glassroofmuseum03371What is a trust?

A trust is a legal arrangement whereby the creator of the trust, called the settlor or grantor, transfers assets to another person or entity, called the trustee, to hold and manage those assets for the benefit of another party referred to as the beneficiary.  A trust is typically established by written document specifying the terms and conditions to be followed in administering and distributing the assets to the beneficiary.  A trust may be established by an agreement or declaration executed by the grantor and effective while the grantor is alive.  Such trusts are referred to as inter vivos trusts or “living trusts.”  A trust may also be drafted as part of a will such that it takes effect at the death of the creator of the will and trust, called the testator, upon his death.  Such trusts are called “testamentary trusts.”  A living or inter vivos trust may be either revocable or irrevocable, though most people use the term “living trust” to refer to a revocable inter vivos trusts.

What is a revocable living trust?

A revocable living trust is a trust established by the grantor during his life and may be revoked by the grantor without the consent of any other party.  The power of the grantor to revoke the trust and recover the property transferred to the trust has some significant tax and non-tax consequences.  For income, gift and estate tax purposes, the power to revoke causes the grantor to be treated as the owner of the trust property.  As a result, all income earned by the assets of the trust are taxed to the grantor.  Because the grantor is treated as the owner of the trust, there is no gift on the creation of the trust and, therefore, no gift tax.  For estate tax purposes, a revocable trust is considered part of the grantor’s estate and, therefore, potentially subject to estate taxes.  From a state law perspective, the grantor’s ability to revoke the trust and recover the trust assets makes the assets subject to the claims of the grantor’s creditors.

Why use a revocable living trust?

A revocable living trust serves two essential purposes.  First, it provides a manner to distribute your assets at your death that is not subject to probate or other court supervision.  Avoidance of probate has a number of benefits, including privacy, reduced costs and ease of administration.  Once admitted to probate, the terms of a will and all proceedings relating to the will are public record and can be reviewed by anyone at anytime.  A revocable trust is a private arrangement and its terms and operation are not open to public inspection.  Assets in a revocable trust are not subject to the fees and commissions charged by the Clerk of Court.  Additionally, since the trustee is not required to account to the Clerk of Court (unless specifically required to do so by the trust agreement), the fees and costs associated with inventories and accounts, including attorney fees are avoided.  A revocable trust is treated as a separate entity from the grantor at his death.  Therefore, assets held in the trust are not frozen at death and are immediately available to the beneficiaries at the death of the grantor.  Additionally, there is no need to collect the various assets and title them in the name of the estate prior to distribution to the beneficiaries. 

Assets held in a revocable living trust can also be effectively managed by a trustee or successor trustee in the event of the incapacity of the grantor without the necessity of appointing a guardian.

What is an irrevocable living trust?

An irrevocable trust is the opposite of a revocable trust.  The trust can not be revoked by the grantor without the consent of another party.  Generally, as a result of this inability to revoke the trust, the property in the trust is not treated as being owned by the grantor.  Therefore, trust income is generally not taxed to the grantor and the trust property is not included in the grantor’s estate at his death.  However, because the grantor gives up his right to recover property transferred to an irrevocable trust, creation of the trust is generally a taxable gift.  Although an irrevocable trust is generally not treated as owned by the grantor, the retention of certain powers over the trust, such as the power to change beneficiaries, can result in the trust being treated as owned by the grantor.  Such trusts are referred to as grantor trusts.  The grantor trust rules are very complex and great care must be taken when drafting an irrevocable trust not to violate these rules by accident.  From a state law perspective, subject to certain exceptions, an irrevocable trust is generally not subject to the claims of the grantor’s creditors.

Why use irrevocable living trusts?   

Typically, grantors use irrevocable trusts to achieve some type of tax planning goal, usually the exclusion of the trust property from the grantor’s estate.  Through proper drafting, irrevocable trusts allow the grantor or his family to retain certain benefits in the trust property while excluding the trust property from the grantor’s taxable estate.  In the case of charitable trusts, there is the added benefit of a charitable deduction for income tax purposes.  These tax motivated irrevocable trusts include the Irrevocable Life Insurance Trust (“ILIT”), Charitable Remainder Annuity Trust (“CRAT”), Charitable Remainder Unitrust (“CRUT”), Charitable Lead Trust (“CLT”) and Grantor Retained Annuity Trust (“GRAT”), Grantor Retained Unitrust (“GRUT”).  Generally, use of these types of trusts is appropriate in larger estates subject to estate taxes.  Other irrevocable trusts may be used to protect assets from the claims of creditors.  Irrevocable trusts are highly complex and specialized trusts and the creation and funding of these trusts have tremendous tax and other consequences.  It is highly advisable to consult with an experienced attorney to assist in evaluating and implementing any irrevocable trust strategy.

What is an Irrevocable Life Insurance Trust?

An Irrevocable Life Insurance Trust (“ILIT”) is an irrevocable trust created to purchase and own life insurance policies on your life with the proceeds going directly to your beneficiaries at your death. The ILIT can also be structured to buy assets from or lend money to the executor of your estate thereby providing funds when needed. Life insurance policies owned by either you or your spouse may be transferred to an ILIT. If you transfer a life insurance policy to an ILIT for valuable consideration, or if the transfer is by gift and you survive for three years after such gift, the insurance proceeds will not be included in your estate for estate tax purposes.

What is a QTIP Trust?

QTIP is short for “Qualified Terminable Interest Property”.  Property transferred into a QTIP Trust for the benefit of the surviving spouse qualifies for the marital deduction thus resulting in no gift or estate tax liability upon the death of the first spouse.

How do charitable trusts work?

Generally, property is transferred to a trust that qualifies as a charitable trust allowing the transferor the benefit and use of the property during his life.  Upon the transferor’s death, the property goes to the charity and the transferor’s estate receives a deduction for estate and gift tax purposes. Depending on the type of trust selected, the transferor may either receive fixed payments or the payments can fluctuate based on the fair market value of the transferred property.

May a trust be used to avoid probate or provide for incapacity?  

Since a trust is a contract, it is not subject to the rules governing the administration of an estate. As a result, upon the death of the party that created the trust, there is no requirement that an accounting or other document be filed with the Clerk of Superior Court in the county where the decedent died, unless the terms of the trust require otherwise.  Often revocable trusts or “Living Trusts” are used as a method to avoid the costs of probate or to provide for future disability.

Is a trust difficult to form?

No, a trust is not difficult to form. However, you should consult with your attorney or tax advisor regarding the goals you wish to accomplish, the purpose of the trust, the types of trusts, tax implications, and the transfer of property to the trust.

For assistance with creating a trust or estate plan, contact our firm for an appointment or contact David or Stephen.