The legal definition of a trust is: a relationship in which a trustor transfers assets to a trustee who then manages and controls these assets for the benefit of the beneficiary. In simple terms, a trust is a relationship in which a person, called a trustor, transfers something of value to another person, called a trustee. The trustee then manages and controls the property placed in the trust for the benefit of a third person, called a beneficiary. In managing the property, the trustee must comply with the terms of the trust and with other requirements established by state law.
Trusts are most commonly created under the terms of a will or in a separate written document known as a "trust agreement." A trust which does not become effective until the trustor has died is known as a "testamentary trust. A trust created while the trustor is alive is known as a "living trust." Trusts can also be either "revocable" or "irrevocable." Property placed in a revocable trust can be removed by the trustor at any time, at the trustor's discretion. However, placing property in an irrevocable trust is the same as making a gift - you are giving up ownership and control forever.
What are the uses of a trust? Trusts have several uses and they can be of much benefit when they are properly set up. One common use is to provide flexible control of assets for the benefit of minor children. This often avoids the necessity of having to have a guardian appointed to manage property inherited by minor children since they cannot legally handle their own financial affairs until they reach the age of 18.
Often parents want their children to be even older before they are given full use of their inheritance. It is not difficult to imagine the difficulty most 18-year olds would have with managing a large sum of money given to them in one lump sum. By establishing a trust, parents can select a trustee and specifically instruct them on how to use the assets for the benefit of the children. They can also allow the trustee much more flexibility in managing those assets than a court appointed guardian would have. For instance, the trust may provide that a larger share of trust benefits may be directed toward the care of a disabled child with special needs. This kind of trust is most often included in a will and does not become effective until both parents have died. It is usually set up to provide for the support, care and education of the children until they have reached the age when the trust assets must be distributed outright.
Like another person or entity which has income, a trust will have to pay income tax on any income earned, such as interest or rent on the property held in the trust. However, under certain conditions, the income tax becomes payable by the trust or by the beneficiaries of the trust, rather than by the person who created the trust. The savings occurs when the trust or the beneficiary has a lower tax rate than the trustor. Consider the example of a man who is supporting a retired, elderly parent. The parent will usually have a low income and thus a lower income tax rate than the man supporting him. By placing an income-earning asset in an irrevocable trust which pays the income to the parent, the income will be taxed at the parent's lower rate.
Often trusts can help avoid unnecessary death taxes, especially with married couples. A trust of this kind generally works as follows: the first spouse to pass away leaves a portion of their combined estate in a trust, giving the surviving spouse the income benefit of that trust for the rest of his or her life. The assets placed in the trust are not subject to tax because their value is less than the amount at which the government begins to assess the estate tax. When the surviving spouse dies, only that portion of the estate which was not placed in trust will be subject to estate tax. If everything is properly arranged, the couple's assets can pass to their children when the last parent dies with significantly less estate tax having been paid.
There are many other ways in which trusts can reduce estate taxes, dependent upon the particular circumstances. If your estate is worth in excess of $1,000,000, it would be well worth your time to consult an attorney with estate planning experience.
Many type of trusts and "trust-like" arrangements can be found. For instance, "trustee" bank accounts can be beneficial in appropriate circumstances. However, one should be careful about opening bank accounts "as trustee" without a formal trust agreement.
A living trust is just what it says. While you are living, you transfer ownership of your financial assets out of your name and into the name of a trust. You entrust the handling of those assets to the person you name as trustee.
Though you donít technically own the assets after you put them in a trust, you can still control them. You can also get the benefit of them. You do this by naming yourself as the trustee of the trust and as the beneficiary.
If you transfer assets to a trust during your lifetime, the assets belong to the trust. This means that the property you own must be put in the name of the trust. Deeds must be redrafted in the trust names and all assets must be changed to the name of the trust. This is called funding the trust.
When you die, the assets donít go through probate because you donít own them. The trust papers, rather than a will, give your instructions for what should happen to these assets after your death. You trust the person you have named as successor (back-up) trustee to carry out your instructions.
A living trust can be a legitimate approach to planning for your assets now and after your death. Living trusts are not for everyone, however.
The most clear-cut benefit of a living trust is for:
∑ Persons who own property in more than one state
∑ Persons with significant stock holdings
∑ Persons whose wills are likely to be contested
∑ Persons who may need help managing their assets now or in the future
∑ Parents managing assets for an adult child with a disability
Probate does not affect everyone.
One reason people set up living trusts is to save money by avoiding probate.
You do not need a living trust to avoid probate if your estate will not go through probate anyway. This is true for many Tennesseans:
∑ They have a home owned jointly with their spouse, an insurance policy with a named beneficiary, and a bank account jointly owned with right of survivorship or set up as a "pay on death" account. None of these assets goes through probate.
∑ Other Tennesseans have small amounts of property that do not require the full probate process because they fall under the small estates law.
Probate costs are generally lower in Tennessee than in other states. Also, within the state, probate costs and procedures vary.