A trust is an estate planning legal instrument that is used to avoid probate, while also providing a benefit for a specific beneficiary or group of beneficiaries. Although the requirements for forming a trust will vary by state, the following requirements must generally be met:
- Settlor Capacity: In order to create a valid trust, the settlor must possess the proper mental capacity to create the trust. What this means is that they must intend to create a trust expressed with any necessary formalities of the state, such as the trust being in writing;
- Identifiable Property: Trust property, also known as “trust res,” must be specifically identifiable. What this means is that there must be a sufficient enough description in order to know what property is to be held;
- Identifiable Beneficiary: Generally speaking, the beneficiary or group of beneficiaries must be sufficiently identifiable. This means that they must be able to be determined at the time of the trust being formed. However, in the case of a charitable trust, this is often not a requirement; and
- Proper Trust Purpose: The trust being formed must be proper; meaning, it cannot be created for an illegal reason. An example of this would be how a person cannot create a spendthrift trust and hold the property in their own name for their benefit, simply to avoid creditors from reaching their assets. Courts will typically hold that such trusts are invalid.
Generally speaking, all trusts in the United States are presumed to be irrevocable, unless the trust instrument otherwise states that the trust is revocable. However, this is not true in Texas, Oklahoma, or California, where trusts are generally presumed to be revocable, unless they are specified as being irrevocable.
What Are Some Common Types of Trusts?
The following is a list of the most commonly created trusts:
- Inter Vivos or Living Trust: A trust that is created while the settlor is still alive. An inter vivos trust is often designed to be revocable, so that the settlor can add or remove property freely during their lifetime;
- Testamentary Trust: A trust that is created through a will, and usually becomes effective upon the death of the trust creator;
- Charitable Trust: A trust created for the purpose of transferring and designating a person’s assets or property to a charitable organization, for the benefit of a particular charity or organization. The requirements for creating a charitable trust are generally more relaxed than the requirements for other trusts, as they are often seen as being of benefit to the public;
- Discretionary Trust: A trust that allows the trustee, or the person who manages the trust property, to decide when and how the trust assets and property are to be distributed to the named beneficiaries;
- Special Needs Trust: A trust created to provide for additional income for a person with disabilities, but still allow the person to be able to receive government benefits. Essentially, a special needs trust helps work around the issue of a gift or inheritance being included in the calculation of the person’s income for benefits;
- Spendthrift Trust: A trust that is created to provide for the needs of another person, while also preventing that person from accessing the trust property. Spendthrift trusts also protect a beneficiary from themselves by shielding them from their debts or creditors; or
- Land Trust: trusts that allow a trustee to hold title to a specific piece of land or property, which gives the trustee the power to manage the property. They also have the power to make income distributions from the property.
In addition to all of these, there are numerous other trusts that may be created for other purposes. The following is a list of other less common trusts that may be created:
- Asset Protection Trusts;
- Bypass (or AB) Trusts;
- Clifford (or Short-Term) Trusts;
- Crummey Trusts;
- Implied Trusts;
- Pooled Trusts;
- Secret (and Semi-Secret) Trusts; or
- Totten Trusts (Payable on Death Accounts).
Additionally, a trust may also contain characteristics of multiple trusts. An example of this would be how it is not uncommon for a trust to be an irrevocable, express, inter vivos, discretionary, spendthrift trust. As such, before creating a trust, it is important to think carefully about the purpose for which you are creating the trust. One or multiple trusts may be the best solution for your particular needs.
What Is an Irrevocable Trust? What Are the Tax Advantages of an Irrevocable Trust?
Trusts may be revocable, or irrevocable. A “revocable trust” is a trust in which the person establishing the trust reserves the right to cancel the trust, and recover the trust property as well as any undistributed income. The person creating the trust is called the “settlor.” A revocable trust can be modified by the settlor.
In contrast, an irrevocable trust cannot be modified or terminated unless the beneficiary of the trust gives permission to do so. All trusts are irrevocable to begin with, unless specified otherwise in the trust agreement document.
Irrevocable trusts commonly serve the purpose of protecting assets from long-term care expenses. An example of this would be how once an individual places funds in an irrevocable trust, a nursing home will not be able to collect those funds as payment for their services. In addition to protecting assets from long-term care expenses, irrevocable trusts are advantageous in that they offer several significant tax advantages.
When assets are placed in an irrevocable trust, they are essentially removed from the value of an individual’s estate. Essentially, the person creating the trust no longer owns the assets placed in the trust. Because of this, the assets will not be subject to estate taxes upon the death of the individual. This death tax exemption does not apply to revocable trusts, due to the fact that the property is still under the direct ownership of the person who created the trust.
Although irrevocable trusts avoid taxes at the death of the person who created the trust, they are still subject to other taxes. An example of this would be annual income tax, if the trust has earned any income. However, income-producing property generally pays lower income taxes than if the same property had not been placed in trust.
Should I Hire an Attorney for Assistance with an Irrevocable Trust?
As previously discussed, there are many different types of trusts which may be formed depending on the particulars of your situation. Additionally, creating a valid trust can often be a considerably complicated undertaking. Because of this, if you are considering creating a trust instrument in order to provide a benefit to another party, consulting with a licensed and knowledgeable trust lawyer in your area would be in your best interests.
A skilled and experienced trust lawyer will be able to help you select the best type of trust for your particular needs, as well as help you create the instrument itself. Having the guidance of a qualified attorney will also ensure that the trust is legally binding and properly drafted according to the laws of your state.
Issues that involve taxes on trusts can quickly become highly complex. An experienced and local trust lawyer should be consulted in order to avoid unnecessary complications. Finally, an attorney will also be able to represent you in court as needed.