New Tennessee Trusts MAP Route to Better Estate Planning for Married Clients

Tennessee’s new marital asset protection trusts might be the perfect way for a married couple to spice up their estate planning and to renew their vows to plan well.
TBE, or not TBE, that is the question

Tennessee law allows a married couple to own assets in “tenancy by the entirety” or as “tenants by the entirety” (TBE). A fundamental characteristic of TBE ownership is that neither spouse may unilaterally sever the tenancy. A corollary is that a creditor of one spouse may not do what the debtor may not do: the creditor may not sever the TBE to reach the interest of the debtor-spouse.[1] Thus, married couples have an asset protection incentive to own assets as TBE.

TBE, however, has a glaring limitation as an asset protection tool: when one spouse dies, the property is no longer owned in TBE and no longer protected from creditors of the surviving spouse. (Creditors of the deceased spouse, however, have lost the order-of-death lottery.) Where one spouse is perceived to have greater creditor exposure than the other spouse, titling assets solely to the “safe” spouse is sometimes preferable to TBE, in case the “at risk” spouse dies first.

In addition to the asset protection limitations of TBE, TBE also has been incompatible with other estate planning goals. Avoiding probate (in the state of residence and in states where additional real estate is located) at the second of the spouses’ deaths sometimes involves funding revocable trusts during lifetime. Spouses in second marriages often want to maintain separate ownership of assets and separate estate plans, with some assets not passing to the surviving spouse at the first death. Federal transfer tax planning for very wealthy couples has called for separating ownership in order to fund trusts at the first of the spouses’ deaths. All these alternatives have required forfeiting the asset protection that TBE ownership offers while both spouses are living.

Marital Asset Protection (MAP) trusts are an intriguing new planning option for married couples

Section 6 of Public Chapter Number 829 (2014) creates a new section in the Creditor’s Claims portion of the Tennessee Trust Code (Title 35, Chapter 15, Part 5), providing that “[a]ny property of a husband and wife … conveyed [beginning July 1, 2014] as tenants by the entirety to the trustee or trustees of one (1) or more trusts … shall have the same immunity from the claims of their separate creditors as would exist if the husband and wife had continued to hold the property or its proceeds as tenants by the entirety.”[2] There are five requirements for the protection to be available: (1) the spouses remain married; (2) the property or its proceeds remain in the trust(s); (3) the trust(s) is (are), while both settlors are living, revocable by either settlor or both settlors acting together; (4) both spouses are permissible current beneficiaries of the trust(s) while living; and (5) the trust instrument, deed or other instrument of conveyance provides that this section applies to the property or its proceeds.[3]

Note a few interesting characteristics of these MAP trusts.[4] The property must be conveyed as TBE property, not from one spouse separately. The property may be transferred to one spouse’s revocable trust, a joint revocable trust or separate his-and-her revocable trusts. While both spouses must be permissible beneficiaries of the trust(s), only one spouse need possess the power to revoke. Neither spouse need be a trustee of the trust(s). Immunity can be waived voluntarily (for example, to pledge assets for a loan) or involuntarily (by failure to disclose properly the application of the section).[5] Last, transfer of TBE property to a MAP trust has no effect on the division of the property if the couple divorces.[6]

Asset protection even after death do us part

TBE ownership protects assets from separate creditors of one spouse while both spouses are living and from the deceased spouse’s separate creditors after the first death. MAP trusts match those results and go one better. After the first spouse’s death, separate creditors of the surviving spouse may reach MAP trust assets only to the extent that the surviving spouse remains a beneficiary of the trust and possesses a non-fiduciary power to vest title to property in himself/herself individually.[7] Even if the surviving spouse is the sole trustee, if he or she does not have the unilateral right in his or her individual capacity to force distribution of the property to himself/herself, the trust property will continue to be protected from the survivor’s creditors. Thus, married couples should consider transferring TBE property to MAP trusts if for no other reason than to strengthen asset protection.

