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Trusts

Living Trusts and Testamentary Trusts

What is a Trust and Who is it For?

Trust Definition

A trust is a legal entity that holds onto your property for the benefit of a named party.

If you have any assets, take notice: what you earned over a lifetime can easily be reduced or wind up going to the wrong people if you don’t take steps to protect it. 

Trusts provide legal protection for your assets and set terms for the way assets are to be held, gathered, and distributed in the future. The ability to set the precise terms for assets you own today is what distinguishes this from other estate planning tools.

At its core, the intricacies of a trust are surprisingly straightforward.

A trust can hold a variety of assets including money, stocks and bonds, real estate, or even a business. You (the trustor) give another party (the trustee) the right to hold title to property or assets for the benefit of a third party (the beneficiary). In many cases, you are both the trustor and trustee while you are alive. You may also choose to be the beneficiary during your lifetime as well.

A Few Key Benefits of Trusts:

  • You can avoid probate.
  • They can allow you to transfer assets without incurring huge tax burdens.
  • Gives you significant control over how your assets are used after you are gone. 
  • Can protect assets from creditors.
  • They can even be used to help create or preserve eligibility for public funds when your assets or income might otherwise render you ineligible.

By setting up a trust, you reduce stress and emotional toll on loved ones and protect assets from misallocation, taxation, or misuse. It allows you to direct how your assets are used after you are gone. If you have any assets at all (a house, retirement savings, stocks, etc.), you will likely benefit from this estate planning tool.  

Read our recent blog on this topic to see the top 10 ways trusts can help middle-class families.

How Do I Create A Trust?

Trust law is state-specific and complex.

Once you understand some of the basic mechanics you’ll be able to do a lot of the preparation legwork on your own, but you should seek professional guidance to draft or review your actual trust agreement.

Much of the beauty of a trust lies in its ability to carry out your wishes after you’re gone. By consulting a professional estate planner or elder law attorney you can be certain that the language of the trust agreement will actually fulfill your intent.

Identify the Components of the Trust

What people and property are involved?

A trust works by creating a new legal entity—the trust—and transferring legal ownership of personal assets to that entity for the benefit of another party. The first thing you’ll need to do is specify the components.

Grantor

You are the “grantor” (also called the “trustor” or “settlor”), the person creating the trust.

Trustee

You need a “trustee” to distribute the assets in accordance with the directions in the trust document. In many cases, you are both the trustor and trustee while you are alive and capable, but you will also name a “successor trustee” to act when you become disabled or deceased.

Beneficiaries

Who is the trust for, during your lifetime and after your death? You need to identify all beneficiaries---everyone you want to benefit from the trust. Beneficiaries are typically spouses, children, or other family members, but you can include anyone you choose.

Assets

Finally, you will need to identify what property and assets will be placed into the trust. It can hold a variety of assets including money, stocks and bonds, real property, a business, or even a life insurance policy.

What Are Your Goals?

Before drafting the actual document, consider your goals.

"Before you start the Trust process, ask yourself two questions: What do you want the trust to accomplish? What concerns or issues do you want to address?"

Steven C. Holman, Estate Planning Attorney Tweet

The trust agreement is the actual document that formalizes the trust. The agreement lists the assets, specifies the parties (trustees, successor trustees, and beneficiaries), and lays out the provisions to formalize your wishes.

Provisions of a trust agreement usually contain two sets of instructions. The first set of instructions describes how the trust will operate during your lifetime and the second describes how it will be managed after your death. If a married couple set one up together (as they would in a “joint trust”), a third set of instructions may be included to describe how it will be handled on the death of the first spouse.

Drafting A Legal Trust Document

The trust agreement is the actual document that formalizes the trust. The agreement lists the assets, specifies the parties (trustees, successor trustees, and beneficiaries), and lays out the provisions to formalize your wishes.

Provisions of a trust agreement usually contain two sets of instructions. The first set of instructions describes how the trust will operate during your lifetime and the second describes how it will be managed after your death. If a married couple set one up together (as they would in a “joint trust”), a third set of instructions may be included to describe how it will be handled on the death of the first spouse.

Executing and Funding the Trust

Once you have a completed trust agreement, you will need to follow state-specific requirements to make a valid trust. This may include signing the documents in front of witnesses or having the agreement notarized. Some states also require public registration.

