Wealthy people have long used trusts to stash their money and pass it on to the next generation. That includes billionaire Rupert Murdoch, whose trust is making headlines as his family battles for control of his media empire. But it’s not only the ultra-rich who can take advantage of what a trust can offer. According to attorneys and wealth managers, trusts make sense for all types of estates—and are gaining popularity with the middle class too.
To understand how trusts work, it’s helpful to know that their main purpose is to ensure your assets go to the people you intend. Trusts can also help estates avoid probate—a legal process that can take months or even years—and, in the case of the ultra wealthy, they can help avoid estate taxes. A trust comes into being when the creator, known as the grantor, transfers assets into the trust, and then names a trustee whose job is to ensure the grantor’s wishes are followed before and after her death.
There is no specific income level when it makes sense to start looking into trusts, says Kathleen Grace, a certified financial planner (CFP) and CEO of Fiduciary Family Office. It depends instead on every individual’s situation, the assets they have, and where they live. Setting one up typically involves an estate lawyer and can cost anywhere from a few thousand dollars to hundreds of thousands, depending on its complexity. It’s also possible to set up a trust online for much less money.
That said, for those whose finances are fairly simply—say, someone who wants to split their retirement account and home between two adult children—naming beneficiaries and creating a will is probably sufficient, says Jessica Majeski, a CFP and wealth management advisor at Northwestern Mutual. It is when assets are more complicated, or exceed a state’s probate threshold, or when there are minor children who can’t inherit assets outright, that trusts come into play.
“Everybody needs to have an estate plan,” says Denise McClain, an attorney and director at Hirtle Callaghan, which provides investment advisory services including trusts and estates. “The level of detail someone will include in the estate plan will become more complex as their wealth grows.”
Trusts can be a ‘motivational tool’
There are two main types of trusts: revocable and irrevocable. As the names imply, the former can be changed fairly easily and the latter cannot.
“Which trusts are best, there’s no such thing,” says Grace. “It’s what is best for that specific client’s needs.”
A revocable trust simply means that the grantor can change or nullify the arrangement at any time. It allows the grantor to continue using the trust’s assets (perhaps by continuing to live in their home) but, upon her death, the assets are distributed according to the rules of the trust. Trusts are helpful when minor children are involved, says McClain, allowing the trustee to care for the assets until they reach 18 or whatever age is stipulated in the trust terms to receive the assets.
“Families that don’t have as much wealth, they should have a revocable trust. You can put in your house title, your investment accounts, your bank accounts,” says McClain. “It is an efficient way to avoid probate.”
Irrevocable trusts are more complicated. Typically, you can’t change or amend them after they are formed, though there are some circumstances when you do so by getting a court involved. Assets put in an irrevocable trust are technically moved out of the grantor’s estate, and the trust itself files its own tax return. That makes these especially popular options for families to shield assets from estate taxes.
While you give up control after the trust is formed, you have complete control beforehand to dictate not only who gets which assets and when, but how they get them.
To determine what type of trust makes sense for your situation, McClain suggests thinking through your “purpose.” Is it simply to lower your tax bill? Ensure generations of your family are cared for? Protect your assets for future charitable giving?
There are many types of irrevocable trusts, including the popular charitable remainder trust. In this arrangement, the grantor puts assets in the trust, receiving a partial tax deduction in the process. She or her beneficiaries get an annual sum money of money known as the distribution and then, at the end of the distribution period, the rest goes to a specified charity or charities. A charitable lead trust is the inverse: The specified charity gets money annually, and then the remainder goes to the beneficiaries.
And then there are incentive trusts, which let grantors impose conditions that must be met before a beneficiary…
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