Do you need a trust?: Learn the key terms and types
Are you drawn to the idea of having a trust, because you’ve heard it could allow your loved ones to avoid probate? Or because it could save cost, including by paying less taxes on your assets?
These are some of the many benefits of trusts, but they are also one of the most misunderstood documents in estate planning.
In fact, a trust is far more than a document. It creates a new legal entity.
At its core, a trust gives you and your loved ones the ability to hold on to assets for a longer period of time, while giving authority to somebody else to be able to administer it. Each trust also sets conditions for how to distribute the assets contained within it.
Key terms to know
Settlor: The person who creates your trust (i.e., you). You also set all rules for asset distribution, including timing. The settlor is sometimes known as the trustor, grantor or trustmaker.
Trustee: The person you put in charge, who is responsible for managing the assets within the trust on behalf of your beneficiary.
Beneficiary: The person who receives your assets after you pass, according to the specific distribution rules stated in the trust.
Revocable vs. Irrevocable Trusts
In Michigan, all trusts fall into two major categories:
Revocable: The settlor can change or cancel (revoke) the trust at any point, for any reason. This offers the most control over your assets during your lifetime, before passing this control on to your beneficiaries when you pass.
Irrevocable: Once this type is set up, you no longer have any control over your assets contained within the trust. The beneficiary must give permission for all changes. Given that this type of trust officially transfers ownership of your assets during your lifetime, it is often used in asset protection and taxation strategies.
Specific trust types
A revocable or irrevocable trust determines who has the control over the assets, and when. However, within these two base categories there are several other options designed to focus on a specific type of asset or situation. These include:
Special Needs Trust: This helps ensure that a loved one who has a disability will not lose their eligibility to receive necessary government benefits. For example, if the disabled person is due to receive an inheritance or lawsuit settlement.
Charitable Trust: This type may offer tax benefits, while helping to ensure that you can continue supporting your favorite causes after you pass.
IRA Trust: An Individual Retirement Account Trust names the trust itself as the beneficiary (not a person). It also includes specific instructions for how to manage the IRA funds.
Life Insurance Trust: This type is funded by a settlor’s life insurance policy. It is often used for tax reasons, either to help reduce the taxable portion of the estate or to help pay for estate taxes.
Marital Trust: This is one way to help ensure assets are transferred to your spouse when you pass, and it can also yield tax benefits.
Qualified Domestic Trust: This trust is used for tax benefits when there is a non-citizen spouse.
Pet Trust: This type of trust is used to determine and fund care for a beloved pet.
These are just some of the many types of trusts. There also trusts that are set up as part of a will (testamentary trust), one that helps prevent mismanagement of an inheritance (spendthrift trust) and even a type that is created by a probate court after you pass (constructive trust).
Setting up a trust is only the first step
A trust on its own is just an empty container. Your intention may be to place assets into it, such as a house, vehicles, bank accounts, even a business. However, this doesn’t happen automatically when the trust is created. You still need to take the next step to actually transfer ownership of these assets into the trust. For example, by transferring the title on a property.
Otherwise, these assets will remain outside of the trust, your loved ones may still need to go through probate, and they may face legal fees, court expenses and other costs that could have been avoided through proper documentation.
Trusts are just one of three key types of documents that are designed to pass authority to someone else to make financial or medical decisions for you. The others are power of attorney and advance directives.
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Buzz Suuppi
Buzz started The Plan Firm for his family, which is everything to him. Every member of his team is committed to providing effective estate planning and related solutions for families in St. Clair County, Michigan.