We include a column in our law firm’s quarterly newsletter called ‘Ask SSB’ in which we answer questions posed by readers. Recently, a reader asked about the different types of trusts and which one was right for her. As with most estate planning questions, the answer to, ‘what’s best for me?’ is, ‘it depends.’
There are far more than 5 types of trusts and each type of trust is intended to accomplish different goals. Read on to learn about 5 types of commonly used trusts.
- Revocable Living Trust. A Revocable Living Trust is one of the most common estate planning tools. Reasons for using a Revocable Living Trust include probate avoidance and providing management of assets for beneficiaries (such as young children) who are not yet mature enough to manage assets for themselves or for whom an inheritance should be protected from ‘creditors or predators.’ The basic “players” in any trust are the Grantor (sometimes called the Settlor or Donor), the Trustee and the beneficiary. The Grantor is the person (or persons in the case of a married couple) who creates the Trust. The Trustee is the person (or persons) who is in charge of managing the trust assets, and the beneficiary is the person (or persons) who is entitled to receive distributions from the trust. In a Revocable Living Trust, these three roles are often the same person while the Grantor is alive. For example, if I create a Revocable Living Trust, I am the Grantor. I will name myself as the Trustee of the trust and I will also be entitled to receive distributions from the trust. After the Grantor’s death, a successor Trustee will take over management of the trust assets for the benefit of the successor beneficiaries named by the Grantor to benefit from the Trust assets after the Grantor’s death.
- Testamentary Trust. A Testamentary Trust is a trust created under a Will. A testamentary trust comes into existence only when the testator (person who created the Will), dies and the Will is probated. A Testamentary Trust cannot be used to avoid probate. In fact, a Testamentary Trust requires that any assets allocated to it to be subject to the ongoing jurisdiction of the Probate Court. The primary reason for incorporating a Testamentary Trust into a Will is for long-term care planning purposes. There is a federal regulation that provides that assets funded into a trust via a Will are not deemed to be countable assets in determining whether the surviving spouse of the testator is eligible for Medicaid (MassHealth) benefits to pay for long-term care. Testamentary trust planning is often used for married couples where one person is at heightened risk of needing long-term care.
- Supplemental Needs Trust. A Supplemental Needs Trust is commonly used to preserve needs-based governmental benefits for a person with disabilities. Many benefit programs have an asset limit of $2,000 for eligibility. If someone who receives Supplemental Security Income (SSI), for example, were to receive an inheritance of more than $2,000, they would lose the SSI benefit until the amount in excess of $2,000 is spent down in an allowable manner. Giving the assets away is not an allowable spend down. Transferring excess assets to a first-party Supplemental Needs Trust is an allowable spend down. The downside to this type of Supplemental Needs Trust is that it must provide that Medicaid benefits received by the beneficiary during his lifetime be ‘paid back’ to the state at the beneficiary’s death. With respect to a future inheritance this problem is easily avoided by the creation of a third-party Supplemental Needs Trust. This is a trust created by someone other than the beneficiary. For example, parents of a child with disabilities, can create a third-party trust for the benefit of their child into which the child’s inheritance would be paid at the parents’ deaths. A third-party Supplemental Needs Trust does not need to include a payback provision, and assets in the Trust will not cause the beneficiary to lose needs-based governmental benefits. Assets remaining in the trust at the death of the disabled beneficiary may be distributed to other family members.
- Irrevocable Income Only Trust. An Irrevocable Income Only Trust is often used to preserve assets from having to be spent on future long-term care costs. Given the very high cost of long-term care, many people worry that if they have the misfortune to end up in a nursing home all of their assets will be spent on the cost of their care and they will not be able to preserve any assets for their children. The way this type of trust works is that the Grantor of the trust transfers assets (a house or an investment account, for example) to the trust. The terms of the trust permit only income to be distributed out of the trust to the Grantor during his or her lifetime. The trust must prohibit the distribution of any principal to the Grantor. That means, the grantor cannot receive the transferred assets back. There is a 5-year ineligibility period for long-term care Medicaid benefits following the transfer of assets to this type of trust. After the 5-year period, the assets in the trust are not deemed to be ‘countable’ for purposes of determining the Grantor’s eligibility for Medicaid benefits to pay for nursing home care costs. Be aware that this is easier said than done, as MassHealth, the agency that administers the Medicaid program in Massachusetts, does not view such trusts favorably and looks hard to find ways to invalidate them.
- Irrevocable Life Insurance Trust. In addition to long term care planning, irrevocable trusts are created to reduce estate taxes. There are many types of irrevocable trusts used for estate tax planning: Grantor Retained Annuity Trusts (GRATs), Qualified Personal Residence Trust (QPRTs), Gift Trusts, and Charitable Trusts, to name a few. An Irrevocable Life Insurance Trust (ILIT) is used to remove life insurance from the insured’s taxable estate. Although life insurance is not income taxable, it is a taxable asset for estate tax purposes. While this is less of an issue than it used to be under our former federal estate tax laws (our current federal estate tax law means that only the very wealthiest estates are subject to federal estate tax), estate tax is still an issue for people who live in states like Massachusetts which has its own estate tax system. In Massachusetts, estates in excess of $1 million are subject to estate tax. If someone has assets such as a house, a 401K plan, bank accounts and investments totaling less than $1 million when they pass away, there will not be any Massachusetts estate tax. However, if that person also has a $1 million life insurance policy, then their taxable estate is $2 million and there will be estate tax due to the Commonwealth of $100,000. If the life insurance policy was owned by an Irrevocable Life Insurance Trust, then it would not be included in the taxable estate and the estate tax liability would be eliminated.
The best way to determine the Trust that is best for you and your situation is to consult with an experienced estate planning attorney. If we can help you with that planning, please contact us.
Attorney Suzanne R. Sayward is a partner with the Dedham law firm of Samuel, Sayward & Baler LLC which focuses on advising its clients in the areas of estate planning, estate settlement and elder law matters. She is certified as an Elder Law Attorney by the National Elder Law Foundation, a private organization whose standards for certification are not regulated by the Commonwealth of Massachusetts. This article is not intended to provide legal advice or create or imply an attorney-client relationship. No information contained herein is a substitute for a personal consultation with an attorney. For more information visit our website at www.ssbllc.com or call 781/461-1020.
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