The Role of Trusts in Estate Planning

The Role of Trusts in Estate PlanningA trust is a legal relationship in which one person transfers property to another (the trustee) who on his promise holds legal title to the property for another (the beneficiary) according to the wishes of the transferor.  Every trust contains the same basic elements. There are three people or categories of people involved in trust:

  • A settlor  (also sometimes known as the grantor or the trustor) is the person who often creates and transfers property to the trustee of the trust.
  • One or more beneficiaries.  The beneficiaries are the persons who are entitled to receive benefits from the trust. 
  • The trustee: The person who holds legal title to the property of the trust and administers manages it for the benefit of the beneficiaries.

A trust is created when a property owner (the settlor) transfers the legal title of assets to a person (the trustee) who has the duty to hold and manage the assets for the benefit of one or more persons (the beneficiaries). The property transferred into the trust is known as the trust principal, trust estate, or trust corpus.  The written document that establishes the trust and spells out its terms is the trust document, or trust instrument, or trust declaration.

To learn more contact our experienced Estate Planning Attorney at Donald L. Sadowski, PC today.

Different Types of Trusts for Different Purposes

There are various types of trusts:

  • A testamentary trust is created under the terms of a will and comes into being after the testator’s death and effective through the probate process.
  • An inter vivos trust is created during the life of the settlor and can be revocable or irrevocable.
  • Revocable inter vivos trusts are commonly called “living trusts” may at any time be amended or revoked by the settlor.  These trusts provide for asset management during the settlor’s lifetime and can provide for the disposition of assets held in trust after the settlor’s death.
  • Irrevocable inter vivos trusts cannot be changed or revoked by the settlor.  This type of trust generally is used to transfer wealth, reduce taxes, and protect assets from creditors.

A trust can include a spendthrift provision.  A spendthrift provision allows the settlor to place property left in trust for the beneficiary from the reach of such beneficiary’s creditors. With a spendthrift provision, a beneficiary cannot compel distributions from the trustee, and except in special situations, a creditor of the beneficiary cannot attach or reach the beneficiary’s interest before that interest or distribution is received by the beneficiary.

What a Trust Can Accomplish in an Estate Plan

A trust can be used for the following purposes:

Tax planning

The federal estate tax system assumes that many taxpayers will create either testamentary or inter vivos trusts, and the system provides a complex set of rules for the taxation of trusts. Many of these rules are beneficial to the average taxpayer. For example, certain trusts qualify for the unlimited marital deduction, thus allowing couples to defer all estate tax until the death of both spouses. At the same time, an individual can create a bypass trust that will not be included in the surviving spouse’s estate, thus allowing the most efficient use of both spouses’ lifetime gift and estate tax exemptions. Irrevocable trusts can be used to transfer wealth out of a parent’s estate without giving the beneficiary-child immediate control over assets. Irrevocable trusts can also be used to make charitable gifts, thus reducing income and estate taxes.  Life insurance trusts can be used to reduce estate taxes by removing the life insurance proceeds from the estate.

Property management for minor or incapacitated beneficiaries

With a testamentary trust, a testator can prevent the cost and hassle of guardianship. A testamentary trust also enables parents to appoint a trustee to handle the funds until the child is older. Similarly, trusts can be used to protect legally incapacitated adults.

Probate avoidance

Trusts are used to avoid probate. This is typically accomplished with a revocable inter vivos trust (a living trust) to which the settlor transfers title to most of his or her assets. Any assets that are in the settlor’s trust when he or she dies, will avoid the state court probate process.

Guardianship avoidance

Without a revocable inter vivos trust (a living trust), if a person were to become incapacitated,  it is likely that his or her property would be managed through a court-supervised guardianship. On the other hand, if that person had created and transferred all his assets to a revocable trust, then a person or bank designated as successor trustee of the trust could protect the financial interests of such person and manage the properties until the person is no longer incapacitated.

Creditor and divorce protection

Assets held in a discretionary trust or trust which becomes discretionary in the event of threats to the beneficiary’s wealth (e.g., financial reversals, divorce, lawsuits, etc.) are generally better protected than would be the case if such property were to be inherited outright by the beneficiary.

To learn more about the role of trusts in Estate Planning, contact Donald L. Sadowski, P.C. today and schedule your Estate Planning consultation.