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To Have a Trust or Not To Have a Trust, That is the Question?

Posted by Holleigh E. Baker | 01.28.14

To have a trust or not to have a trust, that is the question? There use to be a time when the answer and reason for having a trust or not having one was pretty simple. If your net worth was greater than $1,000,000, yes you should have a trust and the primary reason was for estate tax avoidance purposes. The answer and reason would be equally as simple today if the only reason for a trust was to protect against federal and state death tax.

 

Taxes are not the only reason for having a sound plan succession or wealth transfer plan. In fact, currently under the American Taxpayer Relief Actor of 2012 (ATRA 2012) many people will not have a taxable estate at the time of their death. This is because in 2013, the federal estate tax exemption amount (the amount you can have without incurring federal estate tax) is $5.25 million per person, and this is increasing to $5.34 million in 2014. The question then becomes, if a married couples’ estate is not greater than $10,000,000 why might they still need a trust? Here are a few reasons:

 

 1. Disability or incompetency. If you become disabled or are no longer able to manage your own assets, a trust can help ensure your assets are not mishandled and are available for your use during your lifetime.

2. Control distribution of your assets. A properly drafted trust enables you to structure the way your assets are distributed to multiple beneficiaries through succeeding generations, such as distributions for specific purposes or age-based terminations. These provisions can give you a great deal of comfort knowing that your wishes will be carried out after your death.

3. Ensure that your retirement assets are coordinated with your estate plan and distributed as you’ve planned. You may be concerned that a beneficiary will liquidate a retirement account and incur a large income-tax obligation in that year as a result. But if you name a properly created trust as the beneficiary of a retirement account at your death, the trustee can limit withdrawals to the retirement account’s required minimum distributions (RMDs), based on the life expectancy of the oldest named beneficiary in the trust document.

 4. Keep assets in your family. You may be concerned that if your surviving spouse remarries, your assets could end up benefiting his or her new family rather than your own. A qualified terminable interest property (QTIP) trust provision can, in this case, be used to provide for your surviving spouse while also ensuring that the remainder of the trust’s assets are transferred to the beneficiaries you have chosen.

5. Protect your assets from creditors during your lifetime. If you have a family business, assets protection planning is an important part of succession planning. Structuring your business in a LP (Limited Partnership) or a LLC (Limited Liability Company), will help to insulate from third party creditors. Likewise, if you do not have a family business, you can protect the assets from creditors of the beneficiaries through spendthrift clauses and holding the assets in trust. A spendthrift clause prevents the beneficiary of a trust from pledging the assets of the trust to a third party creditor. Similarly, creditors of the beneficiary cannot attach to the assets of the trust.

6. Protect your assets from creditors after your death. You may be concerned that a beneficiary is not fiscally responsible or perhaps has a substance problem. You can protect the assets from creditors of the beneficiaries through spendthrift clauses and holding the assets in trust.

 7. Growth of assets not subject to estate tax. After you die, the appreciation or growth of the assets that are held in trust are not subject to estate tax at the death of the second spouse. However, the appreciation is subject to capital gain tax.

8. Skipping a generation and transferring assets to grandchildren. Grandparents can transfer assets to their grandchildren using their generation-skipping exemption through a trust.

9. Dealing with the Family Business. If you have an active family business, decisions regarding the succession of management and ownership interest need to be addressed. These decisions can be memorialized in a trust or through various business entities, such as a Limited Partnership.

10. Charitable giving. You may want to make on-going gifts to a charity of your choice or perhaps provide for both a charity and your children. You can accomplish this through the use certain trust techniques. A Charitable Remainder Trust would provide you, during your lifetime, and your beneficiaries an annual payment for so many years and then distribute to the named charity. Another option is a Charitable Lead trust which provides an annual payment to the charity for so many years and then the remainder of the trust distributes to your beneficiaries. You may also receive an income tax charitable deduction.

11. Probate Avoidance. A properly funded trust is one way to avoid probate court proceedings after your death and can save your family time, money, and keep your estate private. A trust is a probate-avoidance 3 technique that allows you to avoid probate for virtually any property you own, such as real estate, jewelry, and bank accounts.

 

While there are numerous reasons to have a trust, it is important to remember there are costs associated with a trust and need to be a considered in your decision of whether to have a trust or not. Here are a few of the costs associated with a trust:

 

 1. Legal, Accounting and Trustee fees: Trust estate planning is more expensive for the creation of Martial and Credit Shelter trusts, also know an A/B Trusts. There are ongoing tax preparation fees when the trust becomes irrevocable (B Trust) and fees for the trustee and investment management services.

2. Higher Potential Capital Gains Taxes at the Second Death: The assets held in Trust B do not receive a second step-up in basis at the death of the surviving spouse.

3. Higher taxes: Income from B trusts are taxed at the top tax rates (including the new 3.8% Medicare surtax) once the income exceeds $11,950. Therefore, when the appreciated assets are sold capital gains will be incurred.

What Should You Do? All you can do is weigh the pros and cons of a trust and make the best choice for your personal circumstances. Along with your estate planner, we can help you think through your situation and decide on the best course of action. Trusts are still a very valuable planning tool but they certainly are not for everyone.

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