A Revocable Trust is a legal document created during one’s lifetime that allows a person (the “Grantor”) to transfer assets to the Trustee(s) of a Trust. In most Revocable Trusts the Grantor is also the person named as the initial Trustee. Pursuant to the terms of a Revocable Trust the Grantor will have the power to amend or “revoke” the trust during lifetime. Upon his or her death, all assets held in the Revocable Trust are then distributed according the terms of the Trust. Unless the Grantor later becomes incapacitated, the Grantor remains in complete control of the assets placed in the Revocable Trust.
A Revocable Trust (sometimes called a Living Trust) is essentially a substitute for a Will. In many states Revocable Trusts are used to avoid probate. In New Jersey, however, probate is not all that cumbersome or expensive. In New York, the probate process is somewhat more cumbersome and expensive – requiring the filing of an inventory of all probate estate assets and a filing fee is imposed based upon the value of the assets; in other states probate requires appearances in Court. As a result, the Revocable Trust is a more popular estate planning option in those jurisdictions. However, there are some advantages that a Revocable Trust provides, including:
- With a Revocable Trust you can give someone the power to amend the Trust if you become incompetent or mentally disabled. This can be advisable to react to unforeseen changes in the tax law.
- With a Revocable Trust there is no interruption in the power to trade securities held in an investment account. The Revocable Trust will typically provide for a Co-Trustee or the appointment of a Successor Trustee, who can then continue to trade the stocks and bonds after your death. Without a Revocable Trust, you must wait to probate the Will and get “Letters Testamentary” issued before your Executor has the power to trade an investment account held in your sole name. This may take several weeks, and “Letters Testamentary” cannot be issued by law until 10 days after your death.
- The Revocable Trust is a private document, whereas a probated Will is a public document which anyone can search for and make copies at the County Surrogate’s Office. Soon, Will information is likely to be on the internet for all to see.
- In 2002 the State of New Jersey changed its tax laws to provide that estate tax waivers must be obtained for all assets if the total estate is greater than $675,000. The so-called “self–executing tax waiver” (Form L-