Finally, any property you want to be covered must actually be transferred into the trust. For any titled property, you need to have it retitled in the name of the trust by a deed, but for many things, you just need to execute an assignment of that property to the trust. You won’t place retirement accounts or annuities into the trust, so you need to make sure that the beneficiaries of those accounts are adjusted in order to operate in coordination with your trust.

Types of Trusts

What’s the Difference Between a Living Trust and a Revocable Trust?

A “living trust” and a “revocable trust” usually refer to the same thing, although technically not all living trusts are revocable. But all revocable trusts are living trusts, so “revocable living trust” tends to be abbreviated to “living trust.”

Taking a step back, trusts can be grouped in two ways, depending on:

  1. When it takes effect.
  2. Whether it can be modified or accessed after it takes effect. 

A trust that is designed to take effect during your lifetime is a “living trust” (also known as “inter-vivos”), whereas one that takes effect when the grantor dies is a “testamentary trust.” One that can be modified by the grantor, even after it is finalized, is a “revocable trust.” An “irrevocable trust” is one that cannot be modified, even by the grantor, once it goes into effect. 

Nolo offers a helpful breakdown of the terminology, here are the key points:

Revocable living trust

A trust that can be revoked and that takes effect during the life of the grantor. Becomes irrevocable at the death of the grantor. Usually made to avoid probate.

Testamentary trust

A trust created by instructions created in a will and that takes effect at the grantor’s death. Usually testamentary trusts are irrevocable, for example, a child’s trust made to name a trustee for property left to a minor.

Irrevocable living trust

A trust that cannot be revoked and that takes effect during the life of the grantor. Usually made to transfer wealth, protect assets, or reduce taxes.

If this still seems a bit confusing, don’t worry. For most people, the most relevant distinction to keep in mind is your ability to alter the provisions or to access the assets in a trust. So it’s best to think about a trust primarily in terms of whether it is revocable or irrevocable. Each of these has its own unique advantages.

Revocable Trust

This is a popular estate planning tool because it allows you to direct how your assets will be used while still allowing you to access and modify the trust. When people refer to a “living trust” this is typically what they have in mind (but remember that living trusts can also be set up as irrevocable, depending on your needs).

With a revocable living trust, you maintain control over all your assets and you can modify or update the provisions any time while you’re still alive. This adds important flexibility that allows you to change the terms as your circumstances or wishes change.

Advantages of a Revocable Living trust​

Bypasses Probate

If you don’t have any estate plans in place when you die, or even if you have a will, your estate will go through probate court before anything is passed on to heirs. This is a specialized court that deals with the property and debts of a person who has died. In a probate hearing the court will assess whether there are creditors who need to be paid and ascertain the proper beneficiaries of any remaining assets.

Probate can be a lengthy and costly process. It’s often confusing and emotionally draining and loved ones will need to deal with attorneys and court appearances. Fees will eat away at your estate and it can drag on for months.

Fortunately, assets held in trust do not require a probate proceeding. This allows heirs to access their inheritance right away and avoid the uncertainty and emotional toll of months of court proceedings.

Protects Your Wishes

A living trust allows you to control how assets are used, not only after you are gone, but also during your lifetime should you become incapacitated.

You will spell out precisely to whom, how, and when your trustee should distribute assets. Whether you just want to make sure the right people receive their inheritance, or if you want more direct control over how your assets are used (say, by setting up an educational fund for future generations), this ensures that your estate is managed according to your wishes.

Provides Flexibility

The key difference between revocable and irrevocable trusts is that you can modify a revocable trust however you like at any point during your life. As your situation changes over time you may want to add or remove heirs, change the amount of an inheritance, or modify other provisions. A revocable trust gives you the flexibility to make these changes.

Maintains Privacy

Finally, because they bypass probate court, assets in a trust can be managed privately. This is in contrast to a probate proceeding that is public record; probate requires the public reporting of all assets in the estate.

Disadvantages of a Revocable Living trust​

No Protection from Creditors and Lawsuits

Because you still maintain control of everything in a revocable trust and have access to it, assets are not protected from creditors or lawsuits.

No Tax Benefits

They are not tax shelters and do not provide any special tax benefits.

Irrevocable Trust

An irrevocable trust has all the same components of a living trust except that you can not alter it after it takes effect.

But why would you sacrifice your ability to make changes?

By technically giving up your ownership and the ability to access assets, irrevocable trusts provide some very significant benefits. And what’s more, even though you will have given up legal access to the assets you may still be able to benefit from these assets, depending on the terms of the irrevocable trust.

