By Abigail Neal, Arizona estate planning lawyer
Maybe you’ve heard of a Revocable Living Trust, but you’re not exactly sure what that is. Here are some basic concepts to help you understand Revocable Living Trusts:
What Is A Trust?
A trust is a legal entity created at the direction of one or more individuals. A trust effectively a creates a relationship in which one or more persons hold the individual’s property according to certain fiduciary duties to use and protect the property in the trust for the benefit of others. The individuals who create the trust are called settlors or trustmakers. The trustmakers can use the trust to control the distribution of their property during their lives and after their deaths. The person who holds the property for the benefit of another is called the trustee. With most Revocable Living Trusts, the trustmakers are also the initial trustees, however this is not required. The person who is benefited by the trust is called the beneficiary, and there may be one or multiple beneficiaries. When trustmakers create a trust they should transfer title to their assets out of their individual names and into the name of the trust. This process is called trust funding. When properly funded, no probate will be required to transfer title out of the trustmaker’s name and into another person’s name when a trustmaker dies. This is how trusts can help avoid probate.
When a trustmaker creates a trust, the trustee will take legal title to the trust assets. However, although the trustee’s interest in the trust property looks like one of ownership, the trustee does not have any rights to receive the benefits of the trust property. The right to the benefit of the trust property belongs to the beneficiary. For example, let’s say that Jack and Jill Jacobs create the Jacobs Family Living Trust on January 15, 2012. The beneficiaries of the trust are Jack and Jill Jacobs, and after their deaths, their children Jeff, Jared and Jessica. They are the current trustees of the trust. So, when Jack and Jill fund their trust and transfer their assets into trust, they would change the title of the assets to:
Jack and Jill Jacobs, as Trustees of the Jacobs Family Living Trust dated January 15, 2012, and any amendments thereto.
Jack and Jill also named Sarah Smith as their successor trustee. The successor trustee is the trustee next in line after the trustmakers. After Jack and Jill’s death, trust assets should be titled:
Sarah Smith, as Trustee of the Jacobs Family Living Trust dated January 15, 2012, and any amendments thereto.
Although it looks like Sarah Smith is the owner of the trust assets, Sarah Smith does not have any right to the property. Instead, she has a fiduciary responsibility to manage the trust assets for the benefit of the beneficiaries. This means that Sarah Smith must act in good faith with honesty and due regard to protect the assets and serve the interests of the beneficiaries.
What Is A Revocable Living Trust?
A Revocable Living Trust (“RLT”) is a trust you create during your lifetime. The revocable part of Revocable Living Trust means that it can be modified or terminated as long as you are alive and competent.
How Does A Revocable Living Trust Work?
During the your lifetime, the RLT will pay all of the trust’s income to the you as the trustmaker. In addition, it allows you to use any assets in the RLT during your life as you desire. At death, the RLT will distribute the RLT assets according to your distribution plan.
What Are The Differences Between A Revocable Living Trust And A Will?
A RLT is preferable to a will for asset distribution purposes. If a person uses a basic will to set up a distribution plan, he or she will not be able to say when and how any potential heir should receive the property. Under a will, the property will pass outright, meaning all at once as long as the heir is age 18 or older and is not incapacitated. If an heir is under the age of 18 when they become entitled to the assets, a will may name a conservator to manage the minor’s assets until they turn 18. However, as soon as the minor turns 18, all of the money is theirs – no strings attached. Since most people agree that younger people may not be the best money managers or may spend the money unwisely (expensive sports car, lavish vacations, fast lifestyle, etc.), distributing money outright is often not the best option. With a RLT, you can set up a distribution plan for the assets in the RLT depending on your specific desires. You can say that children should have a certain amount of money to go to school, start a business or get married, or you might want to “stage” out their distributions by giving them portions of the money at specific ages. By setting up a custom distribution plan that follows your values, you can ensure that the money left to children is more likely to be spent wisely.
However, while the RLT will address the your distribution of assets after death like a will, a RLT is not a substitute for a will. In Arizona, one important reason to have a will in addition to a RLT is because a will is the only place a parent can name a guardian for his or her minor children. A trust-based estate plan should contain both a will and a RLT. However, unlike a will-based estate plan that will state what assets go to what person, with a trust-based estate plan the will does not state what assets go where. Instead, the will is known as a Pour-Over Will. This means that the will “pours” the assets into the RLT. If a RLT is properly funded and all of the your assets have been transferred into trust at the before death, this pour-over part of the will will not be used. The only time a will is needed to pour assets into the RLT is if you left assets not titled in the name of the RLT at death.
