Published June 20, 2013
You can call the shots long after you're dead and gone if you set up a trust while you're still around.
5 benefits of trusts
Avoid estate taxes
Protect assets for heirs
1. Avoid estate taxes
The estate tax exemption has been set at $5 million, indexed each year for inflation. That means that in 2013, estates of more than $5.25 million, or $10.5 million per couple, will be taxed at 40%. Using irrevocable trusts, you can make sure most or all of what you leave behind makes its way to the people or charities you desire, rather than to Uncle Sam.
"Very often, people with significant assets start to think about passing assets to the next generation in a tax-efficient manner," says Lisa A. Schneider, an attorney at Gunster in West Palm Beach, Fla., who specializes in estate planning. "If a client's assets exceed the applicable credit amount against estate taxes -- in other words become taxable to the estate -- they would look at making leveraged irrevocable gifts via an irrevocable trust in order to remove appreciating assets from his or her estate at a discount. There are varying types of irrevocable trusts."
Year of death Federal estate tax exemption Highest rate on "excess" property
2007 and 2008 $2 million 45% in 2007 and 2008
2009 $3.5 million 45%
2010 Tax repealed Tax repealed
2011 $5 million 35%
2012 $5.12 million 35%
2013 $5.12 million (inflation adjusted) 40%
While assets transferred to a properly executed irrevocable trust generally escape estate taxes, there's a catch: You cannot generally undo them. They are a done deal. A "fait accompli." No turning back.
Avoiding estate taxes is a good reason to create an irrevocable trust, but the average person would consider other types of trusts, not for tax purposes, but for other benefits. In this case, living, or revocable, trusts might be the answer. With this type of trust, you still own the assets and are not avoiding estate taxes or your potential creditors, but you have more flexibility and can change any part of the trust while you are alive.
2. Safeguard privacy
If you do estate planning, your assets will be distributed either via trusts or through a will. The one you choose depends on how important you deem your privacy and the privacy of your family.
Wills are filed in the county courthouse and are open to public scrutiny. Both irrevocable and living trusts are private documents, the contents of which are only open to your beneficiaries.
"If a person has a living trust, their will just says, 'I leave all of my belongings to my living trust,'" says R. Marshall Jones, an accredited estate planner and principal at Jones Lowry in West Palm Beach, Fla. "It doesn't have all the provisions in it to provide for grandchildren and children or special needs cases or whether your spouse gets the income, et cetera."
Experts recommend that you explain unequal distributions of assets or deliberate exclusions of heirs to avoid family fighting and legal battles. However, if you place such deeply personal disclosures in your will, they will become public knowledge.
Edward W. Gjertsen II says he knows from firsthand experience that some investment firms plumb through these public records to drum up business. A former board member of the Financial Planning Association and vice president of Mack Investment Securities, Gjertsen says that at one job early in his career, he was instructed to obtain these records and hand them over to a financial representative, who would then contact a family member of the deceased.
"He would call up and say, 'I'm sorry Uncle Bill died, but I understand you just got $50,000. Can I help you invest it?' I did that for a day and I felt very gross. I just didn't feel right doing it."
And it's not only investment professionals who are doing this, says Gjertsen.
Takeaway: If you want to make all your personal business public and expose your loved ones to fraudsters and marketers, leave it in a will. If you value privacy, put your stuff in either a living trust or irrevocable trust, depending on your goals and the value of your estate.
3. Protect assets for heirs
Assets controlled by an irrevocable trust receive certain protections from creditors, unexpected life events and possibly "wicked" stepparents. While a living trust is not irrevocable while you are alive, it becomes irrevocable at your death, thus adding extra protections for your beneficiaries.
"If you're leaving assets to a spouse or for the benefit of children, the terms of the trust can protect the child or spouse from creditor attacks," says Jones. He's quick to point out that the creditor protection in the case of a living trust doesn't protect the grantor (creator) of the trust, but is for the beneficiaries of the trust.
By adding provisions to the trust, you can protect your loved ones from unfortunate life circumstances that might come up. What if your beneficiary develops a drug problem? Adding a spendthrift protection clause prevents the beneficiary from transferring any current or future rights in the trust to creditors, predators or any other third party whether voluntarily or otherwise.
Another provision could protect assets in case the beneficiary becomes disabled so that the trust assets need not be drained before that beneficiary qualifies for Medicaid or federal assistance.
"If you are creating trusts for your children because you are concerned about asset protection, whether it be from a general creditor or divorcing spouse, and want the ability for a third party to manage assets for them, then you will want to make sure that assets that pass outside of the estate are directed, using a beneficiary designation, into the trusts that you have created for your children," says Schneider. "All of that planning is revocable -- it can be changed the next day or next year, as long as you are competent and living," she adds.
A problem often arises in cases of second marriages. Typically, parents want to make sure their children from previous marriages ultimately receive their inheritance, but also want to make provisions for the second spouse.
Proper trust planning can ensure that the biological children eventually receive their inheritance, while providing income for the surviving spouse in the interim. This can be accomplished with a QTIP, or qualified terminable interest property, trust. If instead the married partners make an informal pact, there's a distinct possibility that the money will end up instead with the surviving spouse's own children.
4. Retain control
Trusts give you the power to place conditions on inheritance. Do you want to provide for your family, but worry about the abilities of your children to manage a lump sum? Place it in a trust and relinquish control of a percentage of assets to the beneficiary at various intervals.
Gjertsen calls these controls imperative. "I don't know how many 18- or 21-year-olds save for college with some money in their pocket instead of going out and buying a car. That's where a trust has benefit over a will because you can put advance directives in there. If something happens to me, my kids don't get money until certain thresholds: 21, 30, 35 or whenever you choose."
Retaining control becomes especially important when providing for minors or someone who is not in a safe situation or is otherwise not good with money. You can earmark money for a special use or condition, such as education.
"You can put in certain directives, so-called ruling from the grave," says Gjertsen. "You don't want to be too restrictive because a lot of those cases have been knocked down in court afterward. 'My son has to have a master's degree with a 4.0 grade-point average in order to get any money.' That's not really going to happen. But it's good to have some general guidance."
5. Bypass probate
Anything you can move out of your will and into a trust will save time and money in probate procedures and costs.
"The main purpose of a revocable trust is to avoid probate," says attorney Peter Blatt, president of Blatt Financial Group in Palm Beach Gardens, Fla.
Of course, the question always comes up: At what asset level do I need a revocable trust, or do I just need a will? Blatt explains that the answer comes down not to asset size but amount and types of assets. "The more assets you have, the more likely you are to need a revocable trust, because there is a cost associated with probating or putting assets through your last will and testament."
Saving administration expenses is only one reason to avoid probate. Jones explains that in his part of Florida, there's a growing problem with probate court backlog. "You can avoid delay by holding assets in your living trust. The trustee takes possession of the assets and immediately begins managing them. They don't have to go to the probate court for permission to begin making distributions, etc.
"Typically it costs anywhere from 1% to 3% of the estate in terms of probate costs," he adds. "Compare the upfront costs of having a trust drawn up to probate costs at the time of your death."