Types of Trusts
- The grantor (or trustor) is the person who creates the trust.
- The trustee is the person who administers the trust once the grantor passes away or if the grantor becomes incapacitated.
- The beneficiaries are the people and institutions who gain the assets held by the trust.
But what are the different types of trusts? And what kind of trust should you set up for your particular situation?
All types of estate planning trusts fall under one of two distinctions. Trusts are either revocable or irrevocable.
A revocable trust means the grantor continues to retain control of everything in the trust during their life. Revocable trusts are flexible and can be dissolved at any time while the grantor is alive. Often, these types of trusts become irrevocable once the grantor passes away.
An irrevocable trust means that, after creating the trust, the grantor has no control or access to the assets, and its terms and conditions are fixed and cannot be changed. While there are several different types of irrevocable trusts, they are typically used for tax planning or asset protection purposes.
Revocable living trust
A revocable living trust is a way to transfer property that avoids the probate process. After creating and funding a revocable living trust, the grantor (the person who began the trust) is no longer the legal owner of those possessions. The trust becomes the legal owner. However, the grantor still has the rights to those possessions and may transfer vehicles, bank accounts, investments, real estate, and other property to and from the trust (except those transactions occur in the name of the trust). It is also possible to add sub-trusts that function like a testamentary trust (see below). A revocable living trust avoids the probate process, saving heirs time and money. Once the grantor passes away, the trustee makes distributions to beneficiaries according to the terms of the trust.
A testamentary trust is established under the provisions of a will and only activates after the grantor dies. Therefore, a testamentary trust does not exist while the grantor is alive. Testamentary trusts are used by those who don’t want to create a revocable living trust but still desire some control over how beneficiaries use their assets. For example, if a beneficiary is young, has issues like a gambling or addiction problem, or needs to pay for education or medical care. The trust can also protect assets from a beneficiary’s creditors and prevent assets from leaving the family due to a beneficiary’s divorce or death. A testamentary trust may bequeath money monthly, annually, or upon certain landmarks like college graduation or a specific birthday. One significant drawback to a testamentary trust is that it does not avoid the probate process.
Irrevocable life insurance trust (ILIT)
This trust holds a life insurance policy on the grantor. Because the trust owns the policy, the proceeds are not typically taxed as part of the grantor's estate (although they become taxable as part of the beneficiaries’ estates). An ILIT can hold either an “individual” or “second to die” (also known as a “joint and survivor”) life insurance policy. The primary purpose of an ILIT is to minimize estate tax.
This trust transfers assets to grandchildren or later generations tax-free (beneficiaries must be at least 37½ years younger than the grantor). Because a generation-skipping trust avoids estate taxes that would apply if the next generation inherited them, these types of trusts are a wealth-preservation tool.
This type of trust limits the beneficiary’s access to the trust’s assets. Instead of distributing an inheritance all at once, the trustee has discretion over how and when distributions are made to a beneficiary.
This These types of trusts for estate planning help protect an inheritance from poor spending habits, creditors, and unfortunate life events, like a divorce. A Spendthrift trust will help keep the funds distributed more evenly, and the strict plan and timeline of the trust will allow it to last well into the future, often for the remainder of the beneficiary’s lifetime.
Special needs trust
These types of trusts are for dependents with physical or cognitive disabilities who receive government benefits, such as Social Security disability or Medicaid. This trust ensures that the beneficiary gains some revenue without risking their eligibility for programs that require their income to remain below a specific limit.
Not sure which type of trust is best for you? Contact Harbor Law for expert advice today!