What is a Trust?

Introduction

One topic that comes up very often during initial meetings with clients is whether or not they have a will or trust set up. We believe estate planning is essential to creating a holistic financial plan. We want to ensure that our clients know where their assets will be going after they pass and their options for how the assets will be distributed. In this article, we will define “trust” and paint an overview of the different types of trusts and how they compare to a will and one another. 

What is a trust?

Before explaining what a trust is, a few terms are important to know when describing a trust. The first is the grantor or settlor – this is the person who creates the trust and sets its specifications. Next, the trustee, which can either be an individual or an institution, oversees the grantor’s assets and makes sure they are handled and or distributed according to the trust.

A trust is a legal contract in which a third party holds and manages the grantor's assets on behalf of their beneficiaries. Depending on the type, trusts can be set up during the grantor’s lifetime or after their death and can be customized to help meet the grantor's goals.

How a Trust Differs from a Will

Although both a will and a trust are used to distribute assets, there are several significant differences between the two. 

The first and probably most significant difference is that most wills go through the probate process, in which a court validates the will. Trusts generally avoid the probate process, making them quicker to administer and more private. It also allows trusts to avoid any legal fees that would come up from probate. 

The second difference is when each one goes into effect. A will only takes effect after the person passes away. Depending on which type of trust is created, it can either go into effect immediately after creation or at a specified time.

The third difference is the management of assets. A will can only control how assets are distributed, which is then executed by an executor after the person passes. However, a trust allows for ongoing management of assets, both while the grantor is alive and after their passing. The trustee can manage the estate during the grantor’s lifetime or distribute assets according to specific instructions after the grantor passes away.

The last main difference between a will and a trust is that a trust can specify what happens should the grantor become incapacitated before death. A will does not address this possibility, which means that a couple’s affair would have to be managed by a court-appointed guardian if they were incapacitated.

Types of Trust

There are several different types of trusts, each with a specific purpose. The following are the most common types and what distinguishes them.

Revocable Living Trust

This is one of the most flexible types of trusts. It allows the grantor to alter or revoke the trust at any point during their lifetime. The grantor maintains control of the assets while they are living, and upon their death, the trust distributes assets accordingly while avoiding probate. One drawback of this type is that, since it is revocable, the assets are still considered a part of the grantor’s estate and may be subject to estate taxes.

Irrevocable Trust

As the name would suggest, in an irrevocable trust, once the assets are transferred to the trust, the grantor no longer owns them, and the trust is managed according to its terms. This provides asset protection from creditors and may reduce estate taxes since the assets would not be considered a part of the grantor’s estate. Any changes to the trust would have to be approved by the trust's beneficiaries.

Testamentary Trust

This type of trust is created through a will and does not come into effect until the person’s death, much like an irrevocable trust. The will outlines the terms of the trust. The downside of this type is that since it is created using a will, the assets must go through probate.

Special Needs Trust

These are designed to provide for the financial needs of a person with disabilities while maintaining their government benefits, such as Social Security and Medicaid.

Charitable Trust

Charitable trusts are established to benefit a specific charity or the public in general. There are two main types of charitable trusts: Charitable Remainder Trusts (CRT) and Charitable Lead Trusts (CLT). In a CRT, the grantor places assets into the trusts, which then pays the beneficiaries for a set period of time, which can be either their lifetime or a set number of years. The remaining assets are then given to the charity. A CLT is the opposite, in which the trust pays income to a charity for a set amount of time, and after that, the remainder is given to the beneficiaries.

Spendthrift Trust

This type of trust is designed to help the beneficiaries from squandering their inheritance. It is capable of protecting assets from creditors and ensures the beneficiaries receive the money gradually. 

Conclusion

Whether you choose a will or a trust depends on your specific situation, goals, and needs. If your financial situation is straightforward and you do not mind your assets going through probate, then a will may suffice. If you prefer privacy, avoiding probate, and want to protect your assets from creditors, you may want to consider setting up a trust.

Whitaker-Myers Wealth Managers has partnered with EncorEstate Planning, a national estate planner, to help clients get their estate planning in order. If you have any questions about what would be more beneficial to you, reach out to a financial advisor on our team.