A-B Trust: Definition, How It Works, and Tax Benefits

ByObeydul Haque Reading Time: 7 minutes

The A-B Trust is a powerful estate planning tool commonly used by married couples to maximize tax savings, protect assets, and ensure financial security for their heirs. While it may sound complex, the concept is rooted in practicality and offers a structured way to manage wealth after one or both spouses pass away. In this article, we’ll explore the definition of an A-B Trust, how it functions, and the tax benefits it provides. By the end, you’ll have a clear understanding of why this strategy is a cornerstone of estate planning for many families.

What Is an A-B Trust?

An A-B Trust, also known as a “bypass trust” or “marital and bypass trust,” is a legal arrangement designed to split a married couple’s estate into two distinct trusts upon the death of the first spouse. The “A” trust is typically referred to as the “marital trust,” while the “B” trust is known as the “bypass trust” or “family trust.” This division allows couples to take full advantage of estate tax exemptions, minimize tax liability, and provide for the surviving spouse and other beneficiaries, such as children or grandchildren.

The primary goal of an A-B Trust is to preserve wealth across generations by leveraging the federal estate tax exemption available to each spouse. Without such a plan, a couple’s estate could face significant tax burdens, reducing the inheritance passed on to their heirs. The A-B Trust ensures that both spouses’ exemptions are utilized effectively, rather than letting one exemption go unused.

How Does an A-B Trust Work?

To understand how an A-B Trust operates, let’s break it down step-by-step:

  1. Creation of the Trust: During their lifetime, a married couple establishes a revocable living trust that includes provisions for an A-B Trust. This trust remains revocable—meaning it can be altered or canceled—while both spouses are alive. Upon the death of the first spouse, the trust becomes irrevocable and splits into the A and B components.
  2. Death of the First Spouse: When one spouse passes away, the trust divides into two parts:
    • A Trust (Marital Trust): This portion is designed to provide for the surviving spouse. It typically holds assets that qualify for the unlimited marital deduction, a tax provision that allows one spouse to transfer an unlimited amount of assets to the surviving spouse without incurring federal estate taxes. The surviving spouse has access to the income and, in some cases, the principal of the A Trust during their lifetime.
    • B Trust (Bypass Trust): This portion is funded with assets up to the federal estate tax exemption limit (more on this later). The B Trust “bypasses” the surviving spouse’s estate, meaning it is not included in their taxable estate when they die. Instead, it is held in trust for the benefit of the surviving spouse and, ultimately, other beneficiaries (e.g., children).
  3. Funding the Trusts: The division of assets between the A and B Trusts depends on the couple’s estate plan and the estate tax exemption amount at the time of the first spouse’s death. For example, if the exemption is $13 million, the B Trust might be funded with up to $13 million, while any excess goes into the A Trust.
  4. Management and Distribution: The surviving spouse often serves as the trustee of both trusts, managing the assets according to the terms set by the original trust document. The B Trust typically provides income (and sometimes principal) to the surviving spouse for their lifetime, while preserving the principal for the next generation. After the surviving spouse’s death, the assets in the B Trust pass to the designated beneficiaries (e.g., children), while the A Trust assets are distributed according to the surviving spouse’s estate plan.
  5. Tax Implications: The A Trust takes advantage of the marital deduction, deferring estate taxes until the surviving spouse’s death. The B Trust, however, locks in the first spouse’s estate tax exemption, shielding those assets from taxation in the surviving spouse’s estate.

Key Features of an A-B Trust

  • Flexibility: The terms of the A-B Trust can be customized to meet the couple’s specific needs. For instance, the surviving spouse might have limited access to the B Trust principal to ensure it remains intact for heirs.
  • Control: The couple can specify how and when beneficiaries receive assets, protecting against mismanagement or creditor claims.
  • Tax Efficiency: By splitting the estate, the A-B Trust maximizes the use of both spouses’ estate tax exemptions.

The Role of the Federal Estate Tax Exemption

The federal estate tax exemption is central to the A-B Trust’s effectiveness. As of March 18, 2025, the exemption amount is adjusted annually for inflation, but let’s assume it’s around $13 million per individual (based on recent trends). This means each spouse can pass up to $13 million to their heirs without incurring federal estate taxes. For a couple, that’s a potential $26 million tax-free if properly planned.

