7 th Edition ESTATE PLANNING. Michael A. Dalton Thomas P. Langdon. CHAPTER 8: TRUSTS Estate Planning Money Education CH 8 Trusts

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1 7 th Edition ESTATE PLANNING Michael A. Dalton Thomas P. Langdon CHAPTER 8: TRUSTS

2 Introduction Trusts are used for: The management of assets Flexibility in the operation of the estate plan (except charitable trusts) 2

3 Definitions Legal Title title held by the trustee Beneficial Title title held by the beneficiaries Grantor the person who creates and initially funds the trust 3

4 Parties Grantor (a.k.a. Settlor, Creator, Trustor) Person who creates and initially funds the trust Trustee Manages the trust and carries out the provisions in the trust document Must act in the best interest of all beneficiaries Duty of loyalty and care Beneficiary Income has the right to income Remainder has the right to property when trust terminates 4

5 Why Use a Trust? (1 of 3) Management of Assets Assist those not capable of managing assets Creditor Protection Spendthrift Clause States beneficiary cannot assign, pledge or promise to give the assets of the trust to anyone, and if a promise is made, it is void. Also should allow the trustee to make distributions on a discretionary basis Most states do not allow the grantor to create a spendthrift trust for protecting his assets 5

6 Why Use a Trust? (2 of 3) Split interests in property Valuable asset that grantor does not want to sell or split up (e.g., gifting farm to 5 kids where only 2 will participate) 6

7 Why Use a Trust? (3 of 3) Trusts Avoid Probate (Living Trust) Revocable living trust managed by the grantor and is for the benefit of the grantor during lifetime Becomes irrevocable at death Does not avoid estate taxes Trusts Avoid Taxes Transfer future appreciation Avoid transfer tax on subsequent generations Reduce gross estate 7

8 Trust Duration The Rule Against Perpetuities All interests in a trust must vest within lives in being plus 21 years Some states have adopted a statutory rule against perpetuities (90 years) IRS recognizes both rules Some states have abolished the rule against perpetuities but include laws that prohibit the trustee from selling property 8

9 Taxation of Trust (1 of 2) Income Tax Hybrid Entities Distributed Taxed to beneficiaries Accumulated Taxed at trust rates See Exhibit 8.1 Simple Trust mandates distribution of income Complex Trusts permits accumulation of income 9

10 Taxation of Trust (2 of 2) If the trust is revocable not a completed gift If the trust is irrevocable generally completed (unless retained interests) See Exhibit 8.2 on tax issues related to trusts 10

11 Classification of Trust Arrangements Revocable Trusts Avoids probate Provides for management of the grantor s assets if grantor is incapacitated Irrevocable Trusts Used to achieve estate and gift objectives Inter vivos Trust Created during life Testamentary Trusts Created at death 11

12 Classification of Trust Arrangements Standby Trust Unfunded or minimally funded Waiting for triggering event usually incapacity Pourover Trust Receives assets from another source Grantor Trust Inter vivos trust for the grantor Grantor pays all income tax Funded or Unfunded 12

13 Specific Trusts Used in (1 of 8) Inter Vivos Revocable Trusts Important in states with high probate costs Privacy is maintained No notice requirements Terms are confidential Will contests are discouraged State law controls, but generally more difficult NOT effective for reducing estate taxes 13

14 Specific Trusts Used in (2 of 8) Inter Vivos Irrevocable Trusts Completed gift! Use annual exclusion remember need present interest Distributions of income are considered a present interest Crummey (do not forget 5-and-5 power) 14

15 Specific Trusts Used in (3 of 8) Life Insurance Trust (ILIT) Need present interest Bypass Trust (Credit Shelter or B Trust) Spouse can still get the income, HEMS, 5-and-5 Usually Testamentary, but can be Inter Vivos and exclude future appreciation Power of Appointment Trust Generally used to take advantage of the unlimited marital deduction May be used to avoid GSTT 15

16 Specific Trusts Used in (4 of 8) Qualified Terminable Interest Property (QTIP) Trust (Also called the C or Q Trust) Used to take advantage of the unlimited marital deduction Grantor Retained Income/Interest Trust (GRITs) Grantor retains an interest in the trust (usually an income interest) GRATS, GRUTS, QPRTS, TPPTs 16

17 Specific Trusts Used in (5 of 8) Grantor Retained Annuity Trust (GRAT) Fixed percentage of the initial contribution for life or for a term of years Transfer future appreciation out of estate without gift/estate tax consequences If the grantor dies within the trust term, the FMV of the trust property is brought back into the gross estate Grantor Retained Unitrust (GRUT) Fixed percentage of the current value of the trust assets Need to revalue assets every year Not as popular 17

18 Specific Trusts Used in (6 of 8) Qualified Personal Residence Trust (QPRT) Personal residence trust Tangible Personal Property Trust Personal property artwork, antiques, etc. Dynasty Trust Long periods of time Used to avoid transfer tax at the death of each generation Grantor Trust Income taxed to grantor Completed transfer for gift and estate tax purposes Incomplete transfer for income tax purposes 18

19 Specific Trusts Used in (7 of 8) Trusts for minors Section 2503(b) and Section 2503(c) trusts Minors are not generally permitted to own property 2503(b) May hold assets for beneficiary s lifetime but must distribute income annually Annual exclusion available for the present value of the income interest 2503(c) Allows income to be accumulated but assets must be available to child when they turn 21 Annual exclusion available for the contribution Crummey trust Discussed previously 19

20 Specific Trusts Used in (8 of 8) Charitable Trusts Discussed in Chapter 9 Totten Trusts (Pay on Death bank accounts) POD accounts (not really trusts) Blind Trusts Revocable trust used when self management might be a conflict of interest (e.g., a politician) 20

21 7 th Edition ESTATE PLANNING Michael A. Dalton Thomas P. Langdon