The SLAT Series, Part II: Income Tax Status

Determining the grantor trust status of a SLAT

This is the second part of the series on SLATs, and another installment of “Everything You Ever Wanted to Know About Trusts.” 

This material has a difficulty level of 7 out of 10.

For the prior article on SLATs, click here. 

For a series index, click here.

Table of Contents

1. Introduction

2. Is the SLAT a 100% Grantor Trust?

3. Does Grantor Trust Status Extend to a Spousal Beneficiary?

4. Informed Consent of Grantor Trust Status

5. End of Grantor Trust Status

6. Summary and Conclusion

Introduction

A spousal lifetime access trust, or SLAT, is usually a grantor trust. 

Now, if you thought you can just stop there, you are mistaken.  There are tons of nuances to the grantor trust status of SLATs, some of which are specific to the types of assets funding a SLAT.  For example, if a SLAT owns S corporation stock, grantor trust status can be helpful.  But, what happens at the death or divorce of the spousal beneficiary?  Also, if a SLAT owns qualified small business stock (QSBS) under Code Section 1202, could grantor trust status deny a gain exclusion that could otherwise be leveraged through a conversion to non-grantor trust (if possible)? 

We will spend two articles discussing the grantor trust nuances of a SLAT, which will then spill over into subsequent articles on funding considerations.  In this article, we will discuss some of the drafting, disclosure, and structural issues to consider on formation of the SLAT.  In the next article, we will discuss some downstream issues with grantor trust status which are unique to the SLAT. 

Is the SLAT a 100% Grantor Trust?

When it comes to grantor trust status, it is possible that a variety of powers can apply to cause a trust to be a grantor trust whether it is revocable or irrevocable. 

But, determination of these various grantor trust “strings” is just one issue.  The other issue is whether they apply to cause the grantor to be treated as income tax owner of all SLAT income and principal.  Many planning and funding strategies, such as a sale to a grantor trust for a promissory note, holding of S corporation stock, or holding of QSBS stock, requires a trust to be all-in or all-out on grantor trust status.  As noted in the television series Breaking Bad, no half measures should be taken (see Season 3, Episode 12).