A living trust can be an excellent estate planning tool for many individuals with significant assets that they want handled a certain way. The process of creating a living trust can seem overwhelming at first, however, it can be significantly less complex when you understand the basics of what living trusts are and how they can be utilized to help you create a comprehensive estate plan that covers all your bases.
What Is a Living Trust?
Understanding what a living trust is boils down to knowing what a trust itself is. A trust is simply a fiduciary agreement made between three people, a trustmaker, the trustee, and a beneficiary. The trustmaker, also called the grantor or settlor, agrees to transfer property to the trustee, who will then manage the trustmaker’s assets on behalf of the beneficiary. The trustee does not own the assets contained in the trust – instead, the assets belong to the trust itself and the trustee simply manages those assets. When and how those assets transfer to the beneficiary vary depending on how the trust is created and under what terms it is created.
What makes a trust a living trust, or an inter vivos trust, is that it is created when the grantor is still living, as opposed to the trust being created at the time of the trustmaker’s death.
Types of Living Trusts
There are many different types of living trusts and each can be used for a variety of purposes. Determining what kind of living trust you need and how it can potentially benefit you depends largely on your unique situation and what your financial goals are for yourself and your family.
Revocable Living Trusts
A revocable living trust is likely the most widely used type of living trust. This type of trust can be modified, changed, added to, or even canceled at any point during the grantor’s life. A revocable living trust can help the grantor to avoid probate, which can be costly and time consuming for family members following the grantor’s death. However, if assets are owned by a trust at the time of the grantor’s death, those assets avoid the probate process. Many people set up revocable living trusts because they enjoy the idea of being able to protect their assets from probate upon their death, but still want to maintain control over those assets during life.
Irrevocable Living Trusts
An irrevocable living trust is also a well-known type of living trust and is often used in a variety of situations. This type of trust cannot be modified, changed, added to, or canceled during the life of the grantor. Essentially, this type of trust separates the use of assets from their legal ownership, meaning that the owner of the assets technically no longer owns the assets and the assets are owned by the trust. However, if also named as the beneficiary as in a self-settled trust, the former owner (or grantor) may be able to continue to use these assets.
Asset Protection Living Trusts
An asset protection trust is a type of irrevocable trust that is designed to protect an individual’s assets from creditors. A grantor can set aside his or her assets in an asset protection trust, transferring ownership of the assets from themselves to the trust. Once the trust owns those assets, creditors no longer have the ability to collect against them. This rule is subject to exceptions such as where the individual transfers the assets in an attempt to evade creditors. Because of the control that is maintained over a revocable living trust, creditors may still look to the trust’s assets to satisfy the debt.
Special Needs Living Trusts
A special needs trust is a specific type of trust created to provide assets to an individual in a way that does not compromise their ability to receive government benefits that have an asset limit, such as Medicaid or Social Security Disability.
First Party Special Needs Trusts
If a disabled person owns significant assets but is concerned that these assets will prevent them from taking advantage of government funded benefits, he or she may set up a type of irrevocable, self-settled living trust designed specifically for this purpose. The ownership of the assets are then transferred to the trust and the grantor no longer has control over how those assets are received. This allows the grantor to omit the trust assets when calculating the value of the grantor’s total assets on government benefit applications. The trust assets are considered “non-countable” assets.
Third Party Special Needs Trusts
A third party special needs trust can be either revocable or irrevocable. It is a type of trust created by a grantor to provide assets to a third party beneficiary who is disabled without affecting their eligibility for government assistance but still allowing them to have many comforts that they would not otherwise have if they were solely relying on government benefits as their source of income. For example, parents with a disabled child may set up a third party special needs trust that disperses assets during the lifetime of the parents, as well as after their deaths.
Spendthrift Living Trusts
Almost any type of living trust can be made a spendthrift trust. Essentially, this prevents the beneficiary of the trust from selling or giving away interests in the trust.
Pros & Cons of a Living Trust
There are many benefits to creating a living trust, however, there are also downsides depending on your unique situation.
Living Trust Benefits
Living trusts can be beneficial in many different ways, including:
As mentioned above, a living trust, whether revocable or irrevocable, will help avoid probate. Any assets that are owned by the trust at the time of the grantor’s death will not enter into probate but will instead pass directly to the beneficiary named in the trust.
A living trust, especially a revocable living trust, is harder to dispute than a will because the grantor typically continues to have involvement in the trust after it is created. While many people will bring a claim after an individual’s death that he or she was not of sound mind when creating a will, such a claim is generally more difficult to bring against the validity of a living trust.
A living trust can be beneficial in cases where the grantor has become incapacitated or unable to manage their financial affairs. Instead of a family having to go to court and obtaining a guardianship over an incapacitated individual, the individual’s successor trustee steps in and is able to manage the trust and its assets without the need for a time consuming and costly court battle.
Living Trust Caveats
Although the benefits of creating a living trust are many, there are a few caveats, including:
Living Trusts Can be Time Consuming and Costly to Establish
Because living trusts cover all types of assets, they can be costly and time consuming to set up. Additionally, the continued involvement of the grantor is necessary in a living trust. It is not recommended that a grantor attempt to cut the costs of establishing a living trust by going the do-it-yourself route. Although having a lawyer-drafted trust costs more, it is well worth it in the end to be confident that your assets are protected and will be distributed according to your wishes.
Revocable Living Trusts Do Not Protect Your Assets
As mentioned earlier, a revocable living trust can still be accessed by creditors. Because you maintain control over this type of living trust prior to your death, creditors can count the assets contained in the trust as your own. This type of trust may not be the right choice for individuals who wish to protect their assets from creditors.
How to Choose If a Living Trust Will Meet Your Estate Planning Needs
There are many different types of living trusts and many estate planning techniques in general, so it can be difficult to know which one is right for your situation. Discussing your individual estate planning needs with an experienced estate planning attorney is the first step to learning what types of living trusts may offer the solutions you are looking for and which one may be right for you.