the estate tax marital deduction. A person can give an unlimited amount of his or her estate to the surviving spouse without incurring gift tax or estate tax on that amount.

So what's pretty typical for estate planners is to create a spouse's trust, on the death of the first spouse, which trust essentially houses all the property that will belong to the surviving spouse outright, up to the estate tax threshold for the year of death. The QTIP trust then holds all the property that falls above and beyond what would be the estate tax exemption amount for the year of the first spouse's death.

Of course, that's not the end of the estate plan. Both of those trusts need to be divided in a tax-efficient way for the children and grandchildren. And there are many tax implications there, as well.

QTIP trusts are really best for couples who have wealth that falls above the estate tax exemption amount. For the year 2013, the general belief is that the exemption amount will be $1 million, although this could change.

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