ESTATE PLANNING MEMO: The Threshold Question in Planning for Married Couples

For most married couples, the thing that motivates them to create an estate plan is their desire to provide for “What happens when we’re both gone?”

However, when counseling our married clients, we must begin by asking, “What do you want to happen if one of you dies?”  Most of them consider this a given, and they point to each other and say, “Well, it goes to my spouse and then to our kids.”  This represents the essential goal of most married couples.  But as is often said, “the devil is in the details.”

It is important to note that there are two ways to leave your estate to your spouse (or any other beneficiary, for that matter).  You can leave it to your spouse or leave it in trust for the benefit of your spouse.  Choosing between these two alternatives is one of the most important decisions a married couple needs to make. Because each approach has advantages and disadvantages, it is often a difficult one.  And because this is such an important issue, we have prepared this Planning Memo to assist our clients.

The “All-to-the-Spouse” Plan

The simplest and most straight-forward plan, and the plan that gives the surviving spouse the most control over the estate, is one in which each spouse provides that upon the first death, all assets pass to the surviving spouse, if living, and if not, to your children.  At the first death, this leaves all assets being totally owned and controlled by the surviving spouse unfettered by any limitations on what they can do with those assets.  So this easily achieves the first part of the “it goes to my spouse and then to our kids”  goal.  But since this results in the entire estate being owned by the surviving spouse, he or she retains the ability to change the plan.  Thus, this plan can provide no assurance that when the surviving spouse dies, the remaining estate will pass to your kids. If the surviving spouse remarries, or gets senile or gets sued, the “and then to our kids”  part of your plan might not be achieved.

Many married couples are content to assume these risks, especially when all children are products of their marriage, since there is no reason to think that either will intentionally disrupt the plan.  However, in blended families, where each spouse has their own set of children, there is obviously a greater threat that the children of the first-to-die spouse will end up being disinherited, so the couple may need to consider other options.

The “In Trust for Spouse” Plan

An alternate plan is to have the first-to-die spouse’s share of the estate pass into a “Spousal Benefit Trust” instead of passing directly to the surviving spouse.  This type of trust usually gives the trustee the power to make distributions for the health, maintenance and support of the surviving spouse (whatever the surviving spouse needs) but otherwise the assets remain in the trust.  Unlike in the “all-to-spouse” plan, the spouse does not own the assets.  Rather, they are the beneficiary.  Accordingly, those assets are not subject to their creditors (providing “third party” protection) and the surviving spouse has no ability to change the terms of the trust insofar as it provides that the assets that are not needed for the spouse’s support will pass to the intended beneficiaries (providing “family wealth protection”).

Since distributions from the Spousal Trust will be under the control of the trustee, the selection of the trustee is an important consideration and, to a great degree, will determine the level of extra protection that will be achieved.

For maximum protection, the trustee of the Spousal Trust (i.e., the person making the decision as to what the spouse “needs” for his or her “support and maintenance”) would be an independent third party.  In this scenario, the surviving spouse does not have a voice in the decisions regarding investments or distributions.  As a result, it would be more likely that distributions from the trust to the spouse would be limited and the assets in the Spousal Trust would be maintained for ultimate distribution to your children.

A second option for trustee selection is to provide that the spouse is a co-trustee and thus can participate in the decision-making process regarding investments and distributions.  The co-trustee is typically a family member, but sometimes an institutional trustee (bank or trust company) is more appropriate.  Having a co-trustee allows for someone to “look over the spouse’s shoulder” just to help ensure that the trust is administered in accordance with its terms and intentions, which is to make the funds available to the surviving spouse as needed while preserving as much as possible for the ultimate beneficiaries.

And for those who are still hesitant to place restrictions on the surviving spouse, they may decide to name the spouse as sole trustee.  If the spouse is the sole trustee, he or she will, as a practical matter, have control over the trust assets.  We sometimes refer to this arrangement as being a case of “the fox guarding the henhouse” because the spouse is in complete control over the Spousal Trust.  However, unlike the situation where the spouse is the owner, as trustee they have the fiduciary duty to abide by the terms of the trust, and they are legally accountable to the other trust beneficiaries.  Those beneficiaries would be entitled to annual accountings, and if they thought the spouse/trustee was violating their fiduciary duty, they could seek redress in a court action.  The spouse as trustee would have to maintain the Spousal Trust assets separately from his or her own assets, keep records, provide accounts and file separate trust income tax returns. Thus, the surviving spouse’s life will be more complicated than it would otherwise be in an all-to-spouse plan.

Since there are advantages and disadvantages to either of these approaches, it is very important that all married couples fully understand all of the implications, and most importantly, that they are in full agreement as to the approach they take.