What is a Trust and Why Do I need one for Estate Planning?

One of the most common questions I get from people during their initial meeting in my office is “what is a trust and why do I need one
?” It’s a question I get asked over and over, in part because a trust is one of the foundational elements of a comprehensive estate plan.

So the purpose of this blog post is to give you a quick rundown of trust basics in North Carolina. And clearly, when I wrote this post, I didn’t realize that I had previously written a comprehensive post on using trusts in your estate plan over here.

So let’s start at the beginning:

What is a Trust and Do I Need One?

A trust is, at its core, a legal contract. This contract is entered into by the grantor of the trust (also known as the settlor or trustor) and the trustee for the benefit of a beneficiary.

The contract, also called the trust document, is basically a set of rules that spell out how the trustee can use the trust property for the benefit of the trustee.

Once a trust is created and funded, then the trustee takes control of the trust property and manages it for the benefit of the trustee.

Trust’s are covered by state law, and so what you can or can’t do with a trust will vary based on your laws of your state.

What are the different types of Trusts?

There are many different types of trusts that can be used for estate planning purposes. A trust can be a living trust, which means that it was created and goes into effect during the grantor’s lifetime. A living trust is also referred to as an “Inter Vivos” trust.

A testamentary trust, on the other hand, is created upon the death of the grantor through his or her will.

Trusts can also be Revocable or Irrevocable, and that means exactly what you would think it means. A revocable trust can be changed, amended or dissolved during the grantor’s lifetime. An irrevocable trust, on the other hand, cannot be changed or revoked, and typically the maker of the trust cannot also serve as trustee.

One of the most commonly used tools for estate planning is the revocable living trust. With this trust, the grantor, trustee, and beneficiary are all the same person, with some very limited exceptions.

Why would you want to use a trust in your Estate Plan?

Many people think that if they don’t have a lot of money, and they aren’t retired, they don’t need a trust. Nothing could be further from the truth.

Now, I will say that trusts are not for everyone, but there are some very real and tangible benefits to using trusts for the people who need them. Here are just a few:

1. If you have a sizable life insurance policy that you will be leaving to minor children in the event of your death, a trust is a great way to accomplish this. You would name the trust as the beneficiary of the life insurance proceeds so that the management of these funds would stay private and out of any court proceedings. If you left the proceeds to your children directly, the funds would be managed by the court and handed over to your kids when they turned 18. Yikes.
2. Administering a trust after you die if much less expensive than probating an estate.
3. Trust administration is a private matter that can be handled in a lawyer’s office, versus the lengthy and expensive probate process that is handled at the courthouse.
4. With a trust, you can protect your beneficiaries from themselves, their creditors, and a future divorce by keeping their funds in a legacy trust.
5. You can make sure that all your children are taken care of in proportion to their needs. For example, let’s say that when you die, you have two children that have already completed college (that you paid for) and one getting ready to start college. It wouldn’t be fair to split the kid’s life insurance three ways, as the youngest child still has four years of college to pay for. With a trust, you can keep those funds in a common trust until the youngest child graduates college, and then split the trust up after the youngest sibling’s education has been paid for.
6. A trust will allow you to keep your kids from being disinherited in the event your spouse remarries and predeceases their future spouse, leaving your entire estate to your children’s step-parent.

What kind of Property can I put into My Trust?

The type of property you put into your trust will depend in part on the type of trust you decide to create. If you are creating a revocable living trust as part of your overall estate plan, then all of your bank accounts, your real property, your investment accounts, your business, and all your personal property should be placed in your trust.

If you have low basis stock with lots of embedded gains, then you may want to form a Charitable Remainder Trust and place your stock into that trust so that you can sell the stock and spread out the payment of the capital gains tax over the course of your lifetime.

If you are looking to keep some life insurance out of your taxable estate, an ILIT (as described below) might be a great vehicle for accomplishing this. However, because there is no death tax in North Carolina, you would need a pretty sizeable estate (over $5.45 million as of this blog post) to make an ILIT worthwhile.

What are some other trusts that could be used for planning?

We’ve already touched on revocable and irrevocable trusts, and living vs. testamentary trusts. Here are a few of the other trusts that commonly come into play for planning purposes:

• Irrevocable Life Insurance Trust. Also called an ILIT, this type of trust will hold a life insurance policy on the grantor’s life. By using an ILIT, you can keep the proceeds from the life insurance out of the gross value of the grantor’s taxable estate when they die.
• Special Needs Trust. A special needs trust is used to help shield assets so that the beneficiary of the trust can still obtain government benefits without running afoul of income or asset restrictions. These benefits typically come in the form of Medicaid, Supplemental Security Income (SSI), and other benefits.
• Spendthrift Trust. With a spendthrift trust, the trustee will have discretion as to how and when any distributions from the trust will be made to the beneficiary. This is a great way to protect a child that is not financially responsible or to protect assets in the event of a divorce.

If you have any questions about trusts, or how they could be used in your overall estate plan, please feel free to contact our office at (919) 460-5422 or fill out our easy contact form.