Estate planning can be a complex process, especially when it comes to the use of trusts. Two common types of trusts are AB and ABC trusts, which married couples often use to minimize estate taxes. In this blog, we’ll explain how estate taxes can affect assets after a person’s death, how trust assets are protected from these taxes, and the differences between AB and ABC trusts.
Maryland residents deserve knowledgeable estate planning advice. At The Law Office of Raymond E. Brown, we provide you with comprehensive estate planning services, including establishing and funding trusts. Let us help protect your legacy–call us at (443) 554-9944 to learn more about our services or to schedule an appointment with us today.
How Do Estate Taxes Affect Assets?
Before we delve into AB and ABC trusts, let’s take a more in-depth look at what estate tax is and how it can affect a person’s assets after they pass. An estate tax is a levy that is put on a person’s assets after they die. This includes any property or other financial assets the person has certain interests in as of the date of their death.
When one spouse dies before another, any assets left to the surviving spouse will be fully exempt from estate taxes under what is called the unlimited marital deduction. Assets left to other beneficiaries, however, may be subject to taxes like federal estate taxes, state estate taxes, and inheritance taxes. Things like trusts and portability can help protect assets from estate or inheritance taxes.
It’s important to note that not all assets are taxed. Only assets that are over a certain amount may be subject to these taxes, and any assets under that given amount are exempt. In most states, assets are only subjected to a federal estate tax, but in some states, assets are subjected to a state estate tax.
Federal Estate Tax Exemption vs. State Estate Tax Exemption
Compared to the federal estate tax exemption, the state estate tax exemption is set at a much lower threshold. As of 2023, the federal tax exemption is $12.92 million for individuals, and is increasing over time with inflation. As of 2023, the Maryland estate tax exemption is $5 million, and is not increasing over time with inflation.
This means that in states with their own separate estate tax, assets are more likely to be taxed before they’re distributed to heirs. In addition to all of this, some states have a state inheritance tax, which is a tax that the beneficiaries must pay after receiving their deceased loved one’s assets.
Maryland is the only state that has a state estate tax and an inheritance tax, which is one of the reasons that residents may establish an AB trust or ABC trust to help protect their assets from being taxed.
Those who own significant assets in Maryland should seek expert help throughout the estate planning process. If you need help establishing a trust, call The Law Office of Raymond E. Brown today at (443) 554-9944.
What is an AB Trust?
An AB trust, also known as a bypass trust or a credit shelter trust, is a type of exemption trust that is used to help minimize the amount of estate taxes on a couple’s assets. When the first spouse in a couple passes away, an AB trust can help preserve their personal assets for their heirs while also allowing their surviving spouse to benefit from their shared assets.
How AB Trusts Work
When one spouse dies, the AB trust splits into two entities, the A trust, which is the surviving spouse’s estate, and the B trust, which is the deceased spouse’s estate. The B trust is funded up to the estate tax exemption amount, and the A trust is funded with the remainder of the assets.
The surviving spouse will have full control over the A trust (which is sometimes referred to as the marital trust), but they will often only be able to earn income from the B trust for income tax purposes. The surviving spouse will not have complete control over the personal assets of the deceased spouse.
While the surviving spouse may not have total control over the B trust, they will still be able to live in the home they shared with their spouse, even after their spouse passed away. Later, when the surviving spouse dies, the couple’s assets in the A and B trusts are distributed according to their will or trust.
Benefits of an AB Trust
This setup allows the surviving spouse to avoid estate taxes on the assets in the deceased spouse’s trust, while still giving them access to the income generated by those assets. An AB trust also offers more than just tax benefits; trusts help descendants avoid the probate process, which is the legal process by which a person’s assets are distributed to heirs and creditors.
What is an ABC Trust?
An ABC trust, also known as a marital deduction trust, is similar to an AB trust in that it aims to maximize the estate tax exemption of both spouses. However, with an ABC trust, the surviving spouse can access the assets in the deceased spouse’s trust more flexibly.
How ABC Trusts Work
With an ABC trust, the deceased spouse’s assets are split into three trusts: an A trust (the survivor’s trust), a B trust (the bypass trust), and a C trust (the qualified terminable interest property trust, or QTIP trust).
The surviving spouse has access to the income generated by both A and C trusts, ensuring they are well taken care of. Also, the surviving spouse will have more control over asset distribution and management. This allows for more flexibility in managing the assets, but it also means that the process can be more complicated and costly.
Just like AB trusts, after the surviving spouse’s death, the couple’s assets are distributed according to their will or trust.
Benefits of an ABC Trust
Similar to an AB trust, an ABC trust can help reduce federal estate taxes as well as state estate taxes. However, by separating the couple’s assets further than in an exclusion trust, the couple can reduce the net worth of the assets in a given trust. This can help further defer the payment of any state or federal taxes the estate may be subject to, which can be extremely beneficial for individuals living in states with a separate estate tax, like Maryland.
Additionally, the surviving spouse will have income from multiple trusts as well as greater control over assets. With the added control, the surviving spouse can ensure assets are distributed to the correct beneficiaries. This kind of trust also helps avoid probate, which can save time and preserve a certain amount of privacy.
Choosing the Right Trust
Choosing the right trust depends on your circumstances and goals. For example, if minimizing estate taxes is your primary concern, an AB trust may be the best option. However, an ABC trust may be a better choice if you want more flexibility for the surviving spouse.
AB and ABC trusts are helpful estate planning tools for married couples, especially those in Maryland. By understanding the differences, you can decide which type of trust is right for your specific needs and goals.
It’s important to work with an experienced Maryland estate planning attorney to determine the best trust for your situation. The laws surrounding estate planning and taxes can be complex, and a professional can help you navigate the process and ensure that your wishes are carried out according to your wishes.
Interested in Establishing an AB or ABC Trust? Annapolis Estate Planning Attorney Raymond E. Brown Can Help
Looking to establish an AB or ABC trust? Look no further–an experienced estate planning attorney at The Law Office of Raymond E. Brown is here to help. We can help you determine which trust will work best for you so that you and your family can reap the maximum benefits possible.
When it comes to passing on your assets, you don’t want to leave anything up to chance. In addition to trusts, we can also help you establish a number of other important estate planning documents, including a will, power of attorney, or advance healthcare directive. Call us at (443) 554-9944 or fill out our online contact form to learn how we can help preserve your legacy, even after you’re gone.