Would you like to help protect your family’s financial future without crossing any tax lines?
While we all have to pay our fair share of taxes, the IRS actually provides numerous legitimate strategies to reduce your tax burden throughout your lifetime and beyond. The key is understanding and using these IRS-approved methods effectively. After all, why pay more than necessary when the rules are often laid out in your favor?
One powerful tool that often flies under the radar is the Spousal Lifetime Access Trust (SLAT).
What Is a SLAT?
A SLAT is an irrevocable trust where one spouse (the grantor) transfers assets to benefit the other spouse (the beneficiary) while removing those assets from the grantor’s estate. However, unlike most irrevocable trusts, where you lose all access to the assets, your spouse can still receive distributions, indirectly preserving family access to the funds.
Wait, what? Yes, you read that correctly. You can still indirectly benefit from your own trust fund if you carefully follow IRS regulations. However, it does come with a snag—which, upon closer inspection, can actually be yet another hidden benefit of the SLAT.
How a SLAT Works
The tax treatment of SLATs is one of those areas where the IRS gives us some interesting advantages, but it’s also where people often get confused. Let’s look at a fictional example.
John and Sarah have a combined estate worth $20 million. John creates a SLAT and funds it with $1 million in assets. Here’s what happens:
Initial Funding
Assets transferred to SLAT: $1,000,000 in stocks
Investment Growth
Stocks generate $100,000 in dividends and capital gains
Tax Management
Personal payment of $20,000 in taxes from outside the trust
Trust Growth
Trust value increases to $1,100,000 (full growth retained)
Estate Tax Benefit
Additional $25,000 moved out of taxable estate
Family Access
Spouse can receive distributions per trust terms, with children as remainder beneficiaries
Yes, the grantor (the spouse who creates and funds the trust) pays the income taxes on the trust’s earnings.
But here’s why this can actually be a savvy estate planning move:
When you pay the tax bill on the trust’s income, you’re essentially making additional tax-free gifts to the trust beneficiaries. Every dollar of tax you pay is a dollar that doesn’t reduce the trust’s value. This tax treatment can let the trust assets potentially grow faster because they aren’t being depleted by tax payments. This “grantor trust” tax treatment is actually one of the most powerful features of SLATs, even though it might seem counterintuitive at first. Just make sure you keep enough assets outside the trust to handle these tax obligations.
Managing SLAT Distributions: Rules and Risks
When the beneficiary spouse receives distributions from the SLAT, those funds may end up being used by both spouses. However, you have to be very careful how you set up distributions.
Distributions must be made to the beneficiary spouse only (not to a joint account). Once distributed, how the beneficiary spouse uses those funds is their choice. The grantor spouse cannot have any legal right to demand or direct the use of distributed funds. In certain cases, the beneficiary spouse may also dip into the principal if the trust allows it.
Informal sharing of distributed funds between spouses happens but cannot be required, guaranteed, or even implied. This is where things get tricky. If the IRS can prove there was an implied agreement that the grantor would continue having access to the funds, they might challenge the entire trust structure. The key is maintaining clear boundaries between trust distributions and personal finances.
Potential SLAT Complications
…until death do us part. If you’re married, you may have uttered these words while getting married. Unfortunately, the reality is that not all marriages last, and a divorce can lead to the grantor losing indirect access to the trust assets through the beneficiary spouse.
Additionally, if the beneficiary spouse dies first, the grantor loses access to the trust assets. You can’t simply name yourself as the new beneficiary.
Be extra careful regarding Dual SLATs. The reciprocal trust doctrine states that when couples create nearly identical trusts for each other, the IRS may treat them as a single entity, effectively nullifying their intended tax benefits. For example, if John and Sarah each set up SLATs with identical terms, the IRS might collapse the trusts, leading to unexpected estate taxes.
When a SLAT Makes Sense (And When It Doesn't)
Practical Implementation Steps
Let’s walk through what actually needs to happen to set up your SLAT.
The first major decision is picking the right assets to transfer. Cash may not be the best choice – instead, you may want to consider assets with high growth potential.
Then, you’ll want to choose a professional trustee who will reliably manage the assets and execute the terms of the trust without running afoul of the IRS or nullifying credit and tax protections. Plus, this person will be controlling distributions to your spouse, so it’s not a role to assign lightly.
As for trust distributions, you might want to implement language such as ‘health, education, maintenance, and support’ (the HEMS standard), which should give the trustee the flexibility necessary to provide distributions often enough and within reason based on previous spending patterns.
In Conclusion
Like any trust strategy, a SLAT requires careful preparation to get right, and you’ll need specialized legal expertise. Beyond the technical details, you’ll also want to think hard about your family’s dynamics. A SLAT has to work in real life, not just on paper.
Looking ahead matters, but so does having the right guidance. We’re here to look closely at your situation – beyond just the numbers – to see if a SLAT or any other trust makes practical sense for your retirement plan, family situation, or business strategy. Ready to have a conversation about your estate planning options? Click below to connect.
