Private Funds: Trusts
Understanding the Types and Benefits of Trusts
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A trust is a legal or ethical relationship that allows a third-party, a trustee, to hold assets on behalf of a beneficiary or beneficiaries. Trusts stipulate how and when the assets pass to the beneficiaries.
Assets that pass through a will undergo the probate process. Since trusts avoid probate, the beneficiaries have access to assets quickly. If it's a binding trust, it's not considered part of the taxable estate, so fewer taxes are due upon your death.
When to Consider a Trust?
The National Association of Financial and Estate Planning says that a trust is a useful estate-planning tool for a family if the net worth is at least $100,000 and meets one of the conditions:
- Sizable amount of assets are in real estate, a business or an art collection;
- You want to leave the estate to heirs that are not distributed upon your death. For example, you may want to stipulate that they receive their inheritance in three parts, or upon certain conditions like graduating from college or turning a specified age.
- You want to support a surviving spouse, but after the spouse's death, you want the remainder to go to children from a first marriage.
- You want to maximize the estate-tax exemptions.
- You want the assets to provide for a disabled relative without disqualifying them from receiving Medicaid or another government assistance.
Benefits of Trusts
Below are some of the main benefits of a trust:
- It reduces estate and gift taxes.
- Trusts better protect your assets from creditors and lawsuits.
- Trusts give you control of the terms; the when and to whom allocations dispense.
- A well-constructed trust protects the estate from heirs' creditors or from beneficiaries who mismanage money.
- Probate is public record; a trust allows assets to pass outside of probate and remain private. It also reduces court fees and taxes in the process; probate cost 5% to 7% of the estate.
Guidelines of a Trust
A trust is a legal agreement with three parties:
- The person who creates the trust agreement; the Grantor or Trustor.
- The person or entity (Trustee) responsible for managing the property decided by the Trustor.
- The persons or entity (beneficiary) who receives the benefits of the property in the trust.
The Trustor transfers ownership of certain assets to the Trustee to manage the assets for the beneficiary.
Because different trusts do different things, having four or five trusts set up are common. Trusts form in a variety of ways; within other trusts and/or in a will.
What Type of Trust to Consider?
When considering a trust, here are a few ways that help you get clear on which one is best for your needs. Think about your answers to the questions before deciding on the kind of trust to execute.
- Are you worth $2 million or more? Refer to a Bypass Trust.
- Are you worried about a disabled loved one? Refer to a Special Needs Trust.
- Are you worried about heirs mishandling the monies and assets received? Refer to a Spendthrift Trust.
- Do you have a large life insurance policy? Refer to a Life Insurance Trust.
- Do you want a charity to receive your money? Refer to a Charitable Remainder Trusts.
- Do you have children and think your spouse will remarry? Refer to a Qualified Terminal Interest Property (QTIP) Trust.
- Are you worried that your assets won't apply tp pay for your own health care or other personal needs if you become incapacitated? And do you want your heirs to avoid costs, delay, and publicity of probate? Refer to a Living Trust.
- Do you want the bulk of your assets to go directly to your grandchildren? Refer to a Generation-Skipping Trusts.
A marital trust provides benefits to a surviving spouse.
A Bypass trust is designed to pay trust income and principal to the surviving spouse for duration of the spouse's life. Also known as credit shelter trust - bypassing the surviving spouse's estate to make use of federal estate tax exemption for the spouse.
Charitable Remainder Trust
Charitable Remainder Trusts allow you to receive income to pay for long-term care services for a period of time. At the end-of-life, the balance goes to the charity. The person receives tax deductions for the fair market value of the assets given to the charity.
Special Needs Trust
Special needs trusts offer a good support for a disabled loved one who is unable to earn income. It avoids affecting other resources from Medicaid or other government services.
Spendthrift trusts allow for the assets distribute according to your wishes. It avoids the mishandling of assets or squandering of money. The inheritance is given when the beneficiary reaches a certain age, or in an allowance, or for specific expenses like a college fund.
Charitable Lead Trust
In a charitable lead trust the benefits goes to a charity and the remainder to your beneficiaries.
Life Insurance Trust
A life insurance trust is for high net-worth individuals. A life insurance policy is subject to estate taxes. A life insurance trust owns the policy. Instead of paying the insurance premiums yourself, the life insurance trust pays it for you. The trust is the beneficiary and the heirs are beneficiaries of the trust. You have control to instruct the trust to distribute the money to the heirs as you see fit.
Irrevocable Life Insurance Trust
Irrevocable life insurance trusts exclude life insurance proceeds from the deceased's taxable estate while providing assets to the beneficiaries.
Testamentary trusts are defined in a will and subject to probate and transfer of taxes.
Generation-skipping trusts permit trust assets to distribute to grandchildren or later generations without incurring estate taxes on the succeeding death of your children. It preserves your assets for several generations while avoiding estate taxes. For example, fund a Generation skipping trust with $2,000,000 (2013 limit) for the grandchildren and great-grandchildren. The assets will appreciate free of income and estate taxes.
Qualified Terminable Interest Property Trust
Qualified Terminable Interest Property trusts give income to the surviving spouse. After the spouse's death, the assets go to additional beneficiaries named by the deceased. Common in second marriage situations and maximizes estate tax planning flexibility.
Revocable and Irrevocable Trusts
A major distinction between trusts is if it's revocable or irrevocable.
A revocable trust, a living trust, helps assets pass outside of probate. It gives you control during your lifetime. It is flexible and can dissolve any time, should intentions change. It becomes irrevocable upon the your death.
An irrevocable trust transfers assets out of the estate and out of the reach of estate taxes and probate. It cannot be altered after execution. Once it's established, you lose control over the assets and the terms cannot change.
If it's your aim is to reduce estate taxes, consider an irrevocable trust. Since assets transfer to a trust, you're relieved of the tax liability on the income generated by the trust assets. Distributions may have income tax consequences.
Deciding on the Type of Trust to Set Up
State laws vary in trusts. It's important that you pay close attention before selecting the one most appropriate for your circumstances. Choosing and creating a trust is complex. Get guidance from an attorney with estate planning expertise.
Get advice. Trusts need legal and accounting expertise. Get it from the start. When using an attorney: make sure they have experience in trusts.
When putting the property (that qualifies as a relationship property in a trust) you and your partner should get independent legal advice on the implication and effects of that transaction.
Expert help is costly but it's worth every penny. It avoids complications, if the trust is not done right.
After seven years of helping her aging parents, Carol Marak has become a dedicated senior care writer. Since 2007, she has been doing the research to find answers to common concerns: housing, aging and health, staying safe and independent, and planning long-term.
- Private Funds for Assisted Living
- Private Funds: Social Security Benefits
- Private Funds: Annuities
- Private Funds: Lines of Credit
- Private Funds: Reverse Mortgages
- Private Funds: Part-Time Work
- Private Funds: Trusts
- Private Funds: Life Insurance
- Life Care Funding
- Long Term Care Insurance
- Medicare Supplemental Insurance
- Veterans Benefits
- Disability Benefits
- Section 8 Housing
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