In my last article, we delved into basic trusts. We defined what they are, and how each type is used. Well, in this follow up article we dive into the weeds, so to speak. This article is an exhaustive list of the most common types of trusts, and will take you from A-Z, as we discuss the thirty-nine — yes, you read that correctly — types. So strap in as I make all these trust types that can be used in your financial planning, financially simple.
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You are probably thinking “Justin, I had no idea there were so many types of trusts”. Well, there’s a lot we don’t know about the fields outside of our expertise.
Just this past weekend, I was fishing, in West Virginia, with my son and some clients. As we fished, I saw a fish that I had never heard of before, called a Tiger Muskie. I didn’t catch it, but I was able to get a pretty close look at it. The point is, while I am an experienced fisherman, there is still plenty of fish out there that I’ve never seen or heard of. The same is true in our business and financial lives. There will always be more to learn. With that said, let’s get down to learning about a topic you might be deficient in.
Before we really dig into the meat of our subject today, I wanted to take a moment to explain why we are taking such a close look at all these trust types. Each serves a specific function in the protection of your assets, minimizing your taxes, and providing for the people you most care about. Not only are they unique in their individual strategies and abilities, but they often work very well with each other to provide the greatest benefit. Understanding the ins and outs of the different types of trusts can help you to get the most out of your plans for the future.
This is a trust that allows you to make changes to it, while you are living. Pretty simple concept, right?
A Grantor is an individual who creates the trust, and this type of trust allows them to place money, assets, or whatever it may be into a trust in order to streamline things.
Once you’ve placed money into the trust, it stays there. You can’t change your mind about this one. There are many types of revocable and irrevocable trusts, and we are going to go over them as we continue.
Most often, a testamentary trust is created by the will and specifically outlines what assets are going to be utilized upon the death of the grantor. If you’re not careful, this could create some problems, tax-wise, for your business. So be sure to have your attorney take a close look at your last will and testament when setting up a testamentary trust.
As the name implies, this is a trust that provides money to a child that is under the age of eighteen. It is usually created before you pass away, but it could be a part of the testamentary process as well. A minor’s trust will require the appointment of a trustee to manage the funds until the minor child comes of age.
A spendthrift trust is a great option for leaving money to someone who may not be the best at dealing with their finances. The spendthrift trust gives an independent trustee the full authority to make decisions as to how the funds may be spent. I recently told you about a client that has a child with some addiction issues. This would be a great trust for someone in such a situation.
I first heard about blind trusts in an episode of Law & Order. Basically, it allows the trustee or anyone with the power of attorney to handle the assets without the beneficiary’s knowledge. The most common reason for this is to stave off contention between beneficiaries.
Discretionary trusts don’t have a constant, or fixed, allocation of assets. The beneficiaries and the payments can be adjusted throughout the length of the trust by the trustee, based upon the criteria outlined within the trust document.
This one is a bit more advanced. An Intentional defective grantor trust freezes some of the grantor’s assets for tax purposes. Essentially, the grantor intentionally creates a problem within the trust document that guarantees they must pay income tax on the income, decreasing the value of their estate. So you would use the estate asset to pay the taxes on the trust that is outside of your estate. Thus, allowing the trust assets to continue to grow without the erosion of taxes.
The credit shelter trust allows married people to avoid estate taxes by allowing the assets specified in the trust to be transferred to the beneficiary. Usually, this is the grantor’s children. This allows the spouses to maximize their estate exemption. These are commonly listed in the last will and testament and used in conjunction with trust number eleven.
Instead of shifting the proceeds of the trust to your children, as in the credit shelter trust, a marital trust moves them to your spouse. When the first spouse passes away, they leave the assets to the second spouse and, through the marital trust, they aren’t included in the second spouse’s estate.
Qualified terminable interest property trusts or QTIP trusts provide for the surviving spouse but allow the grantor to remain in control after the death of the surviving spouse. These are useful in second marriages or to prevent predatory marriages.
