In the world of financial services, many people hear the word “trust” and assume that it's only for wealthy people.
Isn't setting up a trust something that you do when you're a high net worth individual with complicated finances and a need to make elaborate plans for your estate?
The truth is, setting up a trust — whether it's a revocable trust or an irrevocable trust — is useful to more people than you might expect. A trust is a powerful, versatile financial planning tool that can help you reach a wide variety of financial goals, such as: protecting your family's financial future donating money to a favorite charity minimizing your tax liability ensuring that your special needs children or grandchildren get the professional money management help they'll need later.
We talked with Caprice Devereux, CFP®, Senior Vice President and Trust Business Development Officer, about what people need to know about setting up a trust.
The Basics: Definitions and Trust Types
Why do people need to create a trust? What are some typical scenarios where a trust is the right move?
Caprice Devereux: It's true that not everybody needs a trust. But people who do use them tend to use them for asset protection, avoiding probate, or consolidating assets, as, for example, when married couples want to consolidate assets. Basically, there are two types of trusts: a revocable trust or “living trust” is created and managed while you're alive, and an irrevocable trust is created in advance and then becomes effective upon the death of the grantor.
And a few quick definitions: a “grantor” is the person who "owns" or creates the trust. The person or persons who receive or inherit assets from a trust is called the “beneficiary,” and the bank or institution that manages the trust — in our case, that's First Tennessee Bank — is called the "trustee."
The trustee helps to administer the assets in the trust and disperse assets from the trust in a fair and accurate way based on the legal instructions written in the trust document. The trustee serves as a “corporate fiduciary” for the trust, which means we are obligated to act in the best interests of the client and look out for them every step of the way.
What kind of client creates a revocable trust vs. an irrevocable trust?
In general, a revocable trust is what we call a "will substitute." The revocable trust is similar to a will, because the individual is the owner — they're in charge. You put your assets into this trust, and when the grantor [trust creator] becomes incapacitated or dies, the trust avoids probate and the assets get passed on to the inheritors, and life continues.
People who create irrevocable trusts can do so while alive or at death. Made while alive, an irrevocable trust is more of a way to plan for the next generation: such as making gifts to the kids or grandkids while the grantor is still alive, so they can take advantage of the money while they're alive, and it's also an asset protection vehicle where the assets are protected. Conversely, some irrevocable trusts are set up specifically to transfer assets at the grantor's death.
Irrevocable trusts can be thought of more as “legacy planners” or legacy planning vehicles for moms and dads and grandparents. If you want to pass assets down to the next generation and make sure that the assets stay in the family tree forever, an irrevocable trust is often the best way to do this.
Designed for Flexibility: How Trusts Work
What are some goals of establishing a trust? What does a trust do, exactly?
A trust can be crafted and customized in any way that an individual wants. It's a very flexible financial planning tool. When you set up your trust, it's up to the trust advisor and the attorney and all the partners at the table to help give you the right avenue based on your experiences and goals.
For example: Let's say that you want to create a trust for the benefit of your grandchild, and you want the trust to be used specifically for that grandchild's education. The problem is, what if, this grandchild develops a serious illness or injury and becomes incapacitated, and they need money for health care instead?
You need to make sure your trust document covers all the bases. This is where trust advisors should step in and say, “Whoa, hold on a minute — let's make sure we're prepared for possible contingencies. Here is another way of drafting this document.”
As trust officers, we administer whatever the document states. You don't want to be overly narrow or specific. We've seen all kinds of scenarios over the years, and families need to be prepared for everything.
So the question is, what do you really want to accomplish with this trust?
You want to be specific, but also give enough latitude for the trustee to manage those assets in a way that fully benefits your beneficiary.
It's also important to know that a trust can be set up to take care of multiple people — multiple kids or grandkids — in a family. And the rules of setting up trusts can vary significantly by state, depending on your state of residence and the state laws for estate tax and other considerations. For example, here in Tennessee, you can keep assets in trust for up to 360 years after someone dies.
