Morrison & Foerster LLP: Dynasty Trusts: The Perpetuities Patchwork and Other Considerations
- 12-03-2012
10:44
AM - Author:
By Genevieve M. Moore, Morrison Foerster LLP
As the year winds down, many of our
clients are taking advantage of the unprecedented opportunity to make gifts of
up to $5,120,000, per donor, free of any federal gift tax. Since the federal generation-skipping
transfer tax (GST) exemption is also $5,120,000, many of these gifts are being
made to generation-skipping trusts.
Generation-skipping trusts (often
called “dynasty trusts”), if properly drafted and efficiently funded and
administered, can successfully avoid the payment of estate taxes in the estates
of the trust beneficiaries for as long as is allowed under the trust’s
governing law.1 State laws vary on how long a trust may
exist. Under the common law rule against
perpetuities, trust interests generally must vest no later than 21 years after
the death of some ‘life in being’ who was living when the trust became
irrevocable. This would give most trusts
– very roughly – an outside limit of about 100 years.
Under the
common law rule, if it is possible that a trust may not vest within the
perpetuities period, the trust is invalid from its inception; actual events
that occur after the creation of the trust are ignored. To address this harsh result, the common law
rule has been made more flexible in various states by the adoption of a
wait-and-see approach. The wait-and-see
approach was initially set forth in a Uniform Statutory Rule Against
Perpetuities enacted in 1986, essentially allowing a trust to continue in
existence until it became clear that the required interests would (or would
not) vest within the applicable perpetuities period. The Uniform Rule also added an alternate
perpetuities period of 90 years, as well as other minor but helpful features.
The Uniform
Rule has been adopted to some degree in about half of the 50 states. For example, some states incorporated the
wait-and-see approach; others use the alternate 90-year rule. Many have added their own gloss in the form
of exceptions or specific additional rules.
Other states
have extended their perpetuities period to as much as 500 year or 1000 years
for certain types of trusts and trust property.
Even other states have even eliminated the rule against perpetuities. This may be a blanket elimination as to all
trusts, or may apply only as to certain types of trust interests, or certain
types of property, or certain powers.
With this
patchwork of state perpetuities provisions, it is important to consider what
rules will apply to a client’s dynasty-type trusts. Naturally this will start with a review of
the law of the client’s home state, if the trust is to be formed under the
governing law of that jurisdiction. Often
the effort will start and end there, as most clients form trusts using the law
of their own jurisdiction.
However, for
clients who may have the appropriate option of forming their trust under the
law of another state, it will be even more important to review and understand
the specific perpetuities provisions that will apply to the new trust. This can be a particular issue for dynasty
trusts, which your client may wish to form in a jurisdiction with no rule
against perpetuities, with the goal of creating a perpetual trust. In these cases it will be necessary to have
the trust drafted or reviewed by an attorney who is admitted to practice in
that other state, and who is experienced in trust law, including the
perpetuities rules. That attorney can
also advise on any local law requirements for resident trustees; the long-term
costs and other implications of having a resident (often corporate) trustee
should be fully explored. Keep in mind
that the courts of that state will become the forum for trust legal action,
which may or may not be convenient for the trust beneficiaries. Also, the income tax consequences of using an
out-of-state trust should be fully analyzed prior to the formation of the
trust.
One final set of questions to
explore with any dynasty trust are the real-life implications of a trust that
can last for generations. If the trust
is successful, from a tax and investment standpoint, it will be amassing wealth
over successive generations, ultimately benefitting descendants the client will
never know, instead of known children and grandchildren. Also, in most cases these beneficiaries will
be tied together through the trust – possibly at a generational level so
removed from the grantor that the beneficiaries do not know each other or share
common interests as to trust management.
In many cases a perpetual trust can end up supporting not only its
beneficiaries, but also its corporate trustees, tax advisers, and attorneys for
as long as it exists.
Dynasty trusts can be useful tools
in many situations. However, given the
fact that they are irrevocable, and may last for nearly a century (if not
longer), it is critically important to give thoughtful consideration to
perpetuities issues and other issues such as the ones described above before
establishing them and transferring significant wealth to them.
1. Barring
any imposition of a federal perpetuities period.
Morrison Foerster’s Trusts and Estates group provides sophisticated planning and administration services to a broad variety of clients. If you would like additional information or assistance, please contact Patrick McCabe at (415) 268-6926 or PMcCabe@mofo.com.
© Copyright 2012 Morrison Foerster LLP. This article is published with permission of Morrison Foerster LLP. Further duplication without the permission of Morrison Foerster LLP is prohibited. All rights reserved. The views expressed in this article are those of the authors only, are intended to be general in nature, and are not attributable to Morrison Foerster LLP or any of its clients. The information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.
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