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The concept of trust dates back to the Romans. During this time, there were specific laws about who could and could not own property. For example, let’s say a wealthy Roman citizen marries a foreign woman. At the death of the citizen, the wife, being a foreigner, would not be allowed to take ownership of his property.
So how can the Roman husband make sure his wife is taken care of after his death? He would bequeath his property to a friend, and then trust his friend would take care of his wife after his death.
Today, trust funds are not a financial product reserved only for the super-rich. Anyone that has accumulated some wealth to their name and wishes to pass that wealth on to others after death, may find trust is a better tool than a simple Last Will and Testament (a.k.a. a Will).
Continue reading to learn more about the basics of Trusts and how they compare to a Will.
What is a Trust Fund?
A trust creates a new legal entity, kind of like a company. The trust establishes three parties:
- A grantor: The person who has the wealth and is asking for the trust to be created
- A beneficiary: One or more people that will receive wealth after the grantor passes away
- A trustee: Like a CEO of a company, a neutral third party who ensures the wealth is distributed according to the trust rules
While the grantor is alive, he or she will move wealth (cash, property, stocks, businesses, anything worth money) into the trust’s name.
After the grantor passes away, the trustee will ensure the wealth is moved from the trust to the beneficiaries, according to the terms established by the grantor.
The Disadvantages of Wills
A traditional Will is also a vehicle for transferring wealth after death, but Wills has the following disadvantages:
- After death, the Will gets pushed into probate, where a probate judge may be forced to distribute the wealth in ways the grantor did not wish. This probate process takes time, money, and stress to work through.
- Will require the entire wealth to be transferred at one time; Wills do not allow wealth distribution to be spread out for years after death.
- The deceased has no control over how beneficiaries spend the money they just inherited
- It is more difficult to distribute money “creatively”, such as making sure a pet is taken care of
- Wealth transferred through a Will is generally hit with estate and/or gift taxes
- The Will becomes public once it is filed with the Probate Court
- Debt collectors will have a chance to take their share of the wealth through the probate process
- The terms of the Will only become effective upon death
The Advantages of Trusts
Creating a trust overcomes many of the drawbacks of a traditional Will, including:
- Most trusts avoid the lengthy and expensive probate process.
- Trust distribution can be spread out over many years, distributed in multiple lump pay-outs, or any other reasonable manner the deceased wishes.
- Through the trustee, the deceased can influence how money is spent by the beneficiaries (such as “provide my son $100K but only for the purchase of a home”).
- Trustees can support “creative” distributions, such as providing monthly allowances to support a pet after death.
- Trusts can provide tax benefits while the grantor is still alive and can usually avoid estates and gift taxes after death.
- The wealth inside a trust can be actively invested, appreciating in value, even after death.
- The details of the trust can remain confidential.
- It is unlikely any of the wealth will be available to debt collectors.
- Distribution of wealth to beneficiaries can begin while the grantor is still alive.
The Disadvantages of Trusts
There are two main drawbacks to trusts:
- Fees: The trust can be expensive to create and execute over the lifetime of the wealth. The more complicated the trust, the more costly it will be. While a Will can be written on the back of a napkin, a trust takes much more paperwork and formalities.
- The type of trust with the best tax advantages (irrevocable trust) forces the grantor to give up control over their wealth while they are still alive.
The Two Main Types of Trusts
There are over a dozen types of trusts possible, but the two most common are:
- A Living (a.k.a. Revocable) Trust: Wealth is moved over to the trust while the grantor is alive, and the assets stay in the grantor’s name. The grantor is free to access their wealth and make any changes to the trust as desired. At death, the wealth will likely bypass probate however may be hit with estate taxes.
It is important not to confuse a Living Trust and a Living Will. A Living Will communicates to your family and doctors what you would like to happen if you should become medically incapacitated. A Living Will has nothing to do with finances.
- An Irrevocable Trust: Wealth is moved over to the trust while the grantor is alive, and the assets move out of the grantor’s name and into the trust’s name. The grantor no longer has any legal authority over the wealth once it has been moved to the trust. It becomes very difficult for the grantor to make changes to the trust. However, the benefit is that the grantor will not be taxed on the wealth while they are alive, the wealth is protected from debtors and lawsuits, and the beneficiaries likely won’t be taxed on any distributions made.
Seek Professional Help
The above article barely scratches the surface on the complexities of trusts. Thankfully, there are experienced Los Angeles probate attorneys who have the experience needed to make a trust successful.
Individuals with moderate wealth should not be discouraged from exploring trusts simply because the creation of a trust is difficult and expensive. The benefits of trust may outweigh the negatives. Every individual has a different financial case and only a qualified trust attorney can discuss pros and cons with an individual.