How does a trust relate to estate planning? Do people usually set up a trust as part of an estate plan, or can you set up a trust that is unrelated to your will/estate planning?
Trusts are especially important for estate planning related to real estate. In some states the probate process is very expensive, and a trust for your real estate assets can help to minimize these costs and complexities for your heirs.
If an individual owns real estate outside of their own state that they live in, creating a revocable trust and putting that real estate in the trust is very important. For example, if you die in Tennessee but you own real estate in Florida and Colorado, the executor of your estate may have to probate the property in all three states. But if you had established a revocable living trust and deeded that real estate to the trust, there is no probate for any state.
Situations Where Trusts Are Most Helpful
What are some big-picture issues and opportunities where people need to think about setting up trusts? Is it a misconception that trusts are only for wealthy/high net worth people? Who else can use trusts, and how?
It's absolutely a misconception that trusts are only for wealthy people. There are a few key scenarios where you and your family might benefit from setting up a trust, even if you're not “rich.”
For example, anyone who has a special needs child should consider putting assets in trust for that child. That's a very important aspect of planning where people at all levels of wealth can benefit from creating a trust for this purpose.
If you are a single person with no heirs, or if you live very far away from your kids or other close relatives, and you're elderly, creating a revocable trust for yourself can help you get some additional support to manage your finances as you get older. You can set up a trust for yourself, where you have a trust department pay your bills and help manage your finances in the same way that a sibling would.
By doing so, you get a corporate fiduciary established as your trustee to manage your money, pay your bills, look out for your best interests, and help protect you and your assets from scam artists. Your money is held in trust and managed by the trustee and it's not “creditor protected,” but you have a third-party corporate fiduciary managing your finances for your benefit.
Or you may have someone in your family who is not financially responsible enough to manage their own money, even if it's a small dollar amount. You can put this money in trust and have the trustee manage the money for that person's benefit.
Trusts can also be useful for philanthropy.
If you are charitably minded, you can create a trust such as a “Charitable Remainder Trust” for a favorite charity.
This sort of charitable trust lets you give money — a bit at a time — for the next 20 years, for example, to a children's hospital or to another qualifying charitable organization. Sometimes there are tax-efficient ways for grantors to put money in a charitable trust while alive or upon death. And, if your estate is large, as in: “larger than the federal exemption for estate tax," you definitely need to think about trust planning.
Determining Your Needs and Getting Started
How does the process work of setting up a trust?
From the moment someone walks into our office, we go through a process of first doing some financial planning to find out their overall needs and wants and do some discovery. We talk about what they really want to do with this money or these assets, and figure out their situation. Then we make an “estate plan flowchart” to determine what is the right plan, meet with the family, do an estate plan assessment, and refer them to an estate planning attorney to draft documents.
Next, we work on evaluating the trust documents with the full details on what is in the trust and make sure there are clear instructions for how to administer and manage those assets.
Any kind of assets can be put into trust; there's pretty much nothing you can't do inside of a trust — you can put money into mutual funds, create a portfolio of stocks, bonds, mutual funds; you can put real estate or commercial real estate into trust; and you can have LLCs or C-corps in trust. But it all has to be in the best interest of the client — you need to evaluate risk tolerance, figure out how much money to distribute each year, and all the other details to suit the client's overall goals.
Anything else that people should know about trusts?
People often think you have to have millions of dollars to have a trust, and that's not true. Or people have the misconception that corporate fiduciaries are too expensive — that's not true either: There's a value that we provide in administering these trusts and it's often easier and more cost-effective to set up a trust than it would be to hire for all of these services separately.
For example, if you're managing money outside of a trust, you typically have to hire someone to manage the money, hire a CPA to do a tax return, hire property managers for your real estate assets.. With a trust, all these services can be provided by a trustee. Trusts are often underappreciated. They are powerful, versatile tools that give people a lot of capabilities to create a better financial future.