Beneficiary Defective Inheritor’s Trust (BDIT) Case Study

Meet Bill

  • Bill is a 37-year-old entrepreneur.
  • Bill owns a business currently valued at $3M with zero basis that he anticipates will increase in value substantially in the next ten years. At the end of ten years, the business may be worth $20M.
  • Bill is very sensitive to taxes but would still like to benefit from the business.

How can Bill reduce his estate tax burden without giving the assets away, so that he can still benefit from the business?
  • Bill’s attorney drafts a BDIT with a third party named as grantor and Bill named as beneficiary.
  • The third-party grantor gifts $5,000 to the trust which Bill has a right to withdraw. If Bill does not withdraw the gift, and it lapses, Bill becomes the income taxpayer for the trust.
  • Bill can now sell his interest in the business to the trust for a promissory note.
  • Because Bill is the taxpayer for the trust, the sale to the trust does not trigger a capital gains tax. The trust carries over Bill’s basis in the company.
  • The sale to the trust freezes the value inside Bill’s estate to the promissory note and any interest paid on the note.

Players in the BDIT strategy:
  • A third-party is the grantor. Typically, a friend or family member that is willing and able to gift $5,000. Other than the initial gift, the grantor typically has no further role.
  • Bill is the sole beneficiary of the trust and typically retains investment discretion for all investment decisions other than transactions with a business he is a part of or transactions involving life insurance on his life.
  • IconTrust is typically the administrative and distribution trustee to handle the books and records and distributions from the trust. IconTrust usually takes investment discretion in situations where Bill should not have the discretion.
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