9123 / What is a qualified terminable interest property (QTIP) trust and how can QTIP trusts be useful in planning for the blended family?

In many cases, an individual may wish to provide security for a surviving spouse during that spouse’s lifetime, but simultaneously wish to ensure that his or her children are the ultimate trust beneficiaries. In a blended family, this issue becomes even more pronounced because a surviving spouse may have his or her own children from a prior marriage, or may remarry and have additional children after a prior spouse has died. Unlike trusts that grant the poorer spouse a power of appointment over trust assets, a qualified terminable interest property (QTIP) trust provides the surviving spouse with only a lifetime interest in trust assets, helping to ensure that the first-to-die spouse’s wishes are carried out. Unlike the trusts discussed in Q 9124, however, a QTIP trust is irrevocable

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Planning Point: If a substantial age disparity exists between the spouses, a QTIP trust may not be an attractive option, as it requires that the decedent’s children and other heirs wait until the death of a much younger spouse before receiving property that may form the bulk of their inheritance.

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A QTIP trust is a trust that contains qualified terminable interest property. “Qualified terminable interest property” means property (1) which passes from the decedent, (2) in which the surviving spouse has a “qualifying income interest for life,” and (3) as to which the executor makes an irrevocable election on the federal estate tax return to have the marital deduction apply.

The surviving spouse has a “qualifying income interest for life” if (1) the surviving spouse is entitled to all the income from the property, payable annually or at more frequent intervals, and (2) no person has a power to appoint any part of the property to any person other than the surviving spouse unless the power is exercisable only at or after the death of the surviving spouse.¹ The last requirement may be violated even if it is the surviving spouse who is given the lifetime power to appoint to someone other than the surviving spouse.² A QTIP allows a decedent to provide for a surviving spouse, receive the marital deduction, and pass the remainder to beneficiaries the decedent selects in his or her will.

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Planning Point: A QTIP election is irrevocable, so that the property transferred to the QTIP trust will be included in the surviving spouse’s gross estate.

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An executor can elect under IRC Section 2056(b)(7) to treat an individual retirement account and a trust as QTIP if the trustee is the named beneficiary of decedent’s IRA and the surviving spouse can compel the trustee to withdraw from the IRA an amount equal to all the income earned on the IRA assets at least annually and to distribute that amount to the spouse. No person can have a power to appoint any part of the trust property to any person other than the spouse.³

Certain “terminable interests” in property do not qualify for the marital deduction. The purpose of this rule is to ensure inclusion in the surviving spouse’s estate of any property remaining in the estate at his or her death which escaped the initial tax in the predeceased spouse’s estate.

A “terminable interest” in property is an interest which will terminate or fail on the lapse of time or on the occurrence or the failure to occur of some contingency. Life estates, terms for years, annuities, patents, and copyrights are therefore terminable interests.⁴ Some terminable interests are deductible and some are nondeductible under the marital deduction law. In general, a “terminable interest” is nondeductible if (1) another interest in the same property passes (for less than an adequate consideration) from the decedent to someone other than his or her spouse (or that spouse’s estate), and (2) the other person may possess or enjoy any part of the property after the spouse’s interest ends.

See Q 9124 for a discussion of some of the considerations that should be taken into account in deciding whether to create an inter vivos or testamentary QTIP trust.