Living Trusts: THE BASICS

As I discuss elsewhere, some people try to avoid probate by naming their children as beneficiaries of certain assets. Depending upon the asset, there are several questions to consider: 1) Do you want a 20-year-old to get a big life insurance distribution? 2) Will all of your children be able to work together to get your house ready for sale and then to sell it? 3) Do you want the IRA you worked so hard to build up to get taken by your child’s creditors when he or she inherits it?

When I talk to clients about trusts, they usually are thinking about trusts managed by trust companies. The thought is that those are for rich people. Donald Trump probably has a trust. The Clintons also probably have one or more trusts. Those are for the Rockefellers and the Vanderbilts. Many times those impressions are pretty deeply embedded so they are hard to try to root out.

I know some attorneys who think that everyone should have a trust, and that probably is an overstatement. However, a trust is something that I think many people should consider. As discussed elsewhere, probate can be time-consuming and costly, and then there is the privacy issue. For that reason, I think it would be helpful to understand a few trust basics.

Although we think about a trust as a thing, it’s actually just a contractual relationship between three parties. The first party is the person or persons who make the trust. They can alternatively be referred to as the grantor (my favorite and the way I will refer to them), settlor, trustor, maker, etc. They all mean the same thing. This is the person or persons who own the assets that they want to entrust to someone else.

The second party to the trust contract is the trustee. This is the person to whom the grantor conveys the property. In law school, they tell us that the trustee does not really own the assets outright since they have to hold them for the benefit of another person (more on that in a second), so the trustee only has “bare legal title.” The trustee owes a fiduciary duty to the beneficiaries of a trust. What that means is that the trustee is not free to do anything he or she may want with the trust assets. He or she can only administer them for the benefit of the beneficiaries. When a trustee uses assets for his or her own benefit, they will get sued. Any individual can be a trustee, but only a trust company (or a bank with trust powers) can be a corporate trustee.

The third party to the trust agreement is the beneficiary. Beneficiaries are the “persons” for whose benefit the trust assets are being held and administered. For our purposes, a “person” can be a child, an adult, a charity, or just about any individual or entity that exists. The grantor gets to define the benefits that are to be distributed. So the trust can: (i) payout only income; (ii) payout both income and principal; (iii) payout either income or principal only on the basis of some definition of need; (iv) be held for the life or lives of the beneficiary(ies); or (v) be paid out over a specific period of time. The law basically allows a lot of leeway. You just can’t write a trust for an illegal purpose.

As I said, a trust is a three-party contractual arrangement involving a grantor, a trustee, and a beneficiary. However, by the magic of our legislatures, one individual can fill all of those roles. This is referred to as a “grantor trust.” The grantor is the trustee and is the beneficiary. That way one person or a married couple can create a trust for their own benefit and keep complete control of their assets.

But the question you might ask is, “Why bother?” Why go to all of this trouble to create a trust? The simple answer is that if a person creates and funds a trust, his, her, or their assets will be protected from a conservatorship during their lifetime and probate upon death. A trust bypasses all of that. A grantor of a trust saves time and money and avoids any publicity. The amount of money saved depends on the size of the estate and state law, but for estates over $500,000 (including your house, your retirement assets, your life insurance, and your investments), clients need to give serious consideration to living trusts.

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