Without an A-B Trust, the first spouse’s exemption might go unused. For example, if one spouse dies and leaves everything to the surviving spouse via the marital deduction, the estate avoids taxes at that point. However, when the surviving spouse dies, their estate is taxed, and only their $13 million exemption applies. The A-B Trust prevents this by “locking in” the first spouse’s exemption through the B Trust.

Tax Benefits of an A-B Trust

The A-B Trust offers several tax advantages, making it a popular choice for couples with significant assets. Here’s a closer look:

  1. Maximizing Estate Tax Exemptions: As mentioned, the A-B Trust ensures that both spouses’ exemptions are fully utilized. For a couple with a $20 million estate, the B Trust could hold $13 million (tax-free under the first spouse’s exemption), leaving $7 million in the A Trust. When the surviving spouse dies, only the $7 million (plus any growth) is subject to estate tax, potentially saving millions in taxes.
  2. Avoiding Double Taxation: Assets in the B Trust bypass the surviving spouse’s estate, meaning they aren’t taxed again when the second spouse dies. This is particularly valuable for estates that exceed the exemption limit.
  3. Sheltering Asset Growth: Any appreciation in the B Trust’s assets (e.g., investments or real estate) occurs outside the surviving spouse’s taxable estate. For example, if the B Trust is funded with $10 million and grows to $15 million by the time the surviving spouse dies, that $5 million in growth escapes estate taxation.
  4. State Estate Tax Savings: In states with their own estate taxes (which often have lower exemption limits than the federal threshold), the A-B Trust can reduce or eliminate state tax liability by keeping assets out of the surviving spouse’s estate.
  5. Deferral of Taxes: The A Trust defers taxes until the surviving spouse’s death, providing liquidity and flexibility during their lifetime.

Example Scenario

Consider a couple, John and Jane, with a $20 million estate in 2025. They establish an A-B Trust, and John dies first. Here’s how it plays out:

  • The B Trust is funded with $13 million (John’s federal exemption amount), held for Jane’s benefit during her lifetime and then passed to their children.
  • The remaining $7 million goes into the A Trust, fully accessible to Jane and qualifying for the marital deduction (no taxes at John’s death).
  • When Jane dies years later, the $7 million in the A Trust (plus any growth) is subject to estate tax, but the $13 million in the B Trust (plus its growth) passes to the children tax-free.

Without the A-B Trust, all $20 million would go to Jane tax-free initially, but her estate would face taxes on the full amount (minus her $13 million exemption) upon her death, potentially costing the family millions.

Potential Drawbacks

While the A-B Trust offers significant benefits, it’s not without limitations:

  • Complexity: Setting up and managing an A-B Trust requires legal expertise and ongoing administration, which can be costly.
  • Reduced Flexibility: The B Trust becomes irrevocable after the first spouse’s death, limiting the surviving spouse’s control over those assets.
  • Changing Tax Laws: The federal estate tax exemption has risen significantly in recent years, reducing the need for A-B Trusts for some couples. Additionally, the exemption is set to decrease in 2026 under current law, which could shift planning strategies.

Who Should Consider an A-B Trust?

The A-B Trust is most beneficial for couples whose combined estate exceeds one spouse’s exemption amount (e.g., $13 million in 2025). It’s also ideal for those who want to ensure assets pass to their children or other heirs rather than a surviving spouse’s new partner in case of remarriage. Couples with smaller estates may find simpler alternatives, like portability (where the surviving spouse inherits the deceased spouse’s unused exemption), sufficient.

Final Thoughts

The A-B Trust remains a cornerstone of estate planning for high-net-worth couples seeking to minimize taxes and protect their legacy. By splitting the estate into a marital trust (A) and a bypass trust (B), it leverages both spouses’ estate tax exemptions, shelters asset growth, and provides for the surviving spouse while preserving wealth for future generations. Though it requires careful planning and may not suit everyone, its tax benefits and flexibility make it a compelling option for those navigating the complexities of estate taxes. As tax laws evolve, consulting with an estate planning attorney is essential to determine if an A-B Trust aligns with your financial goals. For now, it stands as a proven strategy to secure a family’s financial future.

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