Trust Basics

How is a Trust created?

A trust is created by the transfer of property by its owner (called the settlor or grantor) to a trustee who holds the property for the benefit of another person or persons (called beneficiaries).
The settlor transfers assets into the name of the trustee of the trust. Assets can include land, houses, bank accounts, stock accounts, and other assets; these then pass automatically to the trust's beneficiaries when the settlor dies. When the settlor acquires additional assets, he can title those in the name of the trustee of the trust and add them to it. Some forms of assets can simply be listed in a document added to the trust document; title to real property must be formally recorded.

Upon the death of the settlor, a successor trustee who is chosen by the settlor and named in the trust (this could be one or more of the beneficiaries, a trusted friend, a bank or attorney) takes over as trustee. The trustee is obligated to follow the instructions of the settlor set forth in the trust concerning the distribution of property and the payment of taxes and expenses.

Like both marriages and wills, a trust that is correctly set up in one state remains valid if the person creating the trust moves to another state. Property from more than one state can be included in a trust. If an individual owns real property in more than one state, then a trust is a very useful planning tool to avoid having to probate an estate in several different states.

What is a revocable trust?

In a revocable trust, the settlor or grantor (who funds the trust) retains control of the property and can end the trust and take back the assets at any time. The person establishing the trust is often – at the same time - the settlor, the initial trustee, and the beneficiary of the income of the trust until his or her death. At death, the trust becomes irrevocable and the property in the trust passes to other beneficiaries. One advantage of a trust established in the lifetime of the settlor is that any property held in it is not part of the probate estate and passes directly to the beneficiary at the settlor’s death. A trust established when the settlor is alive is called an intervivos trust. Because an intervivos trust is not probated, the terms of the trust can remain private. A very important aspect of a revocable or "living" trust is to permit an individual's assets to be managed for their benefit in the event of incapacity. Having a trust in place may avoid the need for appointment of a guardian or conservator by a court.

What is an irrevocable trust?

In an irrevocable trust, the settlor gives up ownership and control of the property placed in the trust. One result of this choice is that assets placed in an irrevocable trust may not be included in the settlor's estate at his or her death. The trust pays tax on its accumulated income, but current distribution or payment of income to beneficiaries is deducted.

What is an A-B trust?

A-B or "credit shelter" trusts are particularly suited to spouses whose combines assets exceed the exclusion amount for federal estate taxes - in 2016, this excluded amount is $5,500,000. Having an A-B trust can enable a married couple is one way of bringing the amount excluded from estate taxes at death to $11 million.  Federal "portability" law now enables a surviving spouse to utilize a deceased spouse's estate tax exclusion amount, but IRS rules must be followed carefully to take advantage of this opportunity.

A much more common use of an A-B or credit shelter trust is by couples with children in a second marriage who wish to provide support for the surviving spouse, but also want to protect assets for the children of each marriage. In an A-B trust, the couple's assets are held in one trust until one spouse dies. After the first spouse dies, the trustee creates two trust shares, an A trust (survivor’s trust) and a B trust (decedent's trust). These assets are not included in the surviving spouse's estate for determining estate tax liability, yet the surviving spouse may be able to use the B trust’s income and even part of its principal if the trust is so written and there is need. The B trust becomes irrevocable upon the death of the first spouse, and the surviving spouse cannot change the beneficiaries or terms of the B trust, thus protecting the interests of the children.

A-B trusts are just one form of trust available to minimize tax liability and plane effectively to care for family left behind. Our office will outline the pluses and minuses of the various trusts that provide financial security and advantage under current law.

What is a charitable trust?

Charitable remainder trusts are irrevocable structures established by a donor to provide income to a beneficiary while the public charity or private foundation receives the remainder value when the trust terminates. So, for example, a trust could provide income to a surviving spouse for his or her lifetime. The donor may claim a charitable income tax deduction, and may not have to pay an immediate capital gains tax when the charitable remainder trust disposes of the appreciated asset and purchases other property as it manages its portfolio of trust property. At the end of the trust term, the charity receives whatever amount is left in the trust.

Charitable lead trusts make payments, either of a fixed amount or a percentage of trust principal to charity during its term. At the end of the trust term, the remainder can either go back to the donor or to heirs named by the donor. The donor may sometimes claim a charitable income tax deduction or a gift/estate tax deduction for making a lead trust gift, depending on the type of a charitable lead trust. Generally, a non-grantor lead trust does not generate a current income tax deduction, but it eliminates the asset or part of its value from the donor’s estate.

If the trust itself qualifies as a public charity, donations to the trust may be deductible to an individual taxpayer or corporate donor. Charitable trusts may be set up during a donor's life or as a part of a trust or will at death.

What is a testamentary trust?

A testamentary trust is created within a will. The trust does not take effect and property does not pass into the trust until death. The will contains the trust provisions and serves as the trust document.

Making a devise or bequest in your will to the trustee of your trust funds the trust. The trust must be identified in your will and must exist as a written document. Upon your death, the will distributes some or all of your assets into the trust to be held, managed, and distributed by the appointed trustee according to your instructions.

A probate proceeding is necessary to fund a testamentary trust. Once a personal representative is appointed in a probate case, that person has the power and duty to follow the terms of the testamentary trust and transfer the designated assets into the trust.

Trusts are often used to manage the property of children or grandchildren until the child reaches a certain age. Assets may be distributed over time or be used for specific purposes such as education. Like other forms of trusts, testamentary trusts can manage property for someone who has a physical or mental handicap.

For couples in a second marriage, a testamentary trust can provide income - and even principal in the case of need - for a surviving spouse with the remaining assets going to the deceased's children from a previous marriage.

What is a special needs trust?

Special needs trusts are established in order to permit a disabled or mentally incapacitated person to have the benefits of property held for his or her use without granting control of assets to that individual. A trustee manages the property, ensuring that the assets are not used for food, shelter or other countable expenses and thereby enabling the disabled person to retain Medicaid eligibility and certain government benefits. The assets of special needs trusts established with the property of the disabled person are subject to claim by Medicaid on the person's death. The remaining assets of a special needs trust established by a third party such as a family member may pass to another beneficiary on the death of the disabled person.

What about pets and trusts? What is an honorary trust?

An honorary trust does not have a specific human or legal entity, like a person, a corporation or charitable organization, as a beneficiary. Honorary trusts are used to care for a person's pets or provide for the maintenance of cemetery plots. In the case of trusts for animals, the trust terminates after the earliest of when no living animal is covered by the trust or 21 years.  A court may reduce the amount of the property transferred to an honorary trust if it determines that amount substantially exceeds the amount required for the intended use.

What is a spendthrift clause?

Sometimes the person establishing the trust has concerns about a beneficiary’s ability to manage trust assets well, or wishes to prevent trust assets from being attached by creditors if a beneficiary is sued. A spendthrift clause specifies that a beneficiary's interest shall not be transferable or assignable by the beneficiary, or be subject to the claims of the beneficiary's creditors. Creditors' demands for supply of necessities are sometimes allowed. A spendthrift clause cannot be used to avoid claims for alimony or child support.

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