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Taking Care of Mom and Dad: Trusts for Minors

Gifts to trusts established for minors qualify -- by law -- in whole or part for the annual gift tax exclusion. These trusts are irrevocable, yet permit some control over the timing of wealth transfer to the next generation.

In the so-called Section 2503(c) Trust (the section refers to U.S. tax code), annual income may be accumulated and not paid out -- but the trust must provide that, if necessary, both income and principal can be used for the minor's benefit. When the minor turns 21, he must be given the right to receive all 2503(c) trust assets in an outright distribution. He can, however, elect to allow the trust to continue.

In the related 2503(b) Trust, annual income cannot be accumulated; it must be paid to the beneficiary each year. However, in this case, the principal need not be made available for distribution upon the beneficiary's 21st birthday. Unlike the 2503(c) Trust, the 2503(b) Trust principal is not required to ever be distributed to the income beneficiary; it can go to somebody else.

Since the beneficiary has no immediate (if any) right to the trust principal, the beneficiary's only present interest in the 2503(b) Trust is an income interest, the right to receive annual income payments from trust investments. So, the amount of each gift that qualifies is the present value of the series of income payments that the gift will produce over the years. A financial calculation is necessary.

Both types of 2503 Trust can receive annual gifts, including gifts used by the trustee to pay life insurance premiums. If the insured (or spouse) is the grantor, trust income should not be used to pay premiums -- or the grantor may be considered the owner of the policy for estate tax purposes.

This is an often overlooked point; so, consider using trust principal or yearly gifts to pay premiums.

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