Advantages of a Irrevocable Living trust​

Irrevocable trusts are primarily about protection.

Like revocable trusts, an irrevocable trust protects your wishes, bypasses probate, and is administered privately. The main difference is that an irrevocable trust also provides protection from taxation, creditors, and lawsuits. And because you don’t have access to the funds it can also remove assets and income from being ‘countable’ against public funds.

This can protect eligibility for public programs like Medicaid, SSI, or VA benefits while protecting the assets themselves from being spent down.

Protects Assets from Creditors and Lawsuits

If you have an irrevocable trust for all your assets, then the trust actually owns those assets. That means creditors can’t reach them. Likewise, because you do not maintain control of your assets or have direct access to them, they are protected from any lawsuits against you.

Tax Benefits

Estate and gift taxes are hefty taxes that impact the transfer of inherited and gifted property. When you pass on your estate, a significant portion of it (as much as 40 percent!) may be lost to taxes without proper planning. But since you’ve given up ownership of anything listed in an irrevocable trust, it’s technically owned by the trust and will not be taxed when you die.

Access to Government Programs

Many public benefits programs like Medicaid, VA pensions, or SSI have strict eligibility rules based on income and assets. An irrevocable trust can lower your taxable income and render your assets not ‘countable’ so you (or a family member) can maintain eligibility for these programs without having to spend down your assets.

Disadvantages of a Irrevocable Living trust​

You Can't Modify It

Irrevocable trusts can’t be modified once they take effect—they’re irrevocable. Since you don’t technically own what you put in it you won’t be able to access or change an irrevocable trust. In practice, it may be possible to make changes but even in a best-case scenario, this will require you to go through a legal process, whereas a revocable trust allows you to make changes at any time.

The rigidity here can be a major drawback, but for those who don’t need the flexibility, the tradeoff could be well worth it. For folks with more complex needs, it’s not uncommon to see more than one type of trust used in conjunction, alongside other estate planning tools.

Common Types of Irrevocable Trusts

These are created from your Last Will and Testament and are typically created to preserve assets for minor children, children from prior marriages, spouses, or beneficiaries with special needs. These trusts protect against an inheritance falling into the wrong hands or being spent unwisely.

For Medicaid, planning can be critical; with proper advance planning, the MAPT will preserve assets and allow an individual to qualify for Medicaid without impoverishing their spouse or loved ones.

The VAPT will preserve assets, especially the primary residence, and allow a Veteran or their surviving spouse to not only maximize the VA pension benefit but also preserve assets to cover the increasing costs of long-term care.

Frequently Asked Questions About Trusts

Question: “Why should I put my house in a Trust?”

Answer: There are three big benefits to putting your house in a trust.

First, it avoids probate, saving your heirs thousands of dollars and many months of their time.

Second, your trustee can continue to maintain the house until it is transferred to your beneficiaries which prevents the house from losing value from neglect while waiting for a court to approve your will and appoint your executor.

Finally, if you're incapacitated during your lifetime, your trustee can look after your house (pay taxes and utilities, make repairs, maintain the yard and living spaces) until you recover.

Question: “Can I, as the trustee, sell my house if it is in a revocable living trust?”

Answer: Yes, not only are you able to sell your house, you may purchase another house within the trust or transfer the funds out of the trust to make another purchase.

Question: “Will I lose my homestead exemption if I transfer my house to a revocable living trust?”

Answer: No, so long as it contains language stating that it is a qualified trust for purposes of maintaining the homestead exemption.

I Need a Trust, What’s My Next Step?

The basic concept of a trust isn’t that complicated, but its enormous utility comes from its adaptability—how much you benefit from one will depend on how well it is tailored to your situation

Boilerplate templates can offer a good starting point, but they’re deliberately nonspecific in order to apply to the greatest number of situations. It’s not a good idea to rely on templates and online forms alone because there are so many unique variables that must be considered. It might not be worth the cost savings if a trust doesn’t end up functioning in the way you intended. 

Still, you can do some of the preliminary planning on your own to save time and trim some of the expense from an estate planning service. You can get started right away by identifying your goals, as well as the people and property that you want included in a trust (see above How Do I Create a Trust).

We Can Help You Set Up A Trust in Texas

Consult an expert estate planning attorney to help you match you with the appropriate trust to meet your goals. To get started, schedule a free consultation by filling out the form below.

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