When you set up a trust, you are establishing a legal vehicle that passes assets (the trust fund) to a third party (the trustee) to hold and manage for the benefit of whomever you choose (the beneficiary). There are multiple purposes to which a trust can be put and multiple types of trusts, each with its own structure and consequences.
There are two basic purposes of a trust—to help ensure good management of your assets during your lifetime and to control some of the details of how and to whom your estate passes.
One of the main reasons for establishing a trust used to be to protect high-value estates from estate taxes. But since Congress passed the Tax Cuts and Jobs Act of 2017, which increased the federal estate tax exemption amount to $11 million per person or $22 million per couple (annually adjusted for inflation), that reason is less compelling for a lot of people.
However, there are still good reasons why you might want to consider a trust:
The federal estate tax exemption amount is scheduled to drop back to around $5 million per person in 2026, exposing more estates to taxation.
Some estates may be subject to state estate taxes, separate from the federal estate taxes referenced above. In 2019, 12 states and Washington D.C. levy estate taxes. The exclusion amounts range from only $1 million in Massachusetts and Oregon to $5.74 million in New York. Consult your local tax advisor for guidance regarding your particular circumstances.
You’d like to save your family the time and costs of going through a court process to verify your will. Probate is the court-supervised procedure in which the authenticity of a will is proven or, if it doesn’t exist or cannot be proven, a decedent’s assets are distributed according to state laws.
You’d like to control how and when a child or other recipient gets access to funds you give him or her during your lifetime.
You want to give certain assets to a charity of your choice but retain the right to income from those assets during your lifetime.
You want to ensure the inheritance of any minor children is overseen by a trustee until they are old enough to manage it themselves.
There are a number of reasons why beneficiaries can lose their inheritance—bad choices of their own; a divorce settlement; a lawsuit. Properly structured trusts may be able to help prevent such potential losses.
Planning for incapacity during your lifetime is another good reason to consider establishing a trust. If you are in the ICU or a long-term care facility, who will pay your bills and manage your assets? If you have the right type of funded trust, an appointed trustee can do that.
It takes time, money and effort to set up a trust, so consider the pros and cons before undertaking this process. Trusts can be structured as “revocable” or “irrevocable.”
A revocable trust can be altered or canceled by the grantor. The grantor usually can be the trustee and beneficiary of his/her revocable trust, which means the grantor can keep control of the trust assets.
Revocable trusts provide asset management if the grantor becomes incapacitated (through a successor trustee) and allows his/her beneficiaries to avoid the costs and time of probate after his/her death.
However, there are disadvantages to revocable trusts. To include assets in a revocable trust, all the property must be reregistered in the name of the trust and this can be both cumbersome and expensive. Moving assets into a revocable trust does not protect them against income taxes or estate taxes. Creditors can still reach the assets during the grantor’s lifetime. Finally, revocable trusts, like wills, can be challenged by dissatisfied heirs and, in fact, the time period for allowable challenges in many states is much longer for trusts—up to five years.
An irrevocable trust cannot be changed or canceled, except in very rare circumstances and usually with the unanimous consent of all beneficiaries.
Irrevocable trusts can help protect against probate too, but their greatest benefit lies in the permanent, legal transfer of ownership. This legal transfer protects these assets from creditors and judgments. For example, if the grantor works in a profession that puts him/her at risk for certain lawsuits, such as medical malpractice, this may be an effective way to help protect assets for his/her beneficiaries. An irrevocable trust can also protect assets from income and estate taxes.
Personally owned assets can prevent a grantor from qualifying for certain government benefits, such as Medicaid payments for long-term care. Assets in an irrevocable trust will not generally count against qualification if they are transferred at least five years before the grantor applies for assistance. Problems arise, however, if a grantor needs Medicaid within that five-year period. He/she may have to repay all prior transfers to the trust by covering the costs of a nursing home privately. Only after all gifted assets are “repaid,” will the grantor be eligible for Medicaid.
As with revocable trusts, there are also disadvantages to irrevocable trusts. Once the grantor establishes an irrevocable trust, he loses legal ownership of trust property. This is the greatest disadvantage as well as the greatest advantage and must be considered carefully. A grantor cannot change an irrevocable trust to align with his/her circumstances, should they change in the future.
An irrevocable trust, unlike a revocable trust, is a separately taxable entity. Trusts pay federal income tax at rates that are generally higher than individual income tax rates. Also, gifts to a trust are subject to IRS gift tax. The grantor, not the trust, pays the gift tax, and gift tax rates can be as high as 35 percent. Consult your tax advisor about all the potential tax implications of establishing and funding an irrevocable trust.
Trusts are an important element of estate planning for some individuals, but may also be useful during one’s lifetime. Trusts may be able to help beneficiaries during your lifetime, help address potential long-term care needs, enable you to transfer management of part or all of your assets to a third party, etc.
Everyone’s dream of living richly is different. United Capital advisors are dedicated to understanding your financial goals and helping you achieve them. Contact one of our advisors today to learn how.
United Capital Financial Advisers, LLC d/b/a Goldman Sachs Personal Financial Management (“GS PFM”) is a registered investment adviser and an affiliate of Goldman Sachs & Co. LLC and subsidiary of The Goldman Sachs Group, Inc., a worldwide, full-service investment banking, broker-dealer, asset management, and financial services organization.
The information contained herein is intended for informational purposes only, is not a recommendation to buy or sell any securities, and should not be considered investment advice. GS PFM does not provide legal, tax, or accounting advice. Clients should obtain their own independent legal, tax, or accounting advice based on their particular circumstances. Please contact your financial adviser with questions about your specific needs and circumstances.
Information and opinions expressed by individuals other than GS PFM employees do not necessarily reflect the view of GS PFM. Information and opinions expressed in this article are as of the date of this material only and subject to change without notice.
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