A trust is a legal arrangement in which a person (called a trustor, settlor, or grantor) transfers ownership of assets to another person (called a trustee) to hold and manage for the benefit of a third person (called a beneficiary).
Trusts are often created to manage assets for the benefit of children, charities, or other beneficiaries who may be unable to manage the assets on their own or who may need protection from creditors or lawsuits.
Types of Trusts
There are many different types of trusts, each with its own specific features and purpose. Some common types of trusts include:
- Revocable trust: A revocable trust can be amended or revoked by the trustor at any time.
- Irrevocable trust: An irrevocable trust cannot be amended or revoked once it has been created.
- Living trust: A living trust, also known as an inter vivos trust, is created during the trustor’s lifetime.
- Testamentary trust: A testamentary trust is created by a will and becomes effective after the trustor’s death.
- Charitable trust: A charitable trust is used to support charitable causes.
- Special needs trust: A special needs trust is used to provide for the financial needs of a beneficiary with special needs without disqualifying them from government benefits.
- Spendthrift trust: A spendthrift trust is used to protect assets from the beneficiary’s creditors.
- Asset protection trust: An asset protection trust is a type of trust that is used to protect assets from creditors, lawsuits, and other legal claims. Asset protection trusts are often used by high net worth individuals or business owners who are concerned about the potential risks to their assets from lawsuits or other legal actions.
- Generation-skipping trust: A generation-skipping trust is used to pass assets to grandchildren or more distant descendants, skipping over the trustor’s children.
- Grantor retained annuity trust: A grantor retained annuity trust (GRAT) is a type of irrevocable trust used for tax planning purposes.
- Qualified personal residence trust: A qualified personal residence trust (QPRT) is a type of irrevocable trust used to transfer ownership of a personal residence while retaining the right to live in the property for a specified period of time.
- Irrevocable life insurance trust: An ILIT, or irrevocable life insurance trust, is a type of trust that is used to hold life insurance policies and manage the proceeds of the policies for the benefit of the trust’s beneficiaries. An ILIT can be a useful estate planning tool because it can help to reduce or eliminate estate taxes on the proceeds of a life insurance policy.
- Qualified domestic trust: A QDOT, or qualified domestic trust, is a type of trust that is used to hold assets for the benefit of a non-citizen spouse of a U.S. citizen. QDOTs are typically used to avoid the federal estate tax that would otherwise be due on the assets of a non-citizen spouse at the time of their death.
Potential Benefits of Forming a Trust
Some benefits of trusts include:
- Asset protection: Trusts can be used to protect assets from creditors, lawsuits, and other legal claims.
- Estate planning: Trusts can be used to manage and distribute assets after the trustor’s death, allowing the trustor to have more control over what happens to their assets.
- Tax advantages: Trusts can be used to reduce or eliminate estate and gift taxes, as well as to provide income tax benefits.
- Professional management: Trusts can be used to provide professional management of assets, which can be particularly useful for people who are not able to manage their assets due to illness or other reasons.
- Privacy: Trusts can be used to keep financial affairs private, as trust documents are generally not a matter of public record.
- Flexibility: Trusts can be customized to meet the specific needs and goals of the trustor and the beneficiaries.
Potential Drawbacks of a Trust
Some drawbacks of trusts include:
- Cost: Setting up and maintaining a trust can be expensive, as it may require an accountant and other advisors.
- Complexity: Trusts can be complex legal instruments, and understanding how they work and how to manage them can be challenging.
- Inflexibility: Once a trust is set up, it can be difficult to change the terms or provisions of the trust. This is not true for most revocable trusts.
- Lack of control: Trustors who transfer assets to a trust give up direct control over those assets, which can be a disadvantage if the trustor wants to retain control of their assets.
- Limited use: Trusts are not suitable for all situations, and may not be the best option in every case.
- Public disclosure: A few types of trusts, such as charitable trusts, must be registered and may be subject to public disclosure, which can be a disadvantage for people who value privacy.
How to Form a Trust
To form a trust, you will need to take the following steps:
- Choose a trustor: The trustor is the person who creates the trust and transfers ownership of assets to the trust.
- Choose a trustee: The trustee is the person or organization responsible for managing the assets in the trust.
- Choose a beneficiary: The beneficiary is the person or organization who will receive the benefits of the trust.
- Identify the trust property: The trust property is the assets that will be transferred to the trust. These can include real estate, financial accounts, personal property, and other assets.
- Prepare the trust document: The trust document is a written agreement that sets out the terms of the trust, including the roles and responsibilities of the trustor, trustee, and beneficiary.
- Sign the trust document: The trustor and trustee must sign the trust document in the presence of a notary public.
- Transfer ownership of the trust property: The trustor must transfer ownership of the trust property to the trustee. This can be done by transferring legal title to the property or by transferring ownership of financial accounts or other assets.
- Fund the trust: The trustor must transfer assets to the trust in order for the trust to be funded. This can be done by transferring ownership of assets to the trust or by making monetary contributions to the trust.
- Administer the trust: The trustee must manage the trust assets and distribute them to the beneficiary according to the terms of the trust document.
It is important to get help when setting up a trust, as trusts are complex legal instruments and there are many rules and regulations that must be followed. Contact us to get more information about whether a trust may be right for your situation.