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Types of Trusts

In general trusts are primarily designed for two purposes; control over assets and estate tax savings. The estate tax exemption (lifetime gift tax exemption) and the estate, gift, and GST (generation skipping tax) rate are subject to change at any time. You can find up-to-date numbers on Weatherly’s Key Data Chart.

A trust is an estate planning document that provides control over the distribution of assets to heirs and in some cases is needed to preserve the lifetime gift tax exemption available. If you choose to proceed with creating a trust, there are many to choose from based on your specific needs, net worth, income tax level, the type of assets you hold, family dynamics or circumstances, and general goals. Make sure to consult an estate planning attorney and other professionals (CPA) to identify the instrument that is most appropriate for your situation.

While trusts can be complex and a complete review of the uses, purposes, terms, benefits and shortfalls should be discussed with an attorney prior to execution, the following is a general description of the most common instruments used:

Revocable Transfer on Death Deeds (TOD Grant Deeds)

While this is a very recent estate planning addition in California, Transfer on Death Deeds are available in many states. Used for primarily residential property, these deeds allow property to be transferred upon death of owner to a named beneficiary. The main benefit of Revocable Transfer on Death Deeds is their low cost.

Family Living Trusts (FLTs)

One of the most common trusts, FLTs are also known in their simplest form as AB trusts. AB trusts are created for married couples but can either be an individual trust or a shared trust depending on preference. Living trusts are used to preserve the lifetime gift tax exemption upon the death of the first party and can preserve the distribution intent of the first to pass while still providing for a surviving spouse. These types of Trusts can also provide for successor trustees to make decisions in case of incapacity.

Family Limited Partnerships (FLPs)

These partnerships are fairly common and are used to move wealth from one generation to another using gifting techniques. FLPs consist of general partners and limited partners – often the general partner’s children or other family members. The main benefit of FLPs is the ability of the general partner(s) to control and manage the assets, including the timing and amount of assets distributed. The limited partner(s) have financial interest in the trust but no control over investments or distributions. FLPs can also protect members from the claims of future creditors and spouses.

Irrevocable Life Insurance Trusts (ILITs)

These trusts are created for the purpose of removing your life insurance policy from your estate. The main benefit is to remove any estate taxes that might otherwise be due and thus allow more funds to be passed to heirs. This trust is irrevocable, which means very few if any changes can be made to the trust once it is created. Additionally, it requires an independent trustee to administer the trust; including making premium payments and sending “Crummey” letters to beneficiaries as appropriate.

Qualified Terminal Interest Property Trusts (QTIPs)

A variation on the living trust, a QTIP trust is created for the benefit of a surviving spouse but the trust still maintains control over the ultimate disposition of any remaining assets. This can be useful for a spouse that wishes to provide for a surviving spouse but may have children from a previous marriage and wants to preserve any residual assets for their benefit.

Qualified Personal Residence Trusts (QPRTs)

While a QPRT is a more complex trust applicable mostly to taxpayers with estates over the lifetime gift tax exemption amount, it can also be an important consideration for those with a large amount of their net worth concentrated in a home. Essentially, a QPRT transfers the residence from the grantor to the beneficiaries in exchange for rent-free use for the remainder of the trust term. The primary benefit of this type of trust is to remove any additional appreciation of the asset from the grantors estate and thus avoid additional estate taxes that would be due. A drawback is that rent is required to be paid at a market rate after the trust term ends. This could also be viewed as a positive in that it removes additional monies from the estate in the form of rent payments.

Testamentary Trusts

A Testamentary Trust is a trust that is specified in the grantor’s will but is inactive. Upon the death of the grantor, the trust becomes active and the assets are distributed to beneficiaries by a named trustee. These trusts are generally lower in cost to create and are usually made to support needs of beneficiaries rather than for tax considerations.

Special Needs Trusts (SNTs)

A SNT is a trust that is designed to benefit individuals with disabilities, either physical or mental, while preserving their ability to qualify for potential government benefits. The trust can be designed to provide supplemental benefits not otherwise covered.

** The information provided should not be interpreted as a recommendation, no aspects of your individual financial situation were considered. Always consult a financial or legal professional before implementing any strategies derived from the information above.

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