29th Dec 2021

Estimated reading time: 4 minutes

A Trust is a legal arrangement by which assets are held for someone’s benefit. The person who creates the Trust is called the Grantor, Settlor, or Trustor. The person who holds legal title to the trust assets and carries out the terms of the legal arrangement is the Trustee. A person or entity for whose benefit the trust assets are held is called a Beneficiary.

Types of Trusts

A Testamentary Trust is a trust the terms of which are contained in a person’s Last Will and Testament. A Testamentary Trust only becomes effective after the Grantor’s Will is accepted by the probate court after the Grantor’s death, and after assets are allocated to the Trustee of the Testamentary Trust by the personal representative (formerly called the executor) named in the Will.

A Revocable Trust (sometimes called a Revocable Living Trust) is one that the Grantor creates during lifetime. As the name implies, the Grantor may revoke or amend the trust agreement so long as the Grantor is living and competent. A Revocable Trust often contains provisions specifying what is to happen to the trust assets after the Grantor’s death, in much the same manner as a Will. The Grantor of a Revocable Trust most often serves as the initial Trustee of the Trust and is also the Beneficiary of the Trust during lifetime.

Assets held in a Revocable Trust are not protected from the Grantor’s creditors because the Grantor still has complete control over the assets because of the right to revoke the Trust. Income generated by the assets in a Revocable Trust is taxed to the Grantor under the Grantor’s social security number and is reported on the Grantor’s personal income tax returns so long as the Grantor lives. Upon the Grantor’s death, the Revocable Trust becomes irrevocable because the Grantor was the only one with the right to amend or revoke the trust.

An Irrevocable Trust, as the name indicates, is one that cannot be revoked or amended. The Grantor generally is not the Trustee. Because the Irrevocable Trust cannot be revoke or amended, when the Grantor transfers assets to an Irrevocable Trust he loses the ability to continue to use and control those assets. Therefore, Irrevocable Trusts are used only for certain purposes, most commonly:

*To avoid estate tax on life insurance proceeds by transferring ownership of insurance policies on the Grantor’s life to the Trustee, who then names the Irrevocable Trust as the beneficiary of the policies (Irrevocable Life Insurance Trust.)

*To protect trust assets from possible future claims of creditors of the Grantor (Asset Protection Trust).

*To protect assets fro the benefit of a beneficiary who is receiving government benefits that would be lost if the beneficiary received the trust assets outright (Special Needs Trust).

Funding the Trust

Once a trust agreement is created, the Grantor needs to transfer assets that are to be subject to the trust provisions so they are owned by the Trustee.

*Real estate is generally transferred by a quit claim deed from the Grantor to the Trustee.

*Bank accounts and stock accounts are transferred by completing paperwork supplied by the financial institution that holds the assets. The financial institution may request a Certificate of Trust, which is an affidavit certifying that the Trust exists and identifying the Trustee and the Trustee’s powers under the trust agreement.

*Life insurance can be made payable to the Trust by naming the Trustee as the beneficiary of the policy on a Change of Beneficiary form supplied by the insurance company.

Certain assets are generally not good candidates for transfer to a Trust. IRAs, 401k accounts, and other deferred income assets, if payable to a Trust as beneficiary, will incur income tax sooner and at higher rates than would be imposed on those accounts if payable to individuals.

Who Should be the Trustee?

In the case of a Revocable Trust, the Grantor generally acts as the Trustee so long as the Grantor is living and competent. However, it is important to select one or more successor Trustees to take over when the Grantor dies or becomes incapacitated, or to be Trustee from the outset if the Grantor cannot serve as the Trustee. A good Trustee must be scrupulously honest and fair in carrying out the terms of the trust agreement, have the time and willingness to take on what can often be a lengthy and challenging task, and be willing to seek professional advice with respect to certain aspects of trust administration. An attorney, accountant, or investment advisor who assists and advises the Trustee is paid from the trust assets, not from the personal assets of the Trustee. The Trustee may charge a fee for acting as Trustee, based on what is fair and reasonable for the tasks the Trustee is required to perform.

Some financial institutions have trust departments, but often require a hefty minimum value of trust assets before they are willing to accept the role of Trustee.

Written by Katherine B. Albrecht