Use of dynasty trusts in estate tax and business succession planning

Having your cake and eating it too

by Lydia A. Caylor, Esq. and Christopher A. Kuhnhein, Esq., Cors & Bassett, LLC

For many small and family-owned business owners, the term “estate planning” is limited to the tax-efficient transition of wealth from one generation to another. However, the same tools used to transition wealth can also be used to transition the ownership and operation of the family-owned business itself. Owners may, for instance, want ownership to stay within their family, but operations to be left to seasoned professionals. Savvy estate planners can provide business owners with tools that allow them both to achieve their estate tax planning goals and to transfer business ownership to their descendants while “decoupling” the financial rights of ownership from the controlling rights of ownership.

One such mechanism is a “dynasty” or “perpetual” trust, in which a grantor places shares of the business in trust to benefit his or her heirs for multiple generations. A dynasty trust is irrevocable and has no specified termination date; it continues in effect for as long as assets remain in the trust. Because granting ownership to beneficiaries who may have little experience in the business can be risky, a dynasty trust affords the grantor the ability to appoint a trustee to manage the affairs of the business and maintain continuity of operations. The grantor’s heirs would enjoy the financial benefits of ownership, but the voting of the shares, and therefore the overall management of the business, may be left to professionals. A grantor can require a trustee to maintain a self-perpetuating business advisory council, which could function as a quasi-board of directors, ensuring that the business is run in a competent manner consistent with its founding principles.  

Establishing a dynasty trust requires more consideration than simply drafting and reviewing estate planning documents. The grantor must select a trustee with good business sense who is well connected and motivated to preserve the grantor’s legacy; ideally, someone with experience in the industry. The trustee would have the responsibility to recruit advisory board members who would make wise business decisions and appoint top-notch management on the business’ behalf. Putting together a team like this requires detailed and deliberate planning.

Using a dynasty trust as part of your estate plan provides multiple advantages beyond ensuring the continuity of business operations. A dynasty trust provides asset protection so that trust assets are beyond the reach of the beneficiaries’ creditors and are not subject to property division in divorce. Such protections are invaluable for business owners seeking to preserve family ownership of a business for multiple generations. In addition, a dynasty trust, coupled with appropriate tax planning, prevents trust assets from being included in the taxable estates of both the grantor and the beneficiaries, avoiding a situation in which business assets must be liquidated to satisfy estate tax obligations.

Achieving these tax avoidance goals requires the use of planning devices to lessen or eliminate transfer taxes (estate, gift, and generation-skipping transfer (GST) taxes) both for business owners and their descendants. In 2021, the exclusion amount for lifetime gifts and for taxable estate assets is $11.7 million per individual or $23.4 million per couple. The exemption amount for GST taxes, which is an additional tax upon assets transferred to grandchildren or more remote descendants, is likewise $11.7 million per individual or $23.4 million per couple. In practical terms, married business owners can leverage their and their spouse’s lifetime exclusions to transfer $23.4 million to a dynasty trust benefiting future generations free from estate or gift taxes and can allocate their $23.4 million GST exemption to that transfer so that the assets will not be included in the taxable estates of future beneficiaries. The transferred assets will not be subject to estate, gift, or GST taxes regardless of how much they appreciate in the future; they will be protected from transfer taxes for as long as the dynasty trust remains in existence.

Now is an especially crucial time for business owners with taxable estates to consider planning devices to leverage their current exclusion and exemption amounts. The applicable amounts are scheduled to expire on December 31, 2025, and will revert to their prior levels of $5 million per individual or $10 million per couple, indexed for inflation. Moreover, because transfer taxation is a hot-button political issue, it is possible that the exclusion and exemption amounts will be reduced by legislation within a much shorter timeframe. Transfers made in accordance with the exclusion amounts for the current tax year will remain free from future estate, gift, and GST taxes even if the exclusion amount is later reduced.  

If you are thinking about ways to maximize your estate tax planning and transition the management of your business in a way that separates it from the financial benefits of ownership, now is the time to start formulating a plan with your attorneys and tax advisors.  Time is not on your side with respect to the exclusions and compiling a trusted team to perpetuate the business after you are gone can take a lot of work and deliberation.

This article is for general informational purposes only, is not for the purpose of providing legal advice, and does not establish an attorney-client relationship. You should consult with an attorney to obtain advice as to your particular issue or circumstances.

Cors & Bassett, LLC is a Goering Center Diamond Sponsor, and the Goering Center is sharing this content as part of its monthly newsletter, which features member and sponsor articles.

About the Goering Center for Family & Private Business
Established in 1989, the Goering Center serves more than 400 member companies, making it North America’s largest university-based educational non-profit center for family and private businesses. The Center’s mission is to nurture and educate family and private businesses to drive a vibrant economy. Affiliation with the Carl H. Lindner College of Business at the University of Cincinnati provides access to a vast resource of business programing and expertise. Goering Center members receive real-world insights that enlighten, strengthen and prolong family and private business success. For more information on the Center, participation and membership visit goering.uc.edu.