Everyone enjoys watching movies. It’s something that really brings people together while they share the story of the characters on screen; I love it.
The other day, I was going through my movies and found the Bourne Series. If you are unfamiliar with Jason Bourne AND you enjoy great films, I strongly suggest this series. Bourne is one of the only individuals whom I can recall who would not benefit from estate planning, as he is a vagabond with no assets save for the clothes on his back and no objective in life but to right the injustices the world places before him. If you closely identify with Bourne, this article is not directed at you. But if you’re like his real-life actor Matt Damon, with a family and assets, do you need to consider establishing a trust?
It is a common misconception that trusts are only for the wealthy. Trusts are legal mechanisms which allow anyone to put conditions on the distribution of trust assets (those assets owned by the trust) upon death. This use for a trust exists in a vast majority of the estate plans we help create, regardless of the testator’s wealth.
Like estate planning, the purpose of a trust is to emphasize the planning aspect and allow the grantor precise control over his or her estate after death. We are especially fond of testamentary trusts to help plan for any contingencies which may arise, however there are essentially two types of trusts: living trusts and testamentary trusts.
Living trusts (also called inter-vivos trusts) are set up during the grantor’s lifetime. They can be either revocable (changeable by grantor) or irrevocable (cannot be changed by grantor).
The following are some examples of living trusts:
Revocable Trusts are a popular probate avoidance device. The grantor is the individual who contributes the assets to the trust, is the trustee, and the beneficiary of the trust during their lifetime. The terms of the trust directs the disposition of the assets of the trust after the grantor dies. The grantor reserves the right to amend or revoke the trust at any time. Because of the extensive controls and rights of the grantor, they are ignored for both income and estate tax purposes (i.e. they do not save or avoid any income taxes or estate taxes which the grantor would otherwise pay). The key advantage to these trusts are: (i) that the assets of the trust are not subject to the probate process or its attendant fees and costs; and (ii) they are “private” in that there is no requirement to file them with the Court when the grantor dies. Even if a grantor establishes a revocable trust they should still have a Will so that any of the assets which the grantor did not previously transfer to the trust would become part of the trust aftert the grantor’s death.
Irrevocable life insurance trusts (ILIT) can be established to remove the proceeds of life insurance from your taxable estate. Once established, an ILIT is generally not subject to change by the grantor. The ILIT itself owns the insurance policies (and all the incidents of ownership), receives the proceeds when the grantor dies, and distributes the proceeds in accordance with its terms. The grantor can transfer presently existing policies to the trust (which remain part of the grantor’s taxable estate for 3 years) or the trust itself can apply for, and buy, a “new” policy on the grantor (which are immediately excluded from the taxable estate). The funds or the insurance policies that the grantor contributes to establish this trust are considered to be a “gift” for gift tax purposes.
Charitable remainder trusts (CRT) present a unique opportunity for those with a charitable intent. The grantor retains a right to payment from the trust (either a fixed payment or a percentage of the assets) for a period of time or the death of the grantor (whichever comes first), and thereafter the assets go to charities designated by the grantor. Although the payments to the grantor MAY be subject to income tax (depending on the composition of the assets and the amount of the payments), the grantor gets a charitable deduction upon funding the trust, and any capital gains from the CRT’s sale of assets are attributed to the charity rather than the grantor (hence, these are often funded with appreciated which are promptly sold by the CRT and re-invested). Grantors of CRTs often use the tax savings from the charitable deduction to purchase a life insurance policy which “replaces” the assets transferred to the CRT.
By their very nature, trusts are complicated.
So, now that I’ve discussed living trusts that can be established in a grantor’s lifetime, I’ll move on to trusts which are established after the grantor dies: a testamentary trust. These trusts take their name from the fact that they are established by the grantor’s Last Will and Testament. The purposes of these trusts are to prevent a beneficiary from squandering their inheritance as well to make sure the beneficiary has access to the funds for reasons that the grantors specifies (like education or health care needs).
Choosing a trustee for a testamentary trust can be a tricky thing. Because they only come into existence after the grantor dies, the Will should specify who will act as trustee. Although our clients sometimes want family members to be trustee we recommend that they chose a financial institution (bank’s trust department) to act as trustee for several reasons:
- Banks often have greater access to investments to increase the value of the trust than family members;
- Banks often have greater financial expertise than family members;
- Banks have insurance and bonding in place in the event there are problems in the administration of the trust;
- In the event there is a disagreement between the beneficiary/beneficiaries and the Banks, there will still be harmony in the family (the children of a child are not mad at their Uncle).
As indicated above, a primary reason for establishing a testamentary trust is to protect/preserve a bequest until a beneficiary is capable of using good judgment. Accordingly, the beneficiaries are normally described by age. Example: if any beneficiary is under the age of 30 their share will be held in trust.
Until they reach the specified age(s) of distribution, the trustee is charged with investing the assets and spending the assets on behalf of the beneficiary in ways specified by the deceased grantor. Example: the Trustee shall expend such sums from the principal or income from the trust as shall be necessary to pay for the education, health care needs, and reasonable living expenses. This raises difficult questions and drafting problems. How much discretion should a trustee be authorized to exercise? Stated alternately, how should a testamentary trust be drafted so that it is unduly restrictive but provides sufficient guidance for the exercise of the trustee’s authority? We attempt to ameliorate this problem by including a set of “principles” to provide direction to the trustee.
To quote the poet, sage and philosopher, the late, great, George Harrison: “all things must pass.” In the current context, this means that at some point the trust must terminate and distribute the principal to its beneficiary(ies). This can be any age, or any set of conditions. We recommend that there be at least two distributions at least several years apart. This allows a beneficiary to “mature” and/ or recover from a previous lapse of judgment.
Although testamentary trusts are often used to preserve a bequest for an underage/inexperienced beneficiary, it is also common for a testamentary trust to be established to protect a bequest to a surviving spouse. In these marital testamentary trusts, the surviving spouse receives all of the income of the trust for their life (distributed at least annually), and the right to distribution of principal in the event of need (health care, maintain standard of living), but any principal remaining at the surviving spouse’s death goes to the children.
We normally include a testamentary trust in every Will we draft for our clients. Jason Bourne, who created so many (fictional) widows and underage beneficiaries, wouldn’t need a testamentary trust, but if you have a “real life” spouse and/or children you should consider including a testamentary trust in your Will.
If you, or someone you know, are in need of legal services regarding estate planning please feel free to contact the Kreamer Law Firm, P.C. through our website or by calling 515-727-0900.