Also, while assets passed under a will require a probate proceeding to transfer the assets, a properly funded RLT does not. In addition, if a trust is properly funded it makes it easy for the successor trustee to manage the your assets should you become incapacitated.
What Are The Benefits Of A Revocable Living Trust?
One of the major benefits of a RLT is the ability to avoid probate as discussed above. A big part of the probate process is transferring title out of the name of the deceased and into the name of the deceased’s heir(s). With a properly funded RLT, this probate transfer is not necessary as the RLT owned the assets when the trustmaker died, not the trustmaker. From there, the RLT assets can be distributed pursuant to the terms of the RLT. Thus, no court proceeding is necessary to transfer the assets of the deceased trustmaker. This also protects the your privacy. When a will goes through probate it is made public record. A properly funded RLT avoids probate thereby keeping the your assets and distribution plan private.
In addition, using a RLT makes it easy for a trustee to manage your assets should you become incapacitated. If all of your assets are in your RLT and the you become incapacitated, your successor trustee can step in and manage the assets in the RLT without the need for a costly proceeding to appoint a guardian or conservator to manage your assets.
Are There Disadvantages To A Revocable Living Trust?
One disadvantage to a RLT is the cost. This is twofold: 1) the cost to create a RLT is usually greater than the cost to prepare a will (our plans start at $1,500 for a trust based plan and $650 for a will based plan) and 2) the costs must be incurred while you are alive, not after death. However, cost savings are also a benefit of having a RLT. Paying for a trust now may save the your heirs the cost of a probate. In the best case scenario, a probate will cost at least $2,500 or more. Trust funding can also be costly depending on who you work with and what types of assets need to be transferred. While some assets like bank accounts can easily be transferred to the RLT without cost, other assets may take a little more time and professional help. Most people working with financial planners will have their financial planner help with the funding. In addition, some people choose to name a corporate or bank trustee to manage the trust assets. As with any professional asset management, a professional trustee will charge a fee for their services.
Are There Tax Consequences To Having A Revocable Living Trust?
During your lifetime as long as you are the trustee and managing the assets, all of the items in the RLT will be taxed using your social security number. Therefore you will not see any changes tax wise. All income must be reported on your normal tax return just as it was before the RLT was set up. While all assets in the RLT are considered taxable for estate and gift tax purposes, proper planning using a RLT can help minimize estate taxes of married couples by taking advantage of exemptions allowed by law.
If I Want To Change Or Revoke My Trust, How Do I Do This?
Generally if a person wants to change or revoke his or her RLT he or she will need an amendment that reflects the changes. Usually the attorney who prepared the RLT can do this relatively inexpensively, depending on the types of changes made or if the RLT is being revoked entirely.
What Happens To A RLT On The Trustmaker’s Death?
Upon the trustmaker’s death the RLT will become irrevocable, meaning it is no longer able to be changed or revoked. All of the assets in the RLT are still considered as part of the trustmaker’s estate for purposes of the estate tax. At the trustmaker’s death the successor trustee will take over RLT asset management duties and distribute the trust assets pursuant to the terms of the RLT. The successor trustee may also be responsible for some administrative tasks such as filing the trustmaker’s final tax return and preparing an accounting of the assets in the RLT.
Do I Need Other Estate Planning Documents In Addition To My Trust?
Yes. As discussed above, you will want to create a Pour-Over Will to take care of any assets not left in the RLT and to name a guardian of your minor children. In addition, Powers of Attorney are also important. For example, the RLT would have no bearing on who would be able to make health care decisions if you become incapacitated. Nor would the RLT specify the your end of life wishes, such as to be taken off life support if you are in a permanent vegetative state or suffering from a terminal condition. A Financial Power of Attorney is also important as the agent named under a Financial Power of Attorney would be able to manage assets not in the RLT if you become incapacitated. This is helpful if you are using a beneficiary deed that will transfer title of your home upon death or a pay on death designation form on your bank account. Any assets in the RLT would be managed by the successor trustee while any assets not in the RLT would be managed by the agent under the Financial Power of Attorney.
How Important Is Trust Funding?
Trust funding is critical. Without properly retitling assets into the RLT your heirs would have to go through a probate to transfer the assets into the RLT. Remember, probate is a public process so your wishes would become public record. When you purchase a trust-based estate plan, we include detailed funding instructions that will walk you through the funding process of the most common types of assets.
Ready to get started? Call Powers & Neal today at (480) 699-7992. Learn more about the estate planning services we provide.