Understanding trusts
Protect your wealth today. Maximize the legacy you leave for future generations. These are the two primary reasons for establishing a trust. Although each trust is unique, there are a few common elements and structures you should understand.
Why establish a trust?
Trusts can provide many valuable benefits to wealthy younger families including:
- Providing for family members if something should happen to you
- Dictating the distribution of your assets to specific beneficiaries
- Helping transfer highly-appreciated assets tax efficiently
- Ensuring continued care of a loved one with special needs
- Insulating family wealth from lawsuits, creditors and divorce
- Leaving a charitable legacy
First, the grantor works with an attorney who writes the trust document based on the grantor’s wishes for the distribution of specific assets.
The grantor then chooses a responsible individual or firm to serve as trustee — holding and administering the assets for the benefit of the beneficiary.
The trustee, in turn, explains the terms and conditions of the trust to the beneficiary.
What's in a trust?
Principal — the assets it holds like cash, stocks, bonds and real estate
Income — its earnings over time, including interest, dividends, rent and royalties
Trust types
There are a wide range of trusts, all designed for specific purposes such as removing the value of your home from your estate, passing life insurance proceeds outside of probate or protecting an inheritance for a spendthrift child. All trusts, however, fall into two broad categories — revocable and irrevocable:
Revocable Trusts
- Sometimes referred to as revocable living trusts
- Created by the grantor during his or her lifetime to plan in case of incapacity and/or avoid probate when they die (reducing court costs and providing privacy)
- The grantor:
- May change the trust at any time
- May terminate the trust
- Has free access to the assets
- As a result, they don’t provide any creditor protections or tax savings benefits
Irrevocable Trusts
- Usually created by the grantor to benefit others, such as children/grandchildren
- Primarily used to hold lifetime gifts for the beneficiaries and to receive assets following a grantor’s death
- The grantor:
- Generally cannot change the trust in any meaningful way
- Gives up ownership and control of the trust assets (although may retain some control through the terms established in the trust document)
- Tax planning and asset protection are two reasons these trusts may stay in place for multiple generations
Trustee duties
In addition to following all directions in the trust document, the trustee is responsible for:
- Assuming legal responsibility for administration of the trust
- Taking control of and protecting trust assets
- Handling accounting responsibilities of the trust
- Strategically managing and investing trust assets
- Filing trust tax returns
- Reporting to the beneficiaries
- Making income and principal distributions to beneficiaries as permitted by the trust
- Managing the tax standing and tax issues of the trust
- Acting impartially in the best interests of all beneficiaries
The trustee may be one or more individuals, a corporation or a combination of the two serving as co-trustees.
Are you a trust beneficiary?
You’re probably the beneficiary of an irrevocable trust that was created by a family member to provide you with financial resources and security. Here’s a few thing you may want to consider doing:
Meet with the trustee to review the terms of the trust, so you understand your benefits and options.
Questions to ask:
Does the trust require periodic income distributions?
Can you request additional discretionary distributions?
Can trust assets be used for specific purposes (for example,
buy a home, start a business, fund an education)?
Does the trust terminate at a particular time?
If so, who receives the remaining trust assets?
Learn how the trust assets are invested. Distributions of trust income are made up of interest, dividends, rents, royalties, etc., which may be taxable to you.
Questions to ask:
Are the payments you receive taxable to you?
What’s the investment objective for the trust portfolio?
What investments are being held in the trust and how/why were they chosen?
Determine whether you have any control over the ultimate distribution of the trust either during your lifetime or through your estate.
Questions to ask:
What does it mean to have power of appointment?
Is that power in any way limited in its scope?
Do you have any control over the ultimate distribution of this trust?
Find out if you will have the opportunity to become a co-trustee or the sole trustee of your own trust.
Questions to ask:
If you will become a trustee, what duties will you have?
How can you best prepare yourself for a future role as a trustee?
Trust FAQs
Here are several questions we often hear from beneficiaries.
What’s Next?
Make sure you meet regularly with your trustee and obtain a copy of the trust document for your files. Talk to both your tax advisor and attorney about the specifics of the trust. And make sure you carefully review the trust account and investment statements you receive.
1 A fiduciary is a person or organization that acts on behalf of another person or persons to manage assets. Being a fiduciary means that one is bound ethically to act in the other's best interests.
2 In some cases, the grantor can also serve as the trustee.
