What’s a trust, and why you might want one

A will determines ‘who gets what’ after you die, who is ‘in charge’ of handing it out (and paying your debts, taxes, etc., and all the other things that have to be done to tie up your affairs), and sometimes, who will be guardian of your children. A trust can do much more than that.  A ‘living trust’, which is a trust set up while you are still alive, can give someone the right and authority to manage your affairs while you are still alive (if you can’t, or don’t want to), and can make the transition of wealth and control easier and less costly when you die.  A living trust or a ‘testamentary trust’ – one set up by your will, that doesn’t come into existence until your will is probated after your death – can control not only who gets what, but WHEN they get it, and under what circumstances. Trusts can be used to transfer wealth while you are still alive, or upon your death.  They can provide for ongoing management of funds by skilled, careful individuals, for the benefit of others who might not possess the ability or control to act prudently. Some kinds of trusts can be used to save taxes, or to protect someone’s right to receive government benefits such as Medicaid or SSI. Trusts can sometimes be used to protect assets from creditors, including ‘involuntary creditors’ such as future ex-spouses, and lawsuit plaintiffs.  Trusts may avoid court involvement in the transfer of wealth, making it easier and less expensive.

So what IS a trust?

A trust is an arrangement whereby one person or entity, the “trustee,” is given title to and control over some assets (the “trust property”), which are to be invested, used, and distributed for the benefit of one or more other people (the “beneficiaries”). The trust document lays out the “rules” for how the trustee is to hold, invest, manage, and distribute the trust property. The trustee has a “fiduciary duty” – a very strict, legal duty – to follow the terms of the trust document, and to act in the best interest of the beneficiaries. A trust document can give the trustee a lot of discretion in handling the trust funds, or it can be very detailed and impose lots of limitations and requirements.

For example, you could place your mutual fund account into a trust, for the benefit of your children, with your sister as trustee.  The trust could give the trustee (your sister) the right to change the investments, to sell the mutual funds and buy some investment real property, or stocks, or just put it into a bank CD earning interest. The trust could leave it totally up to the trustee whether, and when, to distribute funds to your children. That way, your sister would get to decide who gets the money, for what, and when. If one child needed money for college, and another wanted to start a business, your sister would decide whether to sell trust assets and give them the money. If one child developed a drug problem, the trustee could cut him off completely, or provide funds for a rehab program. But it would be up to the trustee to decide. As long as she didn’t take the money for herself, gamble it away, or do something else that violated her fiduciary duty, she would be entitled to make the decisions in whatever way she saw fit.

On the other hand, you could set up a similar trust, but be much more specific in the trust provisions. You could require that the sister only invest in mutual funds or municipal bonds. You could require that distributions of a specific amount be made to each child on his or her 21st birthday, or that the funds be used ONLY for education or health purposes. You could specify that a child would get a specific amount upon getting married, having a child, or graduating from college. You could put limits on how much each child could get each year. The types of terms and limitations that you can put into a trust are really endless – of course, there are drawbacks to being TOO specific, but a qualified planner can explain these to you, and can also suggest ways to meet your goals while still giving the trustee enough discretion to deal with unexpected circumstances.

Ordinarily, there is no court involvement in establishing or administering a trust. A court can get involved if your trust document is not clearly written, or if a situation arises that is not addressed in the document. (This is why it’s important to have an attorney draft your trust. The forms and packages available in books and on the internet can provide a good starting place, and can help you think about possibilities, but you should meet with a skilled professional before actually executing a legal document as important – and powerful – as a will or trust.)

A court can also get involved if your trustee does not follow the terms of the trust, or acts in a reckless way that hurts the beneficiaries. The beneficiaries can bring a court action to make the trustee account for his or her actions, to recover amounts lost because of the trustee’s wrongdoing, and/or to remove the trustee and have someone else appointed. This is rare, but it can be nice to know that the trustee cannot just do whatever he or she wants, with no regard for the beneficiaries. It also makes it important to consider carefully who you designate to be your trustee(s), and to make sure that they understand what will be expected and required of them (more about that in a future post).

Some trusts can be “revocable,” allowing you to take the property back from the trust, or change its terms, at any time.  Revocable trusts can be very similar to a will, in that you can change your mind about the trustees, beneficiaries, or terms at any time before you die, but still have many advantages over a will.  An “irrevocable” trust cannot be changed or “undone,” but sometimes this is necessary to obtain tax savings, creditor protection, or other benefits.

You might want to consider talking to an attorney about setting up a trust if:

– You want to avoid the need for a court proceeding to determine who will manage your affairs if you are incapacitated, or want to specify who that will be, or provide guidance and rules for them to follow;

– You want to avoid a period of “limbo” for the first few weeks after your death, when no one may have the right to access your accounts, communicate with creditors, or take other necessary actions to wind up your affairs;

– You don’t want your children or other beneficiaries to receive their entire inheritance immediately upon your death, in a lump sum, that they can use or spend on anything (this applies to your retirement accounts, too – look for more information on that subject in a future post);

– You have minor children or beneficiaries, and you don’t want them to get their entire inheritance upon turning 18;

– You want your assets to be used for whichever child or children have the most need, until they are all adults, then the remainder divided equally (for example, if you have paid for college for one child, but have another still in high school, it might be unfair to distribute your estate equally between them; you might prefer to have the funds held in trust, and used for the younger child’s education, before dividing the remainder between the children);

– You have a child or other beneficiary with special needs, or who is receiving or may receive government benefits;

– You only want your assets to be used by your beneficiaries for some things, not for everything and anything they may desire;

– You are concerned about your assets being taken by your beneficiaries’ future ex-spouses, creditors, or individuals who may sue them;

– You want to provide for your spouse, but make sure that upon his or her death, what is left of your assets goes to your children or other beneficiaries, not to your spouse’s family or a future spouse if he or she remarries;

– You want to remove assets (including the proceeds from life insurance policies)  from your taxable estate, to minimize estate taxes;

– You want to protect your assets from your own potential future creditors (especially if you are engaged in a profession or activity that poses a large risk of being sued);

– You want to pass assets to others so that you may qualify for Medicaid assistance for long-term care in the future;

– You want your loved ones to be able to distribute your assets according to your wishes, without requiring a court proceeding, or without making the terms of your distribution public.

There are many, many other situations where a trust can help to accomplish your goals. In fact, as I was compiling this list I started to feel as if I could go on all day! If you want more information about trusts, feel free to contact me or another estate planning attorney.

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Published in: on June 26, 2010 at 10:55 pm  Leave a Comment  

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