Life is super confusing.
We literally get dumped into this big world full of complicated things like taxes and etiquette and lawn care, and we’re just supposed to know exactly what to do?
My adulthood has been a constant stream of realizing that I misunderstood basic concepts about life that everyone else apparently already knew. Actually that was my childhood, too. So it’s been my whole life. For example:
When I was younger, there was a good stretch of time when I thought “Watergate” was just another word for a dam. Like, a literal gate for water. A water gate.
But whenever I heard people use “Watergate” in conversation, I got this impression that it was not a good thing. As a result, for a few while I assumed that dams were somehow really bad things but had no idea why.
I eventually figured out what Watergate really was; however, that was by no means the last time I misunderstood something. Learning is great and also sometimes embarrassing.
Many people have similar misunderstandings about estate planning. For instance, clients often think their modest assets do not warrant a living trust. After all, aren’t “trust fund babies” supposed to be wealthy? Isn’t a will good enough for me?
Approximately 1 of every 2 clients I talk to doesn’t know exactly what a trust does or how it is different than a will. That is a mostly made up statistic based on the last few client meetings I could remember off the top of my head. I’m not saying it’s not true. I just don’t have the hard data…
But here is a very real statistic: only 42% of U.S. adults currently have a will or a trust. That’s crazy! Part of that is due to the fact that wills and trusts are complex, hard-to-understand documents. And attorneys usually don’t make it much easier.
That’s why I thought I would take the time to explain just what the heck a trust really is.
What is a trust?
First, let’s establish a framework for this discussion. There are two main sides to estate planning: (1) What happens to your STUFF when you die and (2) who takes care of your SELF when you become incapacitated. Most trusts are primarily concerned with the first part of that equation.
So, what is a trust?
A trust is an agreement between one person (the “grantor” or “settlor” or “trustor”) and another person (the “trustee”) to hold and manage property for the benefit of some third person (the “beneficiary”).
Sometimes the grantor, trustee, and beneficiary are all the same person; sometimes they are all different people. Whatever the case, this essential arrangement is present in any trust.
But, like, what does that actually mean?
A trust is most often used as an estate planning tool to avoid probate. This type of trust is commonly referred to as a “living trust” or a “revocable trust” or an “inter vivos trust” (because lawyers love Latin).
Conceptually, a living trust is almost like a separate entity. You transfer your assets to the trust, you name managers (called “successor trustees”) to control the trust after your death or incapacity, and you provide for what happens to the trust assets after you die. (Importantly, however, a living trust is not a separate entity. You still control the assets during your lifetime and you use your tax ID number.)
Think of a trust like a box. When you sign a trust, you have an empty box. To avoid probate, you want to fill that box with all your “stuff,” your assets. Anything that’s in the box at your death doesn’t have to go through probate. Anything that’s not in the box at your death, does.
But merely having a trust is not enough. As shown through the box metaphor, you have to put your “stuff” into the trust, a process known as “funding your trust.”
Are there other types of trusts?
Trusts are like clothes: there are different types for different occasions.
While a living trust is a type of revocable trust that you can change or modify at any time, there are also irrevocable trusts that you cannot change once they have been set up. These include:
Special Needs Trust – A special needs trust (also called a “supplemental needs trust”) is an irrevocable trust that allows the beneficiary to enjoy the use of assets or income held for his benefit, while still allowing him to qualify for needs-based government benefits.
Irrevocable Life Insurance Trust (ILIT) – An ILIT is an irrevocable trust that is both owner and beneficiary of one or more life insurance policies. If the trust meets certain requirements set by the IRS, then proceeds from the insurance policies may avoid inclusion in a decedent’s gross estate for purposes of calculating estate taxes. In other words, an ILIT can help you avoid the estate tax.
Qualified Personal Residence Trust (QPRT) – A QPRT is a trust designed to minimize estate taxes by removing assets from your estate. A QPRT trust holds title to your home and allows you to continue living there for a certain period of time; once that period is over, the interest in the home is transferred to the named beneficiaries of the trust, and the house is not included in your gross estate for estate tax purposes.
Charitable Remainder Trust (CRT) – A CRT is another irrevocable trust that holds income-producing assets. During your lifetime (but for no more than 20 years), you can name yourself (or someone else) as beneficiary — meaning you could receive all the income from the trust. Then, when you die, the assets go to a charitable beneficiary of your choice. This generally allows you to qualify for a partial tax deduction.
None of these trusts are quite as simple as explained above, and there are other types of trusts that serve other purposes. However, these examples should give you an idea of how flexible and creative the trust-making process can be.
How is a trust different than a will?
If you have asked yourself this question, give yourself a high five. Because that is a great question.
Although there are a number of similarities between these documents, their differences are crucial to understand. Here are the main differences between wills and trusts:
A trust can avoid probate. As explained above, assets titled in the name of a trust are not subject to probate. This can save your heirs at least $4,000-5,000 in attorney’s fees and court costs, as well as months or time and stress.
A trust is effective right now. A will takes effect only after your death. This matters because a trust can provide for the care of your assets (and your minor children) in the event of your incapacity. A will, however, does not take effect until you are deceased.
A trust allows your successor trustees to manage assets for beneficiaries. A will gives you no such option. Your 18-year-old may be responsible, but giving him or her all of your estate at once can be a recipe for disaster. A trust allows you to control the distribution of your estate to your child(ren), whereas a will gives it to them in a lump sum.
A trust is a private document. Because a will is subject to probate, a will must be filed in court (meaning it is accessible by public) along with a description of all your assets, debts, and beneficiaries.
There are certainly other differences between trusts and wills, but the nuances do not interest most people. And frankly, this blog post has gone on long enough already.
Learn if a trust is right for you.
To bring us full circle, let’s go back to that original question: Do you have to be rich to have a trust? If you have not already figured it out, the answer is “no.” You do not have to be wealthy to have a trust. Trusts are designed to avoid probate, whether you are rich or poor.
To discuss whether a trust is the best option for you, contact the experienced Oklahoma City estate planning attorneys at Postic & Bates today for a free, no-obligation consultation appointment.
David M. Postic is an associate attorney at Postic & Bates, P.C. His practice includes estate planning, probate, real estate, adoption, business law, and litigation.
You can email David through our Contact Us page or by calling our office at (405) 691-5080.
[As with all our posts, the contents of this article do not constitute legal advice and are subject to our site-wide disclaimer.]