There is a large amount of confusion about trusts. As my practice includes estate planning, I come across many highly educated people who have misconceptions about trusts and the benefits which they may provide. There are two general types of trusts, one that is revocable and one that is not. A “living trust” is the term that is used to describe a revocable trust. This type of trust provides no asset protection (since it can simply be revoked). The reasons people create living trusts are to avoid probate, keep their estate private and cut off potential challenges by disenfranchised heirs. If properly funded a living trust makes an immediate, private transfer. The problems with living trusts are numerous, the most important problem is the trust must be dealt with for the rest of your life, or it will not provide the benefits it was designed for. For example, if you want to avoid probate on brokerage accounts, property, or vehicles, you must open accounts in the name of the trust or change them over to the trust. This means potentially having to keep a copy of the trust in your car. Sometimes, institutions will accept a certification of trust instead. In any event it is a fair amount of effort.
So, what is a trust exactly? A trust is a unique tool that allows you to place assets for your or someone else’s benefit. A trust has a creator (grantor) one or more beneficiaries and a trustee. The trustee decides who gets what and when based on the language in the trust. So why should you care?
There are thousands of reasons to consider using a trust. For now, I will cover the most important reasons. If money is left to a minor, that is a problem because minors cannot hold property. The state must appoint someone to manage the money, which could scare anyone. If all your money goes to your spouse by will and your spouse either predeceases you or dies in the same accident, it may be that your children are next in line. Other reasons trust come in handy is that they allow you to manage your life’s savings from the grave. If you leave a person a substantial amount of money and they are not prepared to manage it – you could do more harm than good. A trust dictates what the beneficiary may receive and when. A trust, if created properly may be lawsuit proof, bankruptcy proof, divorce proof, even IRS proof. This is because only the trustee(s) and the beneficiaries may access the property.
Suppose your children are grown, stable and responsible so you think it is ok to leave them your estate outright. Suppose further that at some point one of these children die, leaving your money to their spouse. You may be okay with this, but you may also disinherit your grandchildren. Though we already covered divorce, it bears repeating. You do not know when or if a divorce will occur in your family. We have all seen marriages fail that you never thought would fail and marriages survive that you were sure would fail. A trust ensures that your assets do not wind up in the wrong hands. If a child dies, their share either goes to their heirs, or to another sibling – keeping it in your bloodline.
Clearly there must be some downside to using trust, here are a few:
- They cost money to set up
- The right trustee today may be the wrong one in the future
- The beneficiaries must request excess distributions from the trustee
- Trust tax rates are higher than regular rates
As with all financial situations, the benefits must be weighed against the disadvantages. There are techniques to address three of the four downsides mentioned. You can provide a mechanism to have a trustee removed. You can name someone who knows your family to act as trustee. The trust can be invested in things that do not produce a large amount of taxable income.
For more information, contact David Disraeli, President of The Personal CFO, Inc. at 512-464-1110. David Disraeli is not an attorney and cannot render legal advice.