Trusts

Trusts can be one of the most effective tools in your estate plan. Properly drafted and established trusts can help avoid probate, create tax advantages, assist in Medicaid eligibility and protect property from creditors.

A trust is a legal agreement whereby one person, known as the trustee, holds legal title to specific property for the benefit of another person, known as the beneficiary. The trustee must function within rules specified in the trust itself.

There are two categories of trusts: testamentary (created by a Will) and inter vivos (created and existing during the lifetime of the creator).

Testamentary trusts are trusts created by a Will and have no effect until the creator dies and the Will is admitted to probate. A testamentary trust can help reduce estate taxes and provide for minor or disabled children.

Credit Shelter Trust

A credit shelter trust is a testamentary trust designed explicitly for tax savings purposes. The trust allows the total assets of a married couple to be doubled for the purpose of passing assets on tax-free. For example, if in 2006 a couple has an estate valued at $3 million, $1 million is taxable because only the first $2 million is exempt under the present law (click here to see a table of the Federal credit 2004-2011). By creating credit shelter trusts in both spouses' Wills, the effective credit becomes $4 million because each spouse is permitted to use the entire $2 million exemption. Upon the death of the first spouse, $2 million is placed into the trust. The surviving spouse can receive income from the trust for the duration of her lifetime and, upon her death, the principal will pass on to the children (or other beneficiaries) tax-free.

Trust for Minors

You can create a trust in your Will that serves to protect and provide for minor children or grandchildren by controlling how and when distribution should be made. You may direct that assets be distributed in specific amounts and/or specific intervals or ages of the beneficiaries.

Supplemental Needs Trust (see also, Disability Planning)

A Supplemental Need Trust (SNT) can be testamentary or inter vivos and is designed to provide for the continuing care of a disabled individual without disruption of public benefits, such as SSI and Medicaid. Trust assets may be used to provide for items or services not covered by governmental benefits, such as computer equipment, vacations, special medical equipment and home modifications.

Inter Vivos (living) trusts are trusts created during lifetime and designed to be effective during the creator's lifetime.

Grantor Retained Annuity Trust (GRAT)

A GRAT enables you to transfer assets out of your estate and have them valued at a fraction of their current value for estate-tax purposes. Such a transfer allows you to retain a stream of income from the assets for a fixed number of years.

A GRAT is an irrevocable trust into which you can place income-producing property such as cash, stocks, mutual funds or real estate. The trust creator (grantor) can receive the income produced by the trust assets for a fixed period of years in the form of an annuity. The fixed term of the trust is specified when the trust is initially set up and can be any amount of time. At the end of the time period, the trust assets pass directly to the named beneficiaries.

The main objective in creating a GRAT is estate and gift tax savings. If the grantor outlives the term of the trust (and the trust should ideally be designed with this in mind), the beneficiaries get the assets with potentially significantly reduced gift tax consequences and no estate tax consequences.

Charitable Remainder Trust

A charitable remainder trust is a life income gift in which you transfer assets now, receiving a charitable deduction for a portion of the transfer, and you or a beneficiary receives income (tax-free) for the rest of your life or a fixed period of time.

Like a grantor retained annuity trust (GRAT), a charitable remainder trust is an irrevocable trust funded with income-producing assets. The trust then provides income payments to you or a named beneficiary for a fixed period of time or until the death of the beneficiary. At that time, the remaining assets are transferred from the trust to a qualified charity of your choosing.

Once again, the main advantage of the CRT is to reduce the amount of your taxable estate, thereby reducing estate taxes upon your death.

Qualified Personal Residence Trust

A Qualified Personal Residence Trust (QPRT) is an irrevocable trust funded with your ownership interest in a personal residence, effectively excluding the full value of the residence from your estate. Neither the residence nor its value will be subject to estate tax.

As the donor, you transfer title to the residence (primary or a vacation home) to the trust, retaining the right to continue to use the residence for a term of years. Your right to use the residence terminates when the QPRT term terminates (although you and the beneficiaries may agree that you will continue to use the residence and pay fair market rent) and the residence will not be included in your estate for estate tax purposes.

Irrevocable Life Insurance Trust (ILIT)

The beneficiary of a life insurance policy generally will not pay income tax on receipt of the policy proceeds. The value of the proceeds will be included in your estate for the purpose of calculating estate taxes if you owned the policy at the time of death. This can be a very expensive consequence.

An irrevocable life insurance trust (ILIT) could save tens or hundreds of thousands of dollars in estate taxes because the trust owns the life insurance policy for you. Since you do not personally own the insurance, it will not be included in your estate.

You create the trust, select the trustee and designate the beneficiaries. Thus, you control the trust by creating a set of instructions the trustee must follow. The assets in this trust will bypass your estate and your spouse's estate and go directly to your kids (or whomever you name as beneficiary). This avoids estate taxes in both estates, saving a high percentage of your insurance proceeds. Proceeds in the trust can be used to pay estate taxes, pay for your children's or grandchildren's education, or be earmarked for almost any other purpose.