Trusts 101: Essentials for Everyone

Should you consider implementing a trust as part of your financial and estate planning? Many people are uncertain about what a trust is or how it can help them manage their affairs. Those who do not necessarily view themselves as wealthy may be especially hesitant to consider incorporating a trust into their overall planning.

A Trust Isn’t Necessarily What You Think It Is

Most people think of a trust as a simple, transactional entity, such as a document (like a deed to property) or an account (like bank or investment account). While some documentation may be required to create and maintain a trust, and trusts sometimes involve one or more accounts, a trust is actually more than any of these things. A trust is a relationship of care in which a designated person or financial institution – a trustee – holds, administers and distributes specific property for the benefit of chosen individuals – the trust’s beneficiaries.

People often choose to transfer assets to a trust instead of retaining outright ownership or gifting the assets directly to their heirs when they are concerned about:

  • Maintaining control
  • Asset protection
  • Privacy
  • Tax savings
  • Efficiency in management of trust assets

Types of Trust

While there are many nuanced variations of trusts, there are two essential binary classifications of trusts:

Lifetime vs. testamentary.

  • Lifetime (living) trusts are established directly by the donor/creator and function during the donor’s lifetime. They are often used to:
    • Protect assets from creditors (either the donor’s or the beneficiaries’) under certain circumstances
    • Facilitate making gifts while minimizing potential exposure to gift and transfer taxes
    • Provide a potential level of privacy for the creator and their beneficiaries
    • Guard against incapacity on the part of the creator or their beneficiaries
  • Testamentary trusts are part of the creator’s last will and testament and are officially established after their death by a probate court upon request of the creator’s executor and trustees. They are used to:
    • Permit minors who are not eligible to inherit assets outright to benefit from them
    • Ensure that the property of the creator’s estate is managed and/or distributed according to their wishes (e.g., a qualified terminable interest trust can protect a deceased person’s children by preventing their new spouse from bequeathing the property to someone else);
    • Protect beneficiaries from profligacy, creditors or from losing their means-tested government services
    • Save on gift and estate taxes
    • Provide optional trust provisions that can be used by the creator’s personal representatives and trustees who will determine whether to create and fund the trust

Revocable vs. Irrevocable

  • Revocable trusts are lifetime trusts which permit the creator to change or terminate the trust during their lifetime. Typically, a revocable trust:
    • Functions like an alter ego of the creator, who typically serves as the initial trustee and directs management of their trust assets while living and competent
    • Serves as a semi-private Last Will and Testament to transfer property titled in or transferred to the trust at death without the need of involving the probate court
    • Permits the trustee(s) to dispose of real estate and tangible property in different states without the need for a separate probate proceeding in each state
    • Can allow the successor or co-trustee(s) to immediately step in to manage the trust assets in the event of the creator’s incapacity
    • Will become irrevocable on the creator’s death and will not provide any asset protection or tax savings to the creator
  • Irrevocable trusts may be created during lifetime or through a Last Will and Testament (see testamentary trusts) but do not typically allow the creator to end or change the trust.1 An irrevocable trust typically:
    • Serves as a separate entity from the creator, having its own tax identification number and filing a separate income tax return
    • Is used to transfer assets out of the control of the creator for tax savings or for asset protection (for example, a life insurance policy can be transferred to an irrevocable trust to remove the policy proceeds from the creator’s estate for estate tax purposes)
    • Operates as a vehicle to make gifts of assets which are expected to increase in value, to make discounted gift transfers or gifts to charity
    • Can prevent the assets in the trust from being dissipated by the beneficiaries or from being subject to the claims of their creditors
    • Is not easily changed after creation and often results in the creator losing access to any assets gifted to the trust.

The right combination of trust structures can help you accomplish some of your most pivotal and cherished financial and estate planning goals. The estate planning attorneys at Holm & O’Hara LLP stand ready to review your objectives, help you evaluate the options and implement a trust structure that best meets your family’s needs.

1A special officer known as a trust protector can make limited changes to a trust even after it becomes irrevocable. Provisions for a trust protector – including their specific authority – must be incorporated into the trust documents. Typically, a trust protector can appoint or change trustees and change distribution schedules to accommodate changes in tax law, among other things.

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