TRUSTS IN ESTATE PLANNING
by Michael J. Houlihan
This brochure is one of a series discussing estate planning topics. It provides general information, not legal advice. For advice concerning your specific needs, consult your attorney. If you have suggestions or comments about our brochures, please let us know. You may write us at the address below or e-mail us at: mjh@mhoulihan.com
Copyright 1997 Michael J. Houlihan

Introduction

Clients often want information about trusts in estate planning. You may have seen our brochure: "Basic Estate Planning." If you need more information about trusts than you found in that brochure "Trusts in Estate Planning" provides it. Remember, this is general information, not legal advice. No general brochure is a substitute for face-to-face discussions of your family and its needs.

What's a Trust?

A trust puts money or property in the name of one person for the benefit of another. The creator of the trust is the "Settlor" or the "Trustor." The person who owns the property for another's benefit is the "Trustee" or the "Fiduciary." The person entitled to benefit from the trust is the "Beneficiary." (If you want to be fancy, he is the "cestui que trust.") In more familiar terms, the Settlor instructs the Trustee to manage the trust assets for the benefit of the Beneficiary.

Two Types

Estate planners talk about "testamentary" trusts and "living or inter vivos" trusts. A "testamentary" trust is created in a will and comes into being at death. A "living" trust is created during life. The key difference is that a "testamentary" trust is created in a will. Although there can be good reasons for using a "testamentary" trust, it does not avoid probate.

A "living" trust, on the other hand, can help avoid probate when properly used. A "living" trust exists outside your will. Assets in the trust are not subject to probate. In addition, a "living" trust may elect not to be subject to annual Probate Court review and accounting procedures.

Why a Trust?

There are several reasons for using a trust. Not all of them will apply to your situation. None of them may apply. Contrary to some magazine articles and sales pitches, a trust is not always the best answer to estate planning issues. Here are some reasons for using a trust:

  1. A trust can provide long-term asset management for a beneficiary who is not able to manage his or her own assets. For example, a developmentally disabled child might benefit from being the beneficiary of a trust.
  2. A trust can provide temporary asset management for a child who is not yet mature enough to handle his or her own assets, or for a spouse who needs professional assistance in managing the family assets.
  3. A trust can provide asset protection and management for elderly people, relieving them of the burden of paying bills and making investment decisions.
  4. A trust can keep assets out of probate.
  5. A trust can help avoid federal estate taxes in estates with assets having a value exceeding $600,000. In larger estates, a trust can hold life insurance for use in paying federal estate taxes.

There are other specialized types of trusts used in charitable giving and tax planning which are beyond the scope of this brochure.

Creating a Trust

You create a trust by giving instructions in your will to create the trust upon your death, or by entering into a trust agreement during your lifetime. Most trusts today are "living" trusts so that is what we'll discuss here. A living trust is created by the settlor entering into a trust agreement or declaration with a trustee and putting some assets into the trust.

As with most matters in estate planning, a trust is not a do-it-yourself project. Printed forms for trust are available from several sources, but we do not recommend them. The trust agreement should be in writing and should be signed both by the settlor who creates the trust and by the first trustee. To make the trust immediately effective, some money or property should be accepted by the trustee when the trust is signed.

Trust Agreement Contents

The trust agreement identifies the settlor, names a trustee, and identifies the beneficiaries of the trust. Usually, the trust agreement specifies who succeeds to the job of trustee if the original trustee stops serving as trustee. The trust agreement also identifies the property contributed to the trust, for which the trustee is responsible. Sometimes, only life insurance is put in the trust and sometimes money, real property, or investment assets are contributed.

The trust agreement then goes on to direct the trustee to manage the assets, and how to pay over income and principal to the beneficiaries. The trust specifies when the principal can be paid out, and sets forth a time when the trust will terminate.

Most of the trust agreement consists of powers granted to the trustee and provisions regarding the operation of the trust. A long list of powers for the trustee makes for dull reading but gives the trustee the flexibility to manage the trust in all kinds of circumstances.

The Trustee

Every trust has to have a trustee, and some have two or more. Among the factors to consider in naming a trustee are the following:

  1. Honesty. Most trustees operate without much supervision. Dishonesty among trustees is probably rare, but can be devastating.
  2. Ability. Acting as trustee requires good business judgment and a willingness to abide by the rules the law lays down for trustees. Good record-keeping and attention to detail are very important. Acting as trustee is a serious job and often takes serious time.
  3. Age and Health. General rule: don't pick a trustee who is much older than you are. Most trust arrangements may extend for a long period, sometimes a generation. Your trustee, if an individual, should be expected to live until the Trust terminates. Naturally, this is not usually a consideration where a corporate trustee such as a bank trust department is named.
  4. Residence. A trustee should usually be located close to the beneficiaries and the trust assets, particularly where personal attention to the beneficiaries is needed. An individual in California may have a tough time taking care of trust assets and beneficiaries in Michigan.
  5. Family considerations. If you are considering naming one of your children to act as trustee for another, think about the family implications. Will the beneficiary resent the trustee or vice versa? Only you know the situation well enough to make these judgments.
  6. Independence. The trustee should not be a beneficiary. If there are federal estate tax considerations, it may be essential to have a trustee who is independent of the family. Often a family member is named co-trustee with an independent trustee to solve this problem.
Professional Trustees