Married couples now can resolve previously irreconcilable differences

MAP trusts allow married couples to facilitate other estate planning goals without sacrificing asset protection. Does a married couple want to transfer assets to one or two revocable trusts to ensure there will be no probate at either of their deaths? Would they like to separate ownership of assets between them to facilitate estate tax planning? Do they already own assets separately and wish to maintain separate estate plans? Now couples can do any and all of these things while enjoying TBE-plus creditor protection.[8]

No incest: A MAP trust cannot be married to a Community Property Trust

In the never-ending search for the perfect trust (one trust to rule them all), estate planners naturally will wonder whether a trust can be both a MAP trust and a Tennessee (elective) Community Property Trust (CPT), providing creditor protection from the spouses’ separate creditors and a full step-up in income tax basis at the first spouse’s death.[9] Apparently not. Tenn. Code Ann. section 35-17-106(a) specifically provides that the separate creditors of one spouse may reach that spouse’s one-half interest in CPT assets, a result inconsistent with the rules for MAP Trusts. Married couples must choose between MAP trust treatment and elective CPT treatment.

What about couples who migrate to Tennessee from a community property jurisdiction owning community property? Generally, community property and the proceeds from sale of community property retain community property character. May a couple contribute community property to a MAP trust while retaining community property treatment for federal income tax purposes? Maybe. Transfer of the property to a TBE, required prior to creating a MAP trust, is generally considered inconsistent with community property treatment because of the associated right of survivorship. However, some state statutes allow joint ownership (with right of survivorship) of community property. Clients moving to Tennessee from those states might be able to marry community property and TBE benefits.

Conclusion

Married couples in Tennessee have an exciting new tool to help them fulfill their commitment to take care of each other, instead of their creditors, and to marry estate planning goals.

Notes

  1. See Avenell v. Gibson, 2005 WL 458733 (Tenn. Ct. App., 2005) (unpublished opinion). Avenell holds that Tenn. Code Ann. § 45-2-703(a), providing that a creditor of one spouse may levy upon a bank account owned by spouses, does not change the rule that accounts held in tenancy by the entirety are protected against the claims of a creditor of one spouse. “In Tennessee it is also established that a tenant by the entirety has an interest that his or her creditors can levy on and sell for satisfaction of their debts. But that interest is only a right of survivorship.” In re Garretson, 6 B.R. 127, 131 (Bkrtcy. Tenn., 1980), citing In re Templeton, 1 B.R. 245 (Bkrtcy. E.D.Tenn., 1979). TBE ownership offers no protection from a creditor of both spouses.
  2. Publ. Ch. No. 829, § 6(b).
  3. Id.
  4. Practitioners will be tempted to refer to the new trusts as “tenancy by the entirety trusts.” However, property transferred to the trust is no longer TBE property and failure to remember that could cause confusion and legal missteps. The trustee(s) of the trust(s) (who might or might not be one or both spouses) own the property, not the spouses. The trust(s) determine(s) what happens to the property while both spouses are living and as each dies; there is no right of survivorship. The property is formerly TBE property. Although “The Artist Formerly Known as Prince” might approve, that does not lend itself to a catchy and accurate name. I vote for marital asset protection (MAP) trusts.
  5. Publ. Ch. No. 829, § 6(d)-(e).
  6. Publ. Ch. No. 829, § 6(h).
  7. The general rule of exemption of MAP trust assets under Section 6(b) governs except to the extent that this exemption applies.
  8. Separately owned assets must first be transferred to the spouses as TBE.
  9. Tennessee Community Property Trust Act of 2010, codified as Tenn. Code Ann. §§ 35-17-101 et seq. See Dan W. Holbrook, “Community Property Trusts,” Tenn. Bar J., December 2010, at page 26.

Eddy Smith EDDY R. SMITH practices trust and estate law with Holbrook Peterson Smith PLLC in Knoxville. He is a fellow of the American College of Trust and Estate Counsel and past chair of the Tennessee Bar Association Estate Planning and Probate Section. He can be reached at edsmith@hpestatelaw.com.