What is a trust?

A trust is a legal arrangement where assets are held for the benefit of one or more beneficiaries.  The person that creates the trust is called the “settlor” or “grantor.”  The trust can hold money, investments, real estate or other property. The trust agreement will name one or more trustees who have certain duties to carry out the terms of the trust.  It is not uncommon for the original creator of the trust to be named the initial trustee for the trust.


Types of Trusts

Trusts are creations of state law. As a result, there are many different types of trusts that vary from state-to-state.  There are trusts designed for very specific purposes and others that serve more general needs.


All trusts generally fall into two categories: revocable and irrevocable.


1. Revocable: Revocable trusts, as known as living trusts, allow the grantor of the trust to retain control and make changes to the trust during their lifetime.  Trustees and beneficiaries can be changed at any time, or the trust can even be terminated.


2. Irrevocable: Irrevocable trusts are the opposite, the grantor loses the control to make changes to the trust’s terms or change beneficiaries.  Even if the grantor has less direct control over the irrevocable trust they created, in some instances, the grantor may still be a beneficiary under the trust and receive benefits from the trust during their lifetime.


There are many differences between these two types of trusts. The primary benefit of irrevocable trusts is that they can be used to help reduce the amount of taxes paid by your estate.


Trust Benefits

While trusts can be very expense to create and administer, they can also have many benefits:


1. Control: With what is affectionately called the “dead hand of the past,” a trust’s grantor can effectively control how, when and under what circumstances the trust’s assets are used or distributed.  For example, the grantor can stipulate that the trust’s assets can only be used for the educational expenses or that the beneficiaries do not receive the trust’s assets until they turn 35.


Trust documents frequently include very detailed requirements on how the property can be invested, when it can be distributed and what conditions the beneficiaries must satisfy.  The trustee may have little or no discretion on how the trust’s requirements are implemented.


2. Asset Protection:  Do you have a son or daughter that spends money frivolously, runs up debts or has special needs?  A trust can be one tool to help shield these assets from misuse and from the beneficiary’s creditors, such as debt collectors and lawsuit verdicts.  However, revocable trusts generally do not protect the assets from the creditors of the grantor, since the grantor has retained the ability to terminate the trust during their lifetime.  In some narrow cases, irrevocable trusts (i.e., those that cannot be changed or terminated by the grantor) can be used to protect the assets from the grantor’s creditors; however, courts will invalidate trusts that are created to defraud creditors.


3. Easier Probate: One of the primary reasons to create a revocable trust is that assets held in trust do not need to go through the probate process.  This simplification can make probate less time consuming and less expensive for your heirs.  In addition, if you can get the value of the assets that have to go through probate below thresholds set by the probate court, your executor may be able to use a simplified probate proceeding that is easier and more efficient.


4. Reduced Estate Taxes:  Some people wrongly think that estate taxes only impact the top one percent.  However, many small business owners, family farmers or individuals located in states with lower estate tax exemption levels, can find themselves with estates that are subject to estate taxes.  This can be especially problematic for people with illiquid assets, like a closely held business or farmland, that may be difficult to sell just pay the tax liability.

As mentioned above, irrevocable trusts can be used in many states, subject to many limits and conditions, to reduce the amount of estate tax that is paid upon your death.  For example, trusts are often used to legally shelter very expensive assets, like homes or life insurance proceeds.  While estate taxes may be minimized, generally proceeds from irrevocable trusts are taxable as ordinary income to the beneficiaries.  You should speak with your accountant about what impact, if any, a trust would have on your and your heirs’ tax liability.


5. Privacy: A copy of your will and the probate process are part of the public record and are not private.  Trust documents are not filed with the probate court and, thus, are not publicly disclosed in the ordinary course. People who are concerned about their privacy often use a trust to keep this information confidential.


If you think that you need a trust or if you have questions about which trusts are recognized in your state, you should consult with a licensed attorney.


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This article is for educational purposes only and does not constitute legal advice.  If you have questions about your legal rights, responsibilities or options, you should consult with an attorney in your state.