Bank trust departments are the most frequently named professional trustees. Banks tend to be stable, good at record-keeping, and many have good professional money management services. Many Michigan banks have served generations of Michigan families. Under most circumstances, a bank trust department is the best choice for a professional trustee. Banks do have some disadvantages however. First, banks charge substantial fees for serving as trustee. Second, some banks seem to have high turnover in their trust departments so that the person you initially talk to may not be the person who ultimately administers your trust. Third, banks seldom have any particular understanding of your individual family.

Some clients prefer to use a professional such as a C.P.A. or lawyer with whom they have a close relationship to act as trustee. Under those circumstances, the service may be more personal but it is not likely to cost less than a bank. In addition, the individual may or may not have experience in acting in that capacity. Obviously, it's hard to generalize here. One thing is for sure, though, if you're naming an individual as trustee, you should have a bank trust department somewhere in the background to step in if all else fails.

Co-Trustees

Often, two trustees are named to act as trustees. This enables use of one trustee who knows the family and one, usually a professional trustee, to provide the business services including asset management, accounting, and record-keeping. Where the trust property is a business that the trustee may not know much about, naming a second trustee can supply special knowledge in that area.

Annual Fees

Trustees are entitled to receive pay for their services, and professional trustees usually have a fee schedule. Banks usually charge on a sliding scale so that the more assets which are managed the lower percentage is charged. Individuals such as C.P.A.s and attorneys typically charge by the hour. Bank fees vary; they compete with one another, after all; the following is a recent fee schedule from a big bank trust department:

Assets Under Management Annual Base Fee
$200,000 $2,800
$500,000 $5,200
$1,000,000 $9,200

Typical Trusts

To give substance to this discussion, we'll outline two typical trusts. These two trusts illustrate some of the most common uses for trusts. The first is a testamentary trust created in a will. The First family has two small children. Even though husband and wife are young and in good health, they have a trust set up in their wills such that if both of them die while the children are still young, the trustee will receive all of the estate to manage for the children. Until the children reach age 21, the trustee will pay income to the guardian who provides a home, will pay medical and tuition bills, and, in general, will manage their money. When the youngest child is 21, the trust will be divided into two equal shares. Each child will then receive 1/2 of his or her share; the second share will be held until age 25, at which time it will be paid over to the child reaching age 25. When the youngest child reaches age 25, the trust will terminate. The First family has named an uncle of the children to serve as trustee, if necessary. When the children are older, the First's may change their will to eliminate this trust.

The Second family is much older, with grown children. Having reached retirement age, and having some investable assets, they have created a living trust and deposited their investment assets in the Trust. Here, the Second's are acting as their own trustees but they have named Right Bank to serve as successor trustee. If the Seconds become unable to manage their affairs, or if it just becomes too much trouble when they become elderly, they will resign as trustees and let the Bank take over. Right Bank will manage the assets for their benefit, will pay their bills, and give them regular reports. When both of the Seconds have passed away, the Bank will distribute the remaining assets in equal shares to the children except the share belonging to Mort. Mort is a compulsive gambler so his share will be held for him for his lifetime. He'll receive all the income but principal will be paid to him only if the trustee is satisfied that its for a good purpose, not gambling. The Second's have named Uncle Ned to serve as co-trustee with the Right Bank. That way, the Bank can consult Uncle Ned about payments to Mort. This trust will not terminate until Mort passes away. If Uncle Ned passes away before Mort, then Mort's brother Fred will act as co-trustee. Fred's not much of a businessman but that's the Bank's job. Fred's job is to provide the family input.

Conclusion

As you see, the modern trust provides a range of valuable opportunities in estate planning. As in the case of the First family, it is likely that the trust will never come into existence, but it is available if a disaster should strike that family. For the Seconds, the living trust provides a mechanism to provide for them in their advanced old age, and to provide for the lovable but irresponsible Mort for his lifetime. One final advantage of the living trust shows up here: a living trust which elects not to register with the Probate Court is confidential. No one ever has to know about the arrangements made for Mort. Many families find that this confidentiality is a valuable feature for them.

Finally, we have other brochures about general estate planning and funding the living trust. If you want information on these topics, select the "General Estate Planning" or "Funding the Living Trust" brochures.


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MICHAEL J. HOULIHAN
539 S. Garfield, P.O. Box 28
Traverse City, Michigan 49685-0028
Tx 231-941-4646 Fax 231-941-4649
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One-half block South of Eighth on Garfield, Traverse City
Email us at: mjh@mhoulihan.com