Couples interested in estate planning often have questions regarding the use of revocable trusts (see our blog post on this topic here) and, if they decide on trusts, whether they need a “joint trust.” A joint revocable trust is one trust created by a married couple to hold their combined assets with terms in the trust that outline what happens: (1) during the lives of both spouses, (2) when the first spouse dies, and (3) after both spouses die.

As many married couples share assets during life, the concept of a joint trust can sound appealing and even “simple” when first compared against each spouse having their own separate trust. However, couples in North Carolina and South Carolina should be very careful when considering utilizing a joint trust structure as this “simple” concept can create significant problems for surviving spouses and further heirs (such as children) due to the application of state law and federal tax law when administering the terms of a joint trust.

Joint Trusts under North Carolina and South Carolina Law:

In the United States, state law governs which assets owned by spouses are considered to be marital property.  North Carolina and South Carolina are both “common law” or “separate property” states.  This means that property is considered separate if it is acquired by or titled to only one spouse, such as property received by gift or inheritance or which was owned prior to marriage. When one spouse passes away in a separate property state, their separate property is distributed according to their will or the state's laws of intestacy (when there is no will). This is a different legal regime than community property states (such as Texas or California, for example) which focus on both spouses equally owning – and thus equal division of - assets acquired during the marriage, regardless of titling.   

In general, separate trusts for spouses are preferred by estate planners in separate property states and joint trusts for spouses are preferred by estate planners in community property states. A few reasons for this preference are as follows:

• Separate trusts cleanly keep separate assets separate, both at death and in the event of divorce. This is often important for spouses that may have assets that they have kept separately titled before and/or throughout their marriage or for assets they may inherit in the future.
• Separate trusts ensure that the wishes of the first spouse to die are followed and not altered (e.g. in the event the surviving spouse remarries), because the trust becomes irrevocable at death.
• From a debt and liability perspective, commingled assets in a joint trust could become endangered by potential debts or liabilities of just one spouse.

Joint Trusts and the Federal Estate Tax Exemption: 

Federal Estate Taxes – Quick Review: Every individual United States citizen has a federal exemption credit available for gifts/transfers of assets made during life or after death that are above the annual gift exemption amount. Any asset transfers made over the federal exemption amount either during life or at death (to non-spouse beneficiaries) are subject to a federal tax, currently set at 40%.

Joint trusts can sometimes cause unintended federal estate tax consequences which may otherwise be avoided by using separate trusts, especially for residents living in separate property states. One example of an “unintended consequence” of using joint trusts relates to calculating an individual's federal exemption at death, as further described below:

• When assets are mingled in a joint trust, there is a risk of confusion as to the value of assets that “belonged” to the deceased spouse and could therefore be calculated for the use of their federal exemption. This can result in a greater risk for a higher estate tax burden for the beneficiaries named in the trust after the second spouse's death. This problem is compounded if, at death, the decedent was a resident of a state which imposes an estate tax (North and South Carolina currently do NOT impose estate taxes).
• When assets are held in separate trusts (one for each spouse) during life, there is a much clearer demarcation as to what each spouse owned at death for estate tax exemption calculations. This may ultimately allow for a greater amount of wealth to be passed to beneficiaries after the second spouse's death, free of an estate tax.

Our attorneys are well versed in helping clients evaluate the best estate planning techniques for accomplishing their goals.  Please contact our office to start the process of determining the most appropriate estate plan structure for you and your loved ones.