What is a Bypass Trust?

Malcolm Tatum

The bypass trust is often part of the overall strategy that is employed with arranging for the orderly transfer of properties and assets in the event of death. Generally, a bypass trust is arranged to allow this transfer from a parent to a child or in some cases from one spouse to another. There are several typical provisions that are included in this type of irrevocable trust that help to ensure that the intentions of the deceased are carried out properly. Essentially, bypass trusts help to ensure that the estate is arranged so that the estate taxes are kept within reason, and that the assets of the estate are used in a manner that is within the terms outlined by the deceased.

In the event of death, a bypass trust works to establish a set of conditions that will provide for loved ones over the long term.
In the event of death, a bypass trust works to establish a set of conditions that will provide for loved ones over the long term.

A bypass trust normally works to establish a set of conditions that will provide for loved ones over the long term. To this end, there are usually provisions that control the amount of withdrawals from the trust over time, as well as protecting the assets within the trust in the event that the beneficiary of the trust should choose to marry or experience a specified range of financial events. Essentially, these types of provisions protect the beneficiary from losing the financial security that was apparently the original intention of creating the bypass trust.

Typically, irrevocable trusts of this nature will also stipulate the type of withdrawals that can be made from the bypass trust, subject to the approval of the executor of the trust arrangement. This may include the ability to withdraw assets that can be used for continuing education, medical emergencies, or the purpose of a home. Often, the bypass trust will also include provisions for some sort of monthly or annual living allowance, with the understanding that the amount may be adjusted to allow for changes in the economy.

Along with stipulations involving specific purposes, many trusts of this nature will allow a limited amount of funds to be withdrawn annually for any situations that are not specifically addressed in the trust agreement. In some cases, this may be a fixed amount of the principle value of the trust, or this discretionary amount may be based on the amount of interest income generated in the previous calendar year by the estate.

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Discussion Comments


I have a living trust that provides my married childless daughter as one of the beneficiaries when I die. I want these assets to be available to her while she lives and any remainder be passed on to her nephews. How can this be done without losing control of the assets while I'm alive?


It is always a good idea to check each year for any changes to federal laws regarding all sorts of trusts. However, I believe the current structure does not include incurring a tax liability on funds from trusts unless the funds are actually received by the beneficiary. To be sure this is still currently the case, check with a tax accountant.


Is there any tax consequence (i.e., estate, deductibility of income on annual Fed. tax return) if the income from the trust is not withdrawn each year? The will that set up the bypass trust says income may be withdrawn each quarter, however, the beneficiary does not need or want the cash. The beneficiary does pay state tax on the income.

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