By Robert E. Fravel, Esq.
Recently I’ve had a number of my clients sit down in my office and tell me that they had a living trust set up for them and their spouse years ago, and that “they were all set with their estate plan”. When I probed further and asked why they chose to go with a living trust, their answers ranged from “I want to avoid inheritance tax”; “I don’t want my creditors to be able to touch my assets”; “I want to avoid probate”; and even “I don’t really know”..
As evidenced by my clients’ responses, many people whose estate plan is comprised largely around a living trust, don’t really know what a living trust does. I my personal opinion, I believe a lot of these folks have been duped; either through seminars, unknowledgeable professionals in the legal or financial industry or late night infomercials. I want to attempt to clear up any myths and misconceptions about living trusts. Living trusts can be a very useful estate planning tool, but only if they are used properly. And if you have a living trust and you are unsure why you opted for the LT instead of a will or other estate planning options, chances are your living trust isn’t being used properly.
Misconception #1: Living Trusts avoid paying inheritance tax.
False. Since living trusts are revocable, meaning the assets can be removed from the trust and placed them back in your own name at any time, the IRS treats trust assets as being owned by the person who set up the trust (you). Which means that the trust is non-existent in the eyes of the IRS. When it comes time to paying estate and inheritance tax, your trust beneficiaries will still have to pay inheritance taxes and file an inheritance tax return, regardless of whether or not you had a living trust. The inheritance tax return will be different than that of an estate (a living trust return will reflect non-probate assets), but the amount paid in taxes will likely be the exact same.
Misconception #2: Living Trusts protect your assets creditors.
False. A living trust is revocable. If the trust is revoked, then you (meaning the person who set up the trust) get the assets back, And in the eyes of the law (and the IRS), if you can have access to your assets at any time, then they will be treated as your individual assets and are within full reach of your individual creditors.
Misconception #3: Living Trusts will avoid probate.
This is true. This fact has been repeatedly pitched by many lawyers and financial professionals alike over the last decade. Technically a living trust will avoid the court’s probate process. But here is the catch – in order to do so, ALL of your assets need to be titled (or re-titled) in the name of the trust. For example, after you have a living trust drafted, you need to execute a new deed for your house naming the living trust as the owner of the real estate. All your bank accounts, brokerage accounts, etc. all need to be in the name of the living trust. If at any point before you die, you forget or fail to do this for any of your assets, an estate will have to be opened on your behalf and your beneficiaries will have to go through the court’s probate process to take ownership of the assets that were never transferred to the trust. This is a situation that I see fairly often: A couple has a trust drafted for them, but that is the end of the process. They never retitle their assets in the name of the trust. In this situation, when the couple who set up the trust die, their beneficiaries will have to administer both a trust AND an estate, thus totally defeating a major selling point of the trust.
Misconception #4: I have a trust so I do not need a will.
False. Let’s say you and your spouse set up a trust and properly retitled everything in the name of the trust like you were supposed to do. And you and your spouse also decided that a will was not necessary, because you really did not want to spend more money on lawyers’ fees to have wills drafted. Supposed you and your spouse both died unexpectedly in a car crash, but 4 months earlier you inherited a Potter County mountain house from your recently deceased grandfather. The inherited house would be part of your estate, not the trust. But if you had what is called a “pour-over will”, that house would automatically be transferred to the trust upon your death, and there would be no need for an estate to be opened upon your death. So while you view a trust as a will substitute, a will is also a very important part of an estate plan that contains a trust.
There are undoubtedly situations which justify the drafting of a Living Trust, but the large majority of folks who want one, have based their conclusion on bad information. Before you waste thousands of dollars on have one drafted, sit down with a knowledgeable and experienced estate planning attorney who will give you an honest analysis of your situation.