Trust protector can build flexibility into estate planning

This can guard against certain provisions of your documents becoming outdated or unworkable.

Ken Rudzinski

A young stand-up comic named Bill Cosby had a “LOL” kind of moment in his act many years ago when he talked about the patient undergoing open-heart surgery, under local anesthesia, lying on the operating table reading the newspaper. While engrossed in the sports section, the patient hears the surgeon’s calm, measured voice, “Probe … swab … scalpel … scalpel … oops!” Startled, the patient nervously asks the surgeon, “Oops? Did I hear you say ‘oops’? I know what I meant when I’ve said ‘oops’ before. What did you mean when you said ‘oops’?”

New estate tax laws

Life is rife with “oops” moments. We try to plan for them as much as possible, but still they occur. Congress imposed a country-wide “oops” on taxpayers when it failed to enact new estate tax laws to take effect in 2010 as most estate tax practitioners had expected. It took until December 2010 for Congress to settle the estate tax question as part of the extension of the Bush tax cuts. As it currently stands in 2011, instead of a 55% tax and just a $1 million per-person exemption — as the estate tax law was to have been in 2011 — we now have a 35% tax and a $5 million per-person exemption.

Moreover, the new law contains a portability feature that allows for any spousal unused exemption to be passed on to the surviving spouse, thus creating a $10 million estate tax-free umbrella. Even better, the estate tax and gift taxes are once again unified, so lifetime gifts of up to $5 million per person are now permitted.

However, the law as written has a 2-year Cinderella-like lifespan so that after 2012, the old law returns. As a consequence, many of us have visited with, or should be visiting with, our estate attorneys to determine what, if anything, we need to do.

Take advantage of law changes

What have you done or what do you plan to do? If you do not take advantage of the new, more generous provisions of the estate tax law, you may be creating a great big “oops” in your estate.

For example, what if your son, a successful orthopedic surgeon, is sued for malpractice and should under no circumstances receive any of your estate assets outright as your trust so dictates? What if your daughter the cardiologist hits the $100 million lottery and does not need (or want) the money forced on her from your estate? Might it be better to spread that wealth among your other children? What if future income tax or estate tax laws change multiple times, perhaps after you die, and your estate trust(s) cannot adjust to those new tax realities? What if your attorney made a drafting mistake in creating your irrevocable trust, an error for which your children and grandchildren will someday pay the unforgivable price? What if your trustee cannot be trusted and needs to be changed?

Without an “oops” provision in your documents, inequities like these can be problematic at best, destructive at worst. In other words, if such irregularities occur within your irrevocable trust — or in your revocable trust that becomes irrevocable at your death — is your estate plan doomed to failure? Maybe, maybe not.

Some estate trusts permit minor flexibility but not so much as to impose detrimental tax results on the assets within the trust. Sadly, many older trusts are carved in stone with little opportunity to be modified to conform to federal, state or local tax law changes, to trustee or beneficiary modifications, or even to appoint trust assets (in your trust) to another trust established by you. When was the last time you took out your estate documents to check? If never, now may be as good a time as any.

Build flexibility into your planning

What can be done to build flexibility into your estate planning and its documents when the Murphy’s law of inevitability makes certain provisions of your documents outdated or unworkable? Many estate attorneys now recommend the use of a trust protector to help mitigate the problems that can occur when changes to an irrevocable document need to be made. In my book, The Physician’s Guide to Avoiding Financial Blunders (published by SLACK Incorporated, the publisher of Ocular Surgery News), I introduce this fairly recent concept of trust protector.

A trust protector is inserted into estate documents such as irrevocable trusts or even revocable trusts (remember that these become irrevocable at your death) to monitor the trust, the trustee, the beneficiaries, and federal, state and local tax laws to make sure your intentions as the grantor of your trust are being carried out as planned by you. The trust protector is usually someone you know and trust implicitly, is someone independent of both the trustee and the trust beneficiaries, and someone who in no way can benefit from the assets, income or other economics of the trust.

For instance, you can empower the trust protector to carry out the actions outlined in the Table. These actions may enable your trust to remain effective and vibrant for as long as the trust exists, even if that spans several generations.

Because the concept of trust protector is relatively new in domestic trusts (it has been present in foreign trusts for a while), its use is not yet widespread, but it is increasing. So, because you should be looking at your estate documents now in light of the latest changes in the estate tax laws, ask your attorney if you should add such a provision to any new documents he or she may draft for you. You cannot add a trust protector to existing documents without serious difficulties, so think in terms of new documents only.

Finally, change is inevitable, especially in tax and state law.

Adding a trust protector to your plans may overcome that deficiency. It would permit necessary changes to be made in your irrevocable estate documents during your lifetime or after you have passed through the pearly gates so as to fully carry out your legacy wishes. Then, having added this to your estate plans, unlike Bill Cosby’s “oops” patient, you can go back to reading your favorite sports or feature page.

• Ken Rudzinski, CFP, CLU, ChFC, CRPC, CASL, CAP, a partner in the financial planning firm Heritage Financial Consultants, LLC, is a registered representative and investment advisor representative with Lincoln Financial Advisors Corp., a broker/dealer (member SIPC) and registered investment advisor. He can be reached at 2036 Foulk Road, Suite 104, Wilmington, DE 19810; 302-529-1320; email: kenneth.rudzinski@lfg.com. Mr. Rudzinski offers insurance through Lincoln affiliates and other companies. This information should not be construed as legal or tax advice. You may want to consult a legal or tax advisor regarding this material as it relates to your personal circumstances. CRN201101-2050276