Creating a trust and transferring assets to it during your life avoids many concerns of the probate process. Although the value of assets held in a revocable trust are includable in one’s gross taxable estate, they are not probate assets subject to the probate process. If assets outside of trust that pass through probate are valued less than forty thousand ($40,000) dollars (in Connecticut), the probate process involves a very short period of time, much less cost to settle, limited disclosure of assets owned and even reduced (or avoided) claims from creditors. Having most, or all, assets held in trust for your benefit avoids conservatorship actions and potential abuse from agents appointed in a power of attorney. Trusts protect beneficiaries who do not have the acumen to properly manage and spend inherited assets by holding and distributing trust assets, instead of gifting them outright, which would subject the assets to divorce claims, bankruptcy proceedings, creditor claims or spendthrift tendencies. Even after death, your trusts benefit only your heirs whom you choose as beneficiaries, thus sheltering your wealth from their over-reaching spouses or the negative elements with whom they associate. One may even provide for multiple generations and, if properly drafted, allow heirs who develop special needs to avail themselves of public assistance without first exhausting trust funds.
The three main negative aspects of the probate process are time, expense and notoriety. A typical, non-contested probate administration takes about one year to complete. Contested estates, or estates involving litigation, have much longer administration periods resulting in more expense, delayed settlement and eventual distribution of assets to heirs. The administration process exposes the estate to court reporting of assets, tax filings, accountings of all items of income and expense during the administration process and creditor claims. An interested party also may contest the Will or the appointment of the named executor in the Will. Legal fees, appraisal fees, executor fees and litigation fees may all deplete the estate. Lastly, the probate process is subject to Freedom of Information claims, making most matters open to public review. Trusts are private agreements not subject to public scrutiny. Although the fiduciary may still incur appraisal fees, the trust administration is outside of the probate administration. In many jurisdictions creditors may only seek redress from the non-trust probate assets.
What if you are ever unable to manage your finances? In such cases, the next appointed trustee (typically after you as maker of the trust) becomes the trustee empowered and instructed by the trust to manage and distribute assets according to the trust terms. You are typically the primary, or sole, beneficiary. The trustee will thus use trust funds to benefit you during the your incapacity and until your death. The trustee pays for all expenses of last illness, housing or continuing care facility expenses and your other needs. Since assets are held in trust and managed by the trustee, abuses are avoided by appointed agents or an “attorney-in-fact” (the person given the power to act under the power of attorney – also called the “agent”) in power of attorney documents. It also avoids the need for a conservatorship proceeding in probate to appoint a conservator to handle your finances along with the time and expense for such proceedings. Trustees are subject to many fiduciary duties as well as possible law suits by the beneficiaries of the trust for any abuse of authority. Although one may sue an attorney-in-fact under a power of attorney, it is not as easy and may be more costly.
This raises an important point with trusts — one should carefully consider who you choose as successor trustee. The trustee must hold, manage and distribute the assets of the trust according to the trust maker’s objectives and instructions drafted into the trust. For instance, the trustee must decide whether to focus investments on income or growth given the trust terms and beneficiary distribution requirements. The trustee must handle tax considerations regarding the trust, especially annual income tax filings and whether the trust should pay for such taxes or to shift the tax burden to a beneficiary or beneficiaries who received the income. Depending upon the trust terms, the trustee may also have to decide the amount and timing of distributions to intended beneficiaries or whether to distribute income or principal outright to the beneficiary or to pay the beneficiary’s expenses directly in case such beneficiary cannot manage funds properly. Substance abuse, incapacity, negative spousal influences, creditor claims and even special needs of a beneficiary are additional concerns to consider. The potential occurrence of any of these factors must be anticipated when drafting a trust and when deciding who should be the trustee. With a reported fifty-five (55%) percent of marriages failing, a dissolution of marriage is an often discussed concern. What if funds go outright via a Will to a child who later gets divorced? Should such inherited assets go to the former-spouse as determined by a judge in the divorce proceeding? Properly drafted trusts avoid these issues.
Carefully considering the many issues of your family may be one of the most difficult aspects in devising an estate plan. All nuances should be considered – whom heirs marry, whether they can effectively manage funds, what if they divorce, their lifestyle, their generation of wealth or propensity to be sued, etc. In the beginning of my career I was hired to handle the probate administration of a widow’s husband. During their lives together he handled all of the investments, bill paying, etc. They had one daughter who was married. After starting the probate process the widow’s son-in-law called to fire me as the attorney of the estate because he felt he should administer the estate himself. I politely explained that the widow was my client and I must speak to her. As she took the phone, I heard the son-in-law aggressively telling her what to say while she cried on the phone trying to tell me that she had to stop my representation for “family harmony”. I explained that I could help her but she said that she had no one else in her life but her daughter and son-in-law to help her.
After hanging up the phone I promptly called the financial planner who had worked with her husband during his life, getting so close to the family that he even ate dinner with them on many occasions. The husband always told this financial planner that he was happy that the financial planner would be there to take care of his wife financially after his death. Unfortunately, he too was fired only to have this son-in-law take control of the estate and the widow’s finances. This deceased man saved all his life for his family but did not have a sound estate plan to protect them. Even if this family did not have a taxable estate, a trust would have avoided this unfortunate situation. The family assets would be there for his spouse and daughter and his carefully selected trustee would be able to guard his life’s savings against the over-reaching son-in-law.
The timing of distribution is key as well. Unfortunately, statutory default provisions for minor beneficiaries, and even some trusts, distribute assets to heirs at the age of twenty-one. But how many twenty-one year olds have the maturity to make the correct decisions to properly manage a life’s accumulation of wealth? To answer this question, consider that the majority of beneficiaries of 401(k) and IRA assets (“Qualified Funds”) immediately cash them out, paying penalties for the withdrawal, instead of stretching out required distributions and reducing income taxes. This could be due to lack of maturity, or lack of education, failure to think long-term or lack of proper advice. Scientists have determined that the human brain does not fully develop reasoning and good-sense skills until age twenty-six (26). Newer studies are indicating that this development may occur even later in life. Age twenty-one clearly is not the correct age to distribute wealth. Yet, pursuant to law, if you die without a trust established for younger beneficiaries, the latest a beneficiary receives inherited assets is at the age of twenty-one. To protect beneficiaries from their own poor judgment, hold assets in trusts for beneficiaries until they attain a later age. Many young people are marrying and establishing their own family later than prior generations. Marriage, home purchases, having children and divorce now occur into the thirties of many young people, instead of their twenties as with prior generations. Clients are increasingly sheltering assets in trust until their children experience these life-changing events. For instance, a trust may instruct a trustee to separately hold funds for a beneficiary, to distribute its income or principal for the beneficiary’s health and education and then to distribute one third of the trust principal outright to the beneficiary at age thirty, one third at age thirty-five and the rest at age forty. A trust could be drafted so that if a beneficiary dies with trust assets remaining, his/her heirs will receive such funds under the same or similar terms. It could also be drafted so at a certain age the beneficiary becomes a co-trustee, able to participate in trust decisions related to tax, income and financial planning matters, but with no discretion to distribute assets. In this way the young beneficiary becomes educated about managing wealth and is less likely to sue the trustee since the beneficiary is at the “decision making table”. The beneficiary also is more likely to properly manage trust funds when the time comes to receive them outright.
A beneficiary with special needs also requires careful consideration. Stand-alone special needs trusts or special-needs provisions within a family trust provide “supplemental” funds for a special needs beneficiary without disqualifying the beneficiary from public assistance. Use of special needs trusts requires specialized care by a learned estate planning lawyer.
If avoiding the probate process is an estate planning objective, consider the many benefits of using revocable trusts as part of your estate plan: quicker estate settlements, lower probate administration costs, privacy of your affairs and protection of heirs for multiple generations.