If you need to remove your home from your estate, a qualified personal residence trust is a great way to do so. You would transfer your house to a QPRT trust in order to remove it from your estate and it can be considered a gift. Under the terms of the trust, you would allow the beneficiary to live in the house for a certain number of years, rent-free.
Let’s say you want to leave all of your assets to your grandchildren because you have already provided your own children with a means for success. A generation-skipping trust does exactly what it sounds like. It allows you to skip a generation in order to provide for the next one.
Now we will explore the charitable trusts. As their category implies, these trusts offer a variety of charitable benefits. Additionally, these are a great vehicle for mitigating tax liabilities. Don’t worry, there’s nothing wrong with benefiting from your giving.
The first is called the charitable remainder annuity trust or CRAT. With a CRAT you place your assets into the trust, which then pays back a fixed amount each year. Once you die, the remainder goes to charity.
The charitable lead annuity trust is very similar to the CRAT, however, it works inversely. Instead of receiving a fixed annual payment and then giving the remainder to charity, a CLAT pays the annual benefit to the charity and then leaves the remainder to a beneficiary of your choosing, once you’ve passed.
A Charitable Remainder Unitrust, also known as CRUTs, is an irrevocable trust that is created under the authority of the internal revenue service. It pays a fixed percentage of the assets to your beneficiary — or to yourself — and then transfers the assets to a charity after your death.
Charitable Lead Unitrusts or CLUTs allows a donor to give a varying amount each year, for a fixed amount of time. When the term of the trust is met, the remaining assets are given back to the donor or to the beneficiary.
The most aggressive type of CLAT allows small payments to be made into the trust for the first few years. However, a very large payment must be made in the last year, or two. By increasing payments over time, the assets in the trust have more time to grow.
Unlike simple trusts, complex trusts must retain some of their income rather than distributing all of it to their beneficiaries, distribute some or all of the principal to the beneficiaries, or distribute funds to a charitable organization. The name may be a little misleading, however. Complex trusts aren’t necessarily more complicated than simple trusts. They simply allow the trustee greater discretion.
This is one that I personally have. Basically, I’ve set the trust to buy life insurance and when I pass away, the trust shifts the proceeds to my wife and kids.
Some will argue that the Crummey trust isn’t a trust, but rather, a provision. Technically it is a trust, however. It’s based on the 1968 Crummey case and essentially allows you to take advantage of the gift tax exclusion when you transfer cash or assets to another person. With a Crummey trust, you retain the right to place limitations on when the recipient can access the funds.
Buildup equity retirement trusts, allow a spouse to give a gift to their spouse, using the annual gift instead of the unlimited marital deduction. In doing this, the assets are exempt from both the gift and the estate taxes.
These trusts have a few key takeaways. For starters, the individual who creates the trust is the owner of the assets and property for income and estate tax purposes. However, grantor trust rules can apply to a variety of trusts and are a useful tool for minimizing taxes.
GRUTs are irrevocable trusts that allow the grantor to place assets into the trust and receive a variable amount of income during the term of the trust. Let’s say it’s a twenty-year trust, the grantor can receive a fixed or a varied income for the length of that twenty-year term, or the life of the grantor.
Being a Southern boy, I am particularly fond of a good batch of grits but that’s not the type of GRITs I am referring to when I talk about GRITs: grantor retained income trusts. This is the same basic concept as a GRUT but in this case, the grantor places an asset in the trust and retains the right to receive income from those assets for a period of time.
These allow the grantor to make a large contribution, as a means to avoid gift taxes, and then set up an annuity through the GRAT. This creates an annuity payment for a fixed period of the term. Afterward, the remaining assets go to the beneficiary as a gift.
