When it comes to estate planning and wealth management, trusts are a powerful tool that can help you achieve a variety of goals, from avoiding probate to protecting your assets from creditors. Trusts are legal structures that allow a third party, known as a trustee, to hold and manage assets on behalf of designated beneficiaries. Understanding the different types of trusts and the benefits they provide can help you make informed decisions about how to best manage and transfer your assets.
What is a Trust?
A trust is a legal arrangement in which one party, known as the grantor (also can be referred to as the settlor or creator), transfers assets to a trust, administered by a Trustee, who holds and manages these assets for the benefit of one or more beneficiaries. Key benefits of a trust are:
- Avoiding Probate: Assets placed in a trust or that are payable on death to a trust generally do not have to go through probate, which is a court-supervised process for distributing a deceased person’s estate. This can save time and money and provide privacy, as probate records are public.
- Maximizing Estate Tax Exemptions: Certain types of trusts can help reduce estate taxes by removing assets from your taxable estate, potentially saving a significant amount of money for your beneficiaries.
- Protecting Assets from Creditors: Trusts, especially trusts that are irrevocable or that become irrevocable at death, can offer protection from creditors and lawsuits, safeguarding your assets for the future.
- Enabling Children as Beneficiaries: Trusts can be structured to provide for minor children or other beneficiaries in a controlled manner, ensuring that assets are managed responsibly until the beneficiaries reach a certain age or achieve specific milestones, in addition to providing asset protection to the beneficiaries.
There are several types of trusts. Let's explore how each serves a unique purpose and offers distinct benefits.
Living Trust (Inter-Vivos Trust)
A living trust is created while the grantor is alive. It can be designated either revocable or irrevocable. It allows the grantor control of the trust assets during their lifetime and designates beneficiaries to receive those assets upon their death.
Benefits:
- Avoids Probate: Assets in a living trust or that are payable on death to a trust bypass the probate process, allowing for more private distribution to beneficiaries.
- Shorter Settlement Process: Beneficiaries can receive the trust property in a much shorter time after the grantor's death, unlike a will that might be tied up in probate court for several months or even years.
Testamentary Trust
Established through a will, a testamentary trust comes into effect upon the death of the testator/testatrix (male/female person who executed the will). It is commonly used to manage assets for minor children or beneficiaries who may not be financially responsible.
Benefits:
- Control Over Asset Distribution: The grantor can specify how and when the assets are distributed, providing financial stability for beneficiaries, and protecting the assets from creditor or outside influences.
- Protection for Minors: Ensures that assets are managed by a trustee until the minor beneficiary reaches a certain age or achieves a specific milestone.
- Customized Terms: The trust can include specific instructions written to meet to the needs of the beneficiaries.
Revocable Trust
A revocable trust allows the grantor to retain control over the assets in the trust during their lifetime so long as they are not incapacitated. The grantor can change or revoke the trust at any time, which is why it is considered "revocable."
Benefits:
- Avoids Probate: Assets in a revocable trust do not go through the probate process enabling a more private distribution to beneficiaries.
- Flexibility: The grantor can change the trust terms or move assets in and out of the trust as needed.
- Incapacity Planning: If the grantor becomes incapacitated, the named successor trustee automatically steps in to manage the trust assets without having to go to court.
Irrevocable Trust
An irrevocable trust generally cannot be changed or revoked once it is created, except under extremely specific circumstances. The grantor relinquishes all control over the assets transferred into the trust.
Benefits:
- Asset Protection: In an irrevocable trust, assets are generally protected from creditors and legal judgments.
- Estate Tax Reduction: By transferring assets out of your estate, you may reduce the overall estate tax burden after a certain period.
- Eligibility for Government Benefits: Assets in an irrevocable trust may not count toward qualifying for certain government benefits, such as Medicaid after a certain period.
Charitable Trust (Irrevocable)
A charitable trust is designed to benefit a charitable organization or cause. There are two main types:
Charitable Remainder Trust: This type of trust distributes the income of the trust’s investments to beneficiaries for a specified period before transferring the remaining principal to a charity.
Charitable Lead Trust: This type of charitable trust provides income to a charity for a specified period, after which the remaining principal would go to the beneficiaries.
Benefits:
- Tax Advantages: Donors may receive an immediate charitable income tax deduction and potentially reduce estate taxes and capital gains avoidance, funding with highly appreciated stocks.
- Support for Charitable Causes: Provides a structured way to support charities or causes you care about
- Income for Beneficiaries: Depending on the type, a charitable trust can provide income to beneficiaries for a set period before the remainder goes to charity.
SpeciaL Needs Trust
A special needs trust is designed to provide for a beneficiary with special needs without disqualifying them from government benefits such as Supplemental Security Income (SSI) and Medicaid, or any other income qualifying program.
Benefits:
- Preserves Government Benefits: Allows the beneficiary to receive supplemental support from the trust while still qualifying for government assistance.
- Tailored Support: Funds in the trust can be used for expenses not covered by government benefits, such as therapy, education, personal care, dental care, car expenses and clothing.
- Asset Protection: Protects the trust assets from creditors and financial exploitation.
Conclusion
Selecting the right type of trust depends on your specific goals, financial situation, and family dynamics. Consulting with an estate planning professional is crucial to understanding the implications and benefits of each trust type and which type would work for you. They can help tailor a trust strategy that aligns with your wishes, provides financial security for your loved ones, and maximizes tax benefits.
By setting up the right trust, you can have peace of mind knowing that your assets are managed and distributed according to your wishes, providing long-term protection and security for your beneficiaries.
Crews Bank & Trust offers free estate planning guidance and advice from a trust officer’s perspective. We provide professional investment management services and trust administration which gives us the knowledge and experience to help you. Schedule a free review of your estate plan with one of our experienced Wealth Strategists today.