If you’re thinking ahead about the legacy of money and assets, you should know the ins and outs of trust funds. Setting up a trust requires an investment of time and money, but it can provide peace of mind and make transferring your assets to your beneficiaries a much smoother process.
Below, you’ll find answers to questions like:
What is a trust?
What does a trust do?
What is a living trust and do I need one?
What is a revocable trust?
Learn more about the main types of trusts, when and why you might need one, and the process of creating a trust, below.
What Is a Trust?
A trust is a legal agreement charging another party (the trustee) with care of assets until a specified time when they are transferred to designated beneficiaries. Trusts can be used to manage family wealth, simplify estate planning, reduce estate taxes, and avoid going to probate court.
The Basics
The person who initiates a trust is called the “Grantor.”
The person or institution managing the trust and carrying out its instructions is called the “Trustee.”
The recipients of the assets in the trust are the “Beneficiaries.”
If you’re wondering if you need a trust, you should know they’re not just for the super wealthy. A trust can be a useful tool for anyone with property or assets who wants the peace of mind of knowing there’s a plan in place should anything happen to them.
The Benefits of Trusts
So what does a trust do? Similar to having a will, a trust is a tool for protecting your assets and making sure your wishes are carried out. Most people don’t think about trusts when they’re young and healthy, but it’s never too early to explore these valuable tools. That starts with understanding the advantages of trusts.
A Trust Can Make Things Easier for Your Heirs
One of the key benefits of having a trust vs. a basic will is that your beneficiaries can avoid going to probate when you pass. This will save them a lot of potential hassle and cost, since probate can be a lengthy legal process that usually requires hiring an attorney to help them through.
A Trust Can Prevent Confusion and Arguments
Trusts have more flexibility than a will because you can control distribution of your assets while you’re still alive.
You Can Include Extra Provisions in a Trust
You’ve probably heard horror stories about families struggling to sort out the finances when a parent loses their mental faculties. A trust, unlike a will, can stipulate that your wishes go into effect should you become disabled or incapacitated.
Trusts Help Maintain Your Privacy
Some legal documents become public record, but a trust is not one of them. The only people who will see the trust details are your trustees and beneficiaries.
Trusts Can Protect Your Assets
If you’re concerned that creditors try to claim your heirs’ assets, a trust can help prevent that. A basic trust might not include these protections, so be sure to discuss options with your attorney when you’re getting set up.
Pro Tip: Trusts are an important financial planning tool, but so is life insurance. See why term life insurance is almost always better than whole life: Term vs Whole Life Insurance: What’s the Difference?
The Drawbacks of a Trust
Though there are some clear advantages to creating a trust, there are also a couple of downsides.
Setting Up a Trust can be Time-Consuming
Depending on the complexity of your assets, setting up a trust can take a couple of days or several weeks. But there’s a lot of thought and decision-making involved, too, requiring a time commitment.
There are Costs Involved in Setting up a Trust
The cost to set up a trust varies greatly with the depth and breadth of your assets and the complexity of your instructions. A simple trust can cost as little as $1,000, but a highly complex trust can cost as much as $10,000 or more.
The Types of Trusts
There are many types of trusts, but it’s important to know the difference between two main categories:
Irrevocable Trusts
An irrevocable trust is used to transfer assets out of your name, usually to reduce your tax liability. Once an irrevocable trust is executed, changes can’t be made and you lose control of those assets.
Revocable Trusts
A revocable trust offers the most flexibility, allowing the grantor to stay in control of assets while they’re still alive, and make changes or dissolve at any time. For the purpose of planning how your assets will be distributed, a revocable trust is the one most people will need.
Other Types of Trusts
Special Needs Trust: A special needs trust lets you distribute assets to someone with a disability. Because trust fund money does not count as income, the beneficiary can access additional funding and continue receiving public assistance that has income restrictions.
Irrevocable life insurance trust (ILIT): The purpose of this trust is to allow beneficiaries to collect from a life insurance policy without having to worry about estate taxes.
Qualified Terminable Interest Property (QTIP) trust: These are set up to provide income for a surviving spouse, while also distributing assets as specified. This is especially useful if you want to give an inheritance to children from a prior marriage in addition to your current spouse.
Grantor Retained Annuity Trust (GRAT): This type of trust allows the grantor to earn annual income from the trust while they’re still alive, then transfer remaining assets to their beneficiaries.
Pro Tip: A trust is a sound long-term financial planning tool, but make sure to devote some energy to short term goals like debt paydown and investing. See our article: 7 Short-Term Financial Goals You Can Use
How a Revocable Trust Works
The key feature of a revocable trust is that the grantor has full control over the trust until they die (or become incapacitated). Before that point, they can make changes, add or subtract assets from the trust, change beneficiaries, or dissolve the trust entirely. This is important because major life changes can impact your wishes.
Some reasons you might consider a trust include:
You have young children (or grandchildren) and want a way to preserve assets for them until they come of age. You can specify in your trust the exact age when assets will be released to them, and how that distribution will take place (all at once or periodic payments, for example).
You’re concerned about what would happen if you developed a health issue. A trust can give you peace of mind that if you lose your ability to make financial decisions for a period of time or permanently, your assets will be protected. A trustee can also take care of your finances if you wish.
How to Set Up and Manage a Revocable Trust
Sit down with your financial advisor, CPA, and/or an attorney in your jurisdiction and discuss your wishes and requirements. Do this before your start to think about allocating your assets or how to set up a trust that works for you.
Decide which assets you want to put into your trust. Remember, with a revocable trust you can always add or remove assets later if your situation changes.
Choose your beneficiaries. These are the people you want to receive your assets.
Decide who you want your trustee to be. Your trustee can be a person or a financial services company (like a bank).
Draft a trust document. You should work with an attorney to help you decide what type of trust is best for you and the specific provisions you want to include.
Apply for a taxpayer identification number from the IRS. You’ll need this for your tax returns.
Sign the trust and get it notarized. This makes it official.
Set up your trust account. You’ll need a new bank account to fund the trust.
Move assets into the trust. This involves legally changing ownership of the assets. This could mean changing property deeds, car titles, and other legal documents. You can also designate that your retirement accounts automatically move into the trust upon your death.
Before you set up a trust, make sure your beneficiaries are ready for the workforce with a solid education. See our article: How Much to Save for College.
How to Make Updates to a Trust
If your life situation changes and you want to update your trust, you have a couple of options to consider. One is to fill out a trust amendment form where you’ll list your changes, preserving the original document. For complex revisions, you might decide to do a trust restatement, which is essentially a rewrite of your original trust.
Who Can You Hire to Set Up a Trust?
In almost all cases, it’s best to hire an attorney who specializes in writing trusts to help you get set up. Though you might technically be able to draft a trust yourself, there are state requirements to follow, and an attorney can help you avoid costly errors.
However, the first step is to sit down and have a big picture conversion with a financial advisor. They can help you talk through your goals and figure out your priorities, as well as discussing the tax implications of your decisions.
Pro Tip: You may want to start by discussing your plans directly with your CPA, given that the tax implications of trusts can be complex, dynamic, and are sometimes a key driver in decision making around trust formation.
Protecting Your Legacy
A living trust can be a useful tool for estate planning and managing your wealth. After a lifetime of working to grow your assets, you’ll feel good knowing that your beneficiaries can actually benefit from what you’ve left them.
With that worry taken care of, you can focus on continuing to work toward financial independence and making your money work for you. Monarch can help you set up financial goals, make a plan, and track your progress.
