How does it work?

Sale to Intentionally Defective Trust

The main purpose of this strategy is to remove future growth in the business from your taxable estate. An “intentionally defective” irrevocable trust (“IDIT”) is designed to be “effective” (that is, outside your estate) for estate tax purposes but “defective” (all income of the trust is taxable to you personally) for income tax purposes.

  • You sell business assets to an IDIT, in exchange for a promissory note from the trust.
  • The trust receives cash flow from business.
  • The trust uses cash flow from the business to make note payments to you.
  • There is no capital gain to you.
  • All of the trust income is taxed to you (whether you receive it or not).
  • Your taxable estate decreases as taxes on the trust income are paid. The assets in the trust grow as the business grows, but the trust assets are not included in your taxable estate.
  • Eventually, assets are distributed to beneficiaries under the terms of the trust.

What else should you consider?

  • Why should anyone want to pay taxes on income they do not actually receive?
    Basically, because you are reducing your taxable estate by paying taxes yourself while allowing transferred assets to grow inside the trust.
  • Usually, a “seed” gift is made to the trust, prior to the business sale/purchase. This gift is made so that the trust has some initial capital to support the leveraged purchase of the business.
  • In some cases, you may be able to sell minority business interests to the trust at discounted valuations; recently proposed regulations may limit these discounts.
  • However, a “bargain sale” could have possible gift tax consequences. You must sell at fair market value, and use market interest rates, in order to avoid gift tax consequences.
  • It is essential to work with qualified valuation professionals.

How is this strategy implemented?

  • This is an advanced strategy. Work closely with your attorney and CPA and be sure you understand all of the income tax, gift tax and estate tax implications.
  • Work with your SPA and other qualified professionals to value your business.
  • Your attorney can prepare necessary documentation for trust, sale, etc.
  • Your Wells Fargo Advisors financial advisor may be able to offer personal financial planning services* through an approved Wells Fargo Advisors program. Such a plan may help you evaluate the impact that note payments and tax obligations will have on your overall financial picture. Talk to your Financial Advisor for more information.

*Financial planning services offered through our High Net Worth Planning team for those with a minimum $5 million net worth

Trust services available through banking and trust affiliates in addition to non-affiliated companies of Wells Fargo Advisors.

Wells Fargo Advisors is not engaged in rendering legal, accounting or tax-preparation services. Specific questions, as they relate to your situation, should be directed to your legal and tax advisors.

Wells Fargo Advisors is a trade name used by Wells Fargo Clearing Services, LLC and Wells Fargo Advisors Financial Network, LLC, Members SIPC, separate registered broker-dealers and non-bank affiliates of Wells Fargo & Company.

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Moran Wealth Management and Wells Fargo Advisors Financial Network are not a legal or tax advisor. However, we will be glad to work with you, your accountant, tax advisor and or attorney to help you meet your financial goals.