Mentioning trusts usually makes people think of stereotypical rich trust fund babies, pampered and spoiled and having their every need taken care of with no effort on their part. Yet the reality of trusts is that you don't have to be rich in order to benefit from them, and used correctly, they can support your hopes and wishes for your loved ones without transforming their personalities into something you wouldn't like. Below, we'll look at what a trust is and then go through the basics of some of the most common types of trusts while also providing links to more in-depth articles on each type.
What a trust is
A trust is simply a legal mechanism that separates control of property from the benefits of that property. To make a trust, you need a trustee to hold legal title of trust property, and you need assets to go into the trust. A formal trust agreement gives instructions to the trustee about the intended purpose for the assets, including named beneficiaries who are entitled to receive money from the trust as dictated by the trust agreement.
Trusts are especially useful in holding property for minor children, as otherwise, laws in most states require that assets held for minors be monitored by an appointed legal representative who is sometimes called a conservator or guardian of the estate. But there's no age limit for beneficiaries of a trust, and you can set up restrictions and provisions to care for someone throughout their lives if you wish.
A common type of trust is the revocable trust, also known as a living trust. Those who create a revocable trust retain total control over their own assets as long as they live, and they can change the trust provisions or simply change their mind and undo the trust entirely at any time. After they die, though, the trust becomes irrevocable, and a new trustee takes over who follows the trust's instructions on how to distribute or continue to manage any remaining assets.
Unlike revocable trusts, testamentary trusts don't come into existence until after death. The provisions of the trust are set up in a will, and a court probate proceeding is sometimes necessary to fund the trust with estate assets. Although a testamentary trust lacks the ability to take effect while a person is still alive but unable to manage their own financial affairs, it has the benefit of keeping things simpler during one's lifetime.
Life insurance trusts
Life insurance proceeds are often included in a person's taxable estate when they die, and to avoid this sometimes costly estate-tax trap, estate planners created life insurance trusts that are specifically designed not to be subject to estate tax. These trusts are irrevocable, and they give the trustee very particular instructions on how to take the trust's money and use it toward purchasing a life insurance policy. Used correctly, life insurance trusts can save your heirs from paying tens or even hundreds of thousands of dollars of unnecessary estate tax, depending on the size of your estate holdings.
Charitable trusts allow donors to make gifts to charity while retaining an interest in their donated funds during their lifetime. One popular type of trust called the charitable remainder trust lets you put money into trust in exchange for the right to receive monthly income for the rest of your life. This trust both gives you an upfront charitable tax deduction and lets you take advantage of favorable tax consequences for the trust, and the charity of your choice benefits by receiving whatever trust property remains at your death. Although there are many rules to follow, charitable trusts can serve the dual purpose of protecting you and your family and giving to a worthy cause.
There are many other types of trusts. For instance, qualified personal residence trusts allow individuals to pass down their family home to the next generation while bearing just a fraction of the gift-tax cost that an outright gift would entail. Some states allow for creditor protection trusts that can help you shelter assets from certain claims. Special needs trusts are specifically crafted to protect those who get government assistance for conditions like a disability, providing for additional needs without endangering the beneficiary's primary source of income. In each case, these trusts involve specialized rules you have to follow to make maximum use of them.
Many people think that they don't have nearly enough money to make a trust worthwhile. For certain situations, though, trusts can be extremely useful even for those of modest means.
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