What Is a Trust?
A trust is traditionally used for minimizing estate taxes and can offer other benefits as part of a well-crafted estate plan.
A trust is a fiduciary arrangement that allows a third party, or trustee, to hold assets on behalf of a beneficiary or beneficiaries. Trusts can be arranged in many ways and can specify exactly how and when the assets pass to the beneficiaries.
Since trusts usually avoid probate, your beneficiaries may gain access to these assets more quickly than they might to assets that are transferred using a will. Additionally, if it is an irrevocable trust, it may not be considered part of the taxable estate, so fewer taxes may be due upon your death.
Assets in a trust may also be able to pass outside of probate, saving time, court fees, and potentially reducing estate taxes as well.
Other benefits of trusts include:
- Control of your wealth. You can specify the terms of a trust precisely, controlling when and to whom distributions may be made. You may also, for example, set up a revocable trust so that the trust assets remain accessible to you during your lifetime while designating to whom the remaining assets will pass thereafter, even when there are complex situations such as children from more than one marriage.
- Protection of your legacy. A properly constructed trust can help protect your estate from your heirs’ creditors or from beneficiaries who may not be adept at money management.
- Privacy and probate savings. Probate is a matter of public record, a trust may allow assets to pass outside of probate and remain private, in addition to possibly reducing the amount lost to court fees and taxes in the process.
Basic types of trusts
Designed to provide benefits to a surviving spouse, generally included in the taxable estate of the surviving spouse
Also known as credit shelter trust, established to bypass the surviving spouse’s estate in order to make full use of any federal estate tax exemption for each spouse
Outlined in a will and created through the will after the death, with funds subject to probate and transfer taxes, often continues to be subject to probate court supervision thereafter
Irrevocable trust designed to exclude life insurance proceeds from the deceased’s taxable estate while providing liquidity to the estate and/or the trusts’ beneficiaries
Allows certain benefits to go to a charity and the remainder to your beneficiaries
Allows you to receive an income stream for a defined period of time and stipulate that any remainder go to a charity
Using the generation-skipping tax exemption, permits trust assets to be distributed to grandchildren or later generations without incurring either a generation-skipping tax or estate taxes on the subsequent death of your children
Used to provide income for a surviving spouse. Upon the spouse’s death, the assets then go to additional beneficiaries named by the deceased. Often used in second marriage situations, as well as to maximize estate and generation-skipping tax or estate tax planning flexibility
Irrevocable trust funded by gifts by its grantor, designed to shift future appreciation on quickly appreciating assets to the next generation during the grantor’s lifetime
Revocable vs. irrevocable
There are many types of trusts, a major distinction between them is whether they are revocable or irrevocable.
Revocable trust: Also known as a living trust, a revocable trust can help assets pass outside of probate, yet allows you to retain control of the assets during your (the grantor’s) lifetime. It is flexible and can be dissolved at any time, should your circumstances or intentions change. A revocable trust typically becomes irrevocable upon the death of the grantor.
You can name yourself trustee (or co-trustee) and retain ownership and control over the trust, its terms and assets during your lifetime, but make provisions for a successor trustee to manage them in the event of your incapacity or death.
Although a revocable trust may help avoid probate, it is usually still subject to estate taxes. It also means that during your lifetime, it is treated like any other asset you own.
Irrevocable trust: An irrevocable trust typically transfers your assets out of your (the grantor’s) estate and potentially out of the reach of estate taxes and probate, but cannot be altered by the grantor after it has been executed. Therefore, once you establish the trust, you will lose control over the assets and you cannot change any terms or decide to dissolve the trust.
An irrevocable trust is generally preferred over a revocable trust if your primary aim is to reduce the amount subject to estate taxes by effectively removing the trust assets from your estate. Also, since the assets have been transferred to the trust, you are relieved of the tax liability on the income generated by the trust assets (although distributions will typically have income tax consequences). It may also be protected in the event of a legal judgment against you.
Deciding on a trust
State laws vary significantly in the area of trusts and should be considered before making any decisions about a trust. Consult your attorney for details.
If you are interested in speaking with a specialist about trust services at Fidelity, see Personal Trust Services or call us at 800-544-1766.
Choosing and creating a trust can be a complex process, the guidance of an attorney with estate planning expertise is highly recommended.