Types of family trusts
The phrase "family trust" isn't a legal term, per se. It's a casual label applied to trusts that keep assets within the family -- which could include any relative from parent to, say, a third or fourth cousin. There are several types of trusts that can fulfill that purpose, including those introduced below.
Revocable vs. irrevocable
Every trust is either revocable or irrevocable. A revocable trust retains the grantor's right to manage the property in the trust. The grantor is the person who created the trust. Because the grantor can continue to manage the trust assets, she or he can remove assets, change beneficiaries, or even cancel the trust.
An irrevocable trust cannot be amended or terminated by the grantor. Typically, the grantor cannot directly manage the assets in an irrevocable trust.
Although the irrevocable structure is quite rigid, there are two advantages. Assets in an irrevocable trust are usually protected from creditors. They're also not included in the assessment of estate taxes when the grantor dies.
Living trust vs. testamentary trust
A living trust is created during the grantor's lifetime. Assets in a living trust do not go through probate, which is the lengthy court process of settling the grantor's estate.
A testamentary trust is created by a last will and testament. It is established after the grantor dies. Testamentary trusts go through probate.
Bypass trusts and marital trusts
Bypass trusts and marital trusts can be used together to reduce estate taxes and provide financially for a surviving spouse and children. This dual-trust strategy may be appropriate for wealthy couples whose net worth exceeds the estate tax exemption.
Typically, the bypass trust takes ownership of assets valued up to the estate tax exemption. Once in the trust, these assets are no longer included in the surviving spouse's net worth. When the surviving spouse dies, this wealth should pass to the remaining beneficiaries -- usually the children -- without the assessment of estate taxes.
The surviving spouse can usually receive income from the bypass trust. He or she may also be able to withdraw principal under certain conditions, such as chronic illness.
Any remaining assets above the estate tax exemption go into the marital trust. The surviving spouse has greater control of these vs. the assets in the bypass trust. Marital trust assets are subject to estate taxes when the surviving spouse dies.
