What Is an Inter Vivos QTIP Trust?

An inter vivos Qualified Terminable Interest Property (QTIP) trust is an estate planning instrument established by an individual, the grantor, during their lifetime. Its primary purpose is to provide financial support for a surviving spouse while ensuring the grantor retains control over the final distribution of the assets. This structure is common in blended families, where a grantor may wish to provide for their current spouse but wants to guarantee that the assets will eventually pass to children from a previous marriage.

By creating the trust while alive—the meaning of “inter vivos”—the grantor can structure a future where their spouse receives income from the trust’s assets. The principal of the trust is preserved for other designated individuals, called remainder beneficiaries. This mechanism provides security for a spouse without giving them the power to decide who will inherit the assets upon their own death.

Core Components and Requirements of a QTIP Trust

A QTIP trust operates with four distinct parties, each with a defined role.

• The Grantor is the individual who creates and funds the trust with their personal assets.
• The Trustee, who can be an individual or a financial institution, is responsible for managing the trust’s assets and making distributions according to the trust’s terms.
• The Income Beneficiary is the grantor’s spouse, who has the right to receive income from the trust.
• The Remainder Beneficiaries are the individuals or entities designated by the grantor to receive the trust’s principal after the income beneficiary spouse passes away.

For a trust to legally qualify for the tax benefits associated with a QTIP structure, it must adhere to strict requirements. The surviving spouse must be entitled to all income generated by the trust’s assets, paid out at least annually for the duration of their life. The spouse must also have the power to compel the trustee to convert any non-income-producing property into assets that generate income.

Another condition is that no one, not even the beneficiary spouse, can have the power to direct any portion of the trust’s principal to any person other than the surviving spouse during that spouse’s lifetime. This provision protects the grantor’s wishes for the assets by safeguarding the principal for the designated remainder beneficiaries.

The final requirement is that the grantor must make a formal and irrevocable QTIP election. This is a declaration made on a federal gift tax return that signals the grantor’s intent for the trust to be treated as a QTIP trust under tax law. Once made, the decision cannot be reversed.

Gift and Estate Tax Treatment

A significant advantage of an inter vivos QTIP trust is its treatment for federal gift tax purposes. When a grantor transfers assets into the trust, the transfer can qualify for the unlimited gift tax marital deduction. This means the grantor does not have to pay any gift tax on the assets placed in the trust, regardless of their value, because the transfer is for the benefit of their spouse.

The key to this benefit is the formal QTIP election made on the grantor’s federal gift tax return. By making this election, the grantor designates the assets as qualified terminable interest property. This allows an otherwise taxable gift to qualify for the marital deduction.

This leads to a critical consequence: the value of the QTIP trust assets is included in the surviving spouse’s gross estate upon their death. The assets are taxed as if the surviving spouse owned them outright, and the estate tax, if any, is paid from the trust’s assets before the remainder is distributed to the final beneficiaries.

The Generation-Skipping Transfer (GST) tax may also come into play if the remainder beneficiaries are “skip persons,” such as grandchildren. To manage this, a grantor can make a “reverse QTIP election.” This special election allows the original grantor, rather than the surviving spouse, to be treated as the transferor for GST tax purposes, enabling the use of the grantor’s own GST exemption to shield the assets from this tax.

Establishing and Funding the Trust

The process of establishing an inter vivos QTIP trust begins with several foundational decisions. The grantor must select a trustee to manage the trust and clearly identify the remainder beneficiaries who will inherit the assets after the spouse’s death. The grantor must also determine which specific assets, such as cash, securities, or real estate, will be used to fund the trust.

With these decisions made, the next step is the legal creation of the trust. This requires working with an experienced estate planning attorney to draft the formal trust document. This legal instrument will detail all the terms of the trust, including the mandatory income provisions for the spouse, the powers of the trustee, and the identity of the remainder beneficiaries.

After the document is signed, the trust must be “funded.” This is the process of retitling the selected assets from the grantor’s name into the name of the trust, which officially transfers ownership.

The final procedural step is making the formal QTIP election with the IRS. The grantor must file a federal gift tax return for the calendar year in which the trust was funded. On this return, the grantor will list the property transferred and formally elect to treat it as qualified terminable interest property to secure the gift tax marital deduction.

Trust Operation and Distribution Timeline

Once the inter vivos QTIP trust is established and funded, it enters its operational phase. The trustee’s primary duties are to invest the principal prudently to generate income and to distribute all of that net income to the beneficiary spouse in accordance with the trust’s terms. During this period, the grantor has no further control over the assets, as the trust is irrevocable.

Upon the death of the grantor, the trust continues to function without interruption for the benefit of the surviving spouse. The terms of the irrevocable trust remain in full effect, ensuring the seamless management of assets and the uninterrupted flow of income to the surviving spouse for the remainder of their life.

The final phase of the trust’s lifecycle is triggered by the death of the surviving spouse, at which point the trust terminates. The trustee then undertakes the final administrative tasks, which begin with settling any estate tax liability that arises from the inclusion of the trust’s assets in the surviving spouse’s estate.

After all taxes and final expenses have been paid from the trust’s principal, the trustee’s last duty is to distribute the remaining assets. The assets are transferred to the remainder beneficiaries who were named by the grantor in the original trust document, completing the grantor’s plan.