CEA Family Governance & Wealth Transfer 5 — Questions and Answers
Question 1: The 'reciprocal trust doctrine' is an IRS strategy that can cause two trusts to be included back in the grantors' estates when:
- Both trusts hold the same class of assets
- Spouses create trusts for each other in a way that effectively puts each in the same economic position as before the transfers (Correct answer)
- Trust assets appreciate beyond the IRS hurdle rate
- Both grantors die within three years of creating the trusts
Correct answer: Spouses create trusts for each other in a way that effectively puts each in the same economic position as before the transfers
The reciprocal trust doctrine 'unwinds' crossed trusts when spouses essentially swap benefits, leaving each in the same economic position as if no trust had been created.
Question 2: An 'ethical will' differs from a traditional last will and testament in that it:
- Distributes financial assets to non-family members
- Conveys personal values, life lessons, and wishes for future generations rather than property (Correct answer)
- Must be notarized to be legally binding
- Supersedes a revocable trust upon the grantor's death
Correct answer: Conveys personal values, life lessons, and wishes for future generations rather than property
An ethical will is a personal legacy document that passes wisdom, values, and life stories — it has no legal standing but deep emotional and cultural value.
Question 3: When applying the annual gift tax exclusion in a family limited partnership, the IRS may challenge discounted gifts because:
- Gifts of FLP interests are always subject to GST tax regardless of value
- The IRS may argue the gifts lack a 'present interest' required for the annual exclusion if transfer restrictions apply (Correct answer)
- FLP interests can only be gifted to lineal descendants
- Annual exclusion gifts must be in cash only
Correct answer: The IRS may argue the gifts lack a 'present interest' required for the annual exclusion if transfer restrictions apply
The annual gift tax exclusion requires a gift of a present interest; FLP interests with transfer restrictions may be characterized as future interests, disqualifying them from the exclusion.
Question 4: A trustee's duty of impartiality in a trust with both income and remainder beneficiaries requires the trustee to:
- Favor income beneficiaries since they have current needs
- Balance the competing interests of current income beneficiaries and future remainder beneficiaries in investment and distribution decisions (Correct answer)
- Invest exclusively in income-producing assets
- Follow only the income beneficiary's instructions
Correct answer: Balance the competing interests of current income beneficiaries and future remainder beneficiaries in investment and distribution decisions
The duty of impartiality requires the trustee to neither favor current income beneficiaries nor remainder beneficiaries but to act fairly toward both classes.
Question 5: In a family governance context, a 'rising generation education program' is designed primarily to:
- Minimize income tax on trust distributions to children
- Prepare younger family members to responsibly manage, steward, and eventually lead family wealth and governance (Correct answer)
- Satisfy IRS requirements for family trust distributions
- Replace the need for professional advisors in the family office
Correct answer: Prepare younger family members to responsibly manage, steward, and eventually lead family wealth and governance
Rising generation programs focus on financial literacy, governance skills, and values development to ensure wealth continuity across generations.
Question 6: Which of the following is a key distinction between a revocable living trust and an irrevocable trust from an estate tax perspective?
- Both are included in the grantor's taxable estate at death
- Assets in a revocable trust are included in the taxable estate, while properly structured irrevocable trust assets may not be (Correct answer)
- Irrevocable trusts always avoid probate while revocable trusts do not
- Only revocable trusts can hold life insurance policies
Correct answer: Assets in a revocable trust are included in the taxable estate, while properly structured irrevocable trust assets may not be
A revocable trust is fully included in the grantor's taxable estate because the grantor retains control; an irrevocable trust, if properly structured, removes assets from the taxable estate.
Question 7: The 'prudent investor rule,' which governs trustee investment decisions, requires trustees to:
- Maximize income production regardless of portfolio risk
- Consider risk and return in the context of the entire portfolio, focusing on overall strategy rather than individual investments in isolation (Correct answer)
- Invest at least 60% of trust assets in government securities
- Obtain court approval before making any equity investments
Correct answer: Consider risk and return in the context of the entire portfolio, focusing on overall strategy rather than individual investments in isolation
The prudent investor rule, codified in the Uniform Prudent Investor Act, evaluates investment decisions in the context of the total portfolio strategy and the trust's purposes.
CEA Family Governance & Wealth Transfer 5
The 'reciprocal trust doctrine' is an IRS strategy that can cause two trusts to be included back in the grantors' estates when: