Trust Basics
WHAT IS A TRUST?
A trust is an entity that is voluntarily created under a written instrument by a person (Grantor) with another person (Trustee) with the objective of owning and managing assets owned by the Grantor under specified terms and purposes. When the terms of a Trust may be altered or amended it is revocable; when the terms of the Trust may not be altered or amended it is called irrevocable. The Trustee may take ownership of assets during the grantor’s lifetime ( may be referred to as a living or funded revocable trust) or take ownership of assets upon the grantor’s death (called testamentary trust). A trust must have a name, trustee, beneficiary(ies) and a purpose. Its must be signed by the Grantor and Trustee. The Grantor must be legally competent and have the ability to understand and carry in his/her mind the nature and situation of his/her property and relations. The Grantor must understand the nature of the act in signing a Trust.
FEDERAL ESTATE TAX
Spouses inherit from one another tax deferred (so long as the surviving spouse is a US citizen) – this not a tax elimination. If a spouse in not a US citizen tax deferral is only allowed where a Qualified Domestic Trust (QDOT) has been established.
WHY ARE TRUSTS USED AS AN ESTATE PLANNING VEHICLE
Minimizing Estate Taxes through maximizing marital deduction
Maintaining Control
Avoiding Probate & Maintaining Privacy
Avoiding Delay in Management of Assets
Marital Deduction. Revocable trusts are the ideal planning tool for maximizing the marital deduction and effectively minimizing the federal estate tax. The marital deduction can be maximized by using a credit shelter or by-pass trust to preserve the first spouse to die’s estate tax exemption. Assets beyond that amount pass to a marital trust.
For a married couple the marital deduction is the most significant factor in reducing the size of an estate for federal estate tax purposes. Failure to establish an appropriate estate plan will result in the loss of 1 of 2 credits. The strategy for a married couple who wants to preserve both exemptions is to establish 2 trusts (also called A-B trust, credit shelter trust, unified credit trust, by-pass trust) to take maximum advantage of each marital deduction, thereby minimizing estate taxes in the surviving spouse’s estate.
Conclusion. Effective tax avoidance is achieved by application, in trust, of assets equal in value to the first decedent’s available federal estate tax exemption.
Control. A revocable living trust provides you with control of the trust and its assets. As the trustee, you retain the same level of access and control over your assets as you did when they were owned in your name. This trust can benefit you during your lifetime and, upon your death, ensure that your assets go as you have designated.
Probate – Disability. In the event of a donor’s disability, a funded revocable Trust can be advantageous as a trustee can manage the assets of the trust during a period of incapacity without the need of a conservatorship or guardianship. Management of assets under a trust is much more flexible, private and convenient than under a conservatorship/guardianship. The disabled person is spared the stress of a court hearing and saves the cost of legal fees.
Probate – Death. Assets owned in a funded Trust avoid or by pass probate – by avoiding probate one retains privacy (probate is a public process); avoids the delays occasioned by probate and the assets owned by the trust can be managed without interruption.
5. Living trusts are private documents. They are generally more difficult to challenge than a Will.
EXAMPLES OF TYPES OF TRUSTS
1. Revocable Living Trust with QTIP
2. Revocable Testamentary Trust with QTIP
3. Irrevocable Living Asset Protection Trust
4. Spendthrift Trust
5. Irrevocable Life Insurance Trust (ILIT)
6. Special Needs Trust (Irrevocable)
7. Grantor Retained Annuity Trust
8. Testamentary Charitable Trust
9. Trusts for business & real estate ownership
10. Qualified Domestic Trust (QDOT)
QTIP – enacted by Congress in 1981
Requirements all income payable to surviving spouse annually or more frequently
No one else may have the power of appointment to any one other than surviving spouse
An election on a timely filed estate tax return is required
QTIPS are written so that the surviving spouse will not have control over the ultimate disposition of assets. This is to prevent the surviving spouse from: poor decision making, diverting assets from the children of the deceased spouse from a previous marriage, directing assets to a new spouse or children of another marriage.
QTIP is an especially attractive tool for individuals with children from a prior marriage or when there is concern over what might happen to the assets of the trust if the surviving spouse remarries. However it is important to remember that although the surviving spouse has no control over the QTIP, his/her financial needs and living expenses will be paid by the trust.