This one is where your attorney will earn his money, as some states do not allow these types of trust. Dynasty trusts are irrevocable and give the grantor the right — as long as it is within the law — to set stringent rules on how the money is to be distributed and how it is to be used by the beneficiary. Because it is irrevocable, a dynasty trust can’t be altered by the grantor or their beneficiaries. These are typically used by wealthy grantors to ensure that they are leaving their financial legacy to generations rather than individuals.
This class of trust is often used to shield an individual’s assets from creditors. These are the strongest protection you can find from creditors, lawsuits, or any judgments against your estate. However, you should always consult a qualified financial advisor to see if this type of trust is right for you.
This is a simple way to protect your assets from creditors. That is literally the simplest terms available to describe a DAPT.
While it might sound like something the incredibly wealthy super-villain in a movie would have, in order to shield their holdings from the scrupulous eyes of the hero, in reality, they’re pretty common. Essentially, you create a trust in a non-domestic jurisdiction to protect your assets from seizures, judgments, or creditors.
We discussed these in the last article, but basically, it is a form of trust in which the grantor places money into a bank account or security. Upon the grantor’s death, the assets in the account pass to a beneficiary.
Illinois land trusts are for non-profit entities for the purpose of conservation. If you had a piece of wooded land or a farm and wanted to have it maintained for the benefit of someone else, you would create a land trust.
A trust that isn’t so well known is the gun trust. It allows its creator to acquire a class-3 weapons holder — you must have a license — in order to transfer a gun into the trust. This is especially useful for collectors and enthusiasts that may have several (Legally obtained) automatic firearms, suppressors, and things of that nature. There are a lot of laws that surround gun trusts though, so it’s best to speak to your attorney when setting one up.
Individual Retirement Account Trusts are often set up by the courts. You are essentially setting up a retirement account for the beneficiary, usually your kids, and placing it into a trust.
As you might expect, this group of trusts is designed with the long-term care of individuals with special needs in mind.
The third-party special needs trust has already been covered in our podcast with Johnathan Payton. You can follow along with the podcast, or read about it in our blog post.
These trusts can be set up by the individual with special needs, in order to maximize their social security or Medicaid benefits.
Medicaid Trusts are income-only trusts that help seniors avoid tax issues and probate problems when they are living in a nursing home and pass away. It’s a way to protect assets, but there are some clawback issues. You will need to speak with an experienced estate-planning attorney. Preferably, one with Medicaid law experience.
Also known as the Miller trust, the QIT protects the assets of an individual that has applied or is applying to Medicaid. If the individual has too much money to qualify for Medicaid, they could place their assets into a qualified income trust in order to meet the financial requirements. Personally, I have ethical issues with this type of trust, but feel free to form your own opinion.
The V.A. Eligible trust is similar in concept to the Miller trust. Once again, you are placing money outside of what the government can track, in order to make way for the Veteran’s Association to help you with in-home care or nursing home care.
Spousal testamentary special needs trusts combine two different trusts to help the surviving spouse be counted eligible for Medicaid.
Finally, we’ve come to the end of our exhaustive list with the pooled trust. It is designed to allow people with disabilities to become financially eligible for public assistance benefits like Medicaid home care.
The goal of most of the trusts that we’ve covered is to minimize the amount of income tax you will be responsible for. Now, that’s not to say that this should be used as a means of dishonesty, but rather that there are allowances and exemptions — if you know where to look — that will allow you to protect your assets and sustain them for the people you love the most. It is important to speak to your attorney when planning and creating your trusts, in order to make sure that you utilize all of the tools available to you, while also keeping within the guidelines of the law.
There you have it, the complete and exhaustive list of the most common trusts used for planning. We can never be sure of how much time we have left, but with a little planning, we can know that we are prepared for the inevitable. Thank you for following me down this rabbit-hole. I hope that it has cleared things up for you, and helps you on your path to living financially simple.
Be sure to follow along throughout my series on Risk Management in the Financially Simple Blog and on the Financially Simple Podcast! And if you have questions about setting up trusts, schedule a call with us. We are happy to help.