Types of Trusts: Which One is Right for You?

A trust is a legal entity that is set up to manage property or assets for the benefit of a third party.[1] There are several types of trusts, and it is important to know which one is right for you. As a preliminary matter, it is important to define certain terms related to trusts. First, the “grantor” is the person who establishes the trust. Second, the “trustee” is the person who generally manages the trust and distributes the income and assets. Third, the “beneficiary” is the person or entity who receives the benefits/income/assets of the trust.[2] Below is a non-exhaustive list of common types of trusts.

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Revocable Trusts

Revocable trusts are also known as living trusts or inter vivos trusts. This is a trust that a person (the grantor) creates during his or her lifetime. The grantor can amend the trust after it has been created, such as changing: the beneficiaries, when the contents of the trust are distributed, which assets are included, and how much money is included.[3] The advantages of revocable trusts are that they can be modified easily, they are excluded from probate court, and they can generally last as long as you want them to. The disadvantages of revocable trusts are that they are subject to estate tax because they are still under the grantor’s ownership.[4]

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Irrevocable Trusts

Irrevocable trusts are different from revocable trusts in that once they are made, they cannot be changed. Some exceptions allow for modifications if all the beneficiaries agree to them; however, the process of approving the changes can be very lengthy and time-consuming.[5] The advantages of irrevocable trusts are that they are permanent and may last for a considerable time period, and they are typically not subject to estate tax. The disadvantages are that they are difficult to change or amend once they are created.[6]

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Testamentary Trusts

Testamentary trusts are trusts that are established by instructions given in a last will and testament.[7] A "last will and testament" is a legal document that provides specific instructions on what to do with a person’s possessions when he or she dies.[8] The testamentary trust manages the assets of the deceased on behalf of the beneficiaries. It also can reduce the estate tax liabilities of the deceased. An advantage of testamentary trusts are that they can be used in situations where the decedent has minor children and does not want the assets/funds to be distributed to his children until they turn a certain age (e.g., 18 years old).[9] Another advantage of testamentary trusts is that they are modifiable while the person is still living (they are similar to a revocable trust in this sense).[10] Two disadvantages of testamentary trusts are that they do not avoid probate, and because of probate, the deceased’s assets are a matter of public record.[11]

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Charitable Remainder Trusts

A charitable remainder trust is an irrevocable trust used to reduce an individual’s taxable income.[12] A trustor donates assets into the trust, which are then paid to one or more non-charitable beneficiaries for a specific period of time. Once that period of time expires, the remainder of the estate is paid to one or more charitable beneficiaries.[13] Advantages of charitable remainder trusts are that they give an individual tax savings, and they also protect the leftover money from creditors and give it to charity instead. Disadvantages of charitable remainder trusts are that they are irrevocable, and the creation of such trusts can be very complex.[14]

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Special Needs Trusts

Special needs trusts are trusts created for individuals with disabilities. They are created so that individuals can receive income without losing eligibility for public assistance benefits.[15] Many people set up special needs trusts so that they can pay for financial needs that are not covered by public assistance. Special needs trusts are irrevocable, and they must be created before the beneficiary turns 65 years old. Also, neither creditors nor the winner of a lawsuit can access funds designated for the beneficiary of the trust.[16]

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Conclusion

There are many types of trusts, and all of them have certain advantages and disadvantages. Choosing the right one based on your individual needs and plans is important. However, trust planning is but one part in your overall estate plan.

Contact Montgomery Legal today to discuss your case and legal options. Schedule a Consultation or call (214) 432-6100.

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[1] Julia Kagan, What Is a Legal Trust? Common Purposes, Types, and Structures, Investopedia (March 2024), available at https://www.investopedia.com/terms/t/trust.asp.

[2] What Is a Living Trust and How Does It Work, MetLife (October 2022), available at https://www.metlife.com/stories/legal/living-trust/.

[3] Revocable vs. Irrevocable Trust: What’s the Difference?, MetLife (September 2023), available at https://www.metlife.com/stories/legal/revocable-vs-irrevocable-trust/.

[4] Id.

[5] Id.

[6] Id.

[7] Julia Kagan, Testamentary Trust: Definition, Examples, Pros and Cons, Investopedia (June 2023), available at https://www.investopedia.com/terms/t/testamentarytrust.asp#:~:text=Living%20Trust-,A%20testamentary%20trust%20is%20a%20trust%20that%20is%20to%20contain,as%20outlined%20in%20the%20will.

[8] Julia Kagan, Last Will and Testament: Definition, Types, and How to Write One, Investopedia (April 2024), available at https://www.investopedia.com/terms/l/last-will-and-testament.asp.

[9] SeeKagan, supra note 7.

[10] Id.

[11] Id.

[12] Julia Kagan, Charitable Remainder Trust: Definition, How It Works, and Types, Investopedia (January 2023), available at https://www.investopedia.com/terms/c/charitableremaindertrust.asp.

[13] Id.

[14] Id.

[15] Julia Kagan, Understanding a Special Needs Trust and Its Benefits, Investopedia (July 2022), available at https://www.investopedia.com/terms/s/special-needs-trust.asp.

[16] Id.

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