Trust Week, Day Two: Types of Trusts

When people ask me why it’s so hard to trust people, I ask them why it’s so hard to keep a promise.

- Unknown

Last time, we talked about what a trust is and some of the things a trust can do. We mentioned a few reasons for why you might create a trust. At the end, I indicated that there were many different types of trusts; I’d like to spend some time today talking about the many different varieties.

There are two basic categories under which trusts fall: revocable and irrevocable. When someone creates a revocable trust, they retain the power to change or cancel that trust at any time and for any reason. Retaining that power allows the grantor to change their mind about how the trust works, what the conditions placed on the beneficiaries should be, and even whether to use a trust at all. If such a trust is revoked, the property is returned to the grantor and he is returned to the position he was in prior to creating the trust, generally speaking. In my list of six essential estate planning documents, the second item listed is typically written as a revocable trust.

An irrevocable trust is one that, once created and signed, cannot be changed or cancelled. It is a permanent creation and will continue its existence until all of its terms and conditions are completed and satisfied. Sometimes, revocable trusts become irrevocable upon the occurrence of certain events such as the incapacity or death of the grantor.

The revocability of a trust is typically what determines its usefulness. A revocable trust allows the grantor to use a trust to design an estate plan that provides a great deal of flexibility. So much so, that many estate planners utilize a revocable trust where a will has previously been the standard. This is especially attractive because using a trust instead of a will eliminates the need for probate on the assets within the trust.

However, by creating an irrevocable trust, the grantor can shelter assets from creditors or from estate taxes. For example, an irrevocable life insurance trust owns a life insurance policy on the grantor’s life, but protects the proceeds from estate tax for the benefit of the grantor’s chosen beneficiaries. Irrevocable trusts are often used in planning for end-of-life concerns like long-term care. Caution must be used, however, because placing property into an irrevocable trust constitutes a gift that may be subject to federal and state gift taxes if not done correctly.

There are many other ways to describe types of trusts:

• A testamentary trust is created within a will. It does not shield assets from probate or from estate tax, but it does help define what, when, and how the grantor’s heirs receive their inheritance.

• A special needs trust or supplementary needs trust provides support to a disabled or aging individual. Such a trust can be created in a way that allows the beneficiary to receive federal and state support along with support from the trust. Someone familiar with those requirements can tell you more about the necessary terms.

• As mentioned before, an irrevocable life insurance trust owns a life insurance policy on the grantor. With careful drafting, the grantor can pay the premiums on that policy while still protecting the insurance proceeds from estate and inheritance taxes.

These examples are just a scratch on the surface of the types of trusts that exist. Some of them require so much explanation that they would require at least one full blog of their own. Within the myriad types of trusts, there are even more numerous clauses and terms that are used. Later this week, we’ll touch on some of the more common trust terms. (I know, it’s not fair to pique your interests so much. You’ll just have to find a way to contain your excitement.)

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Lawyer Joke of the Day:

Q: When lawyers die, why don't vultures eat them?
A: Even a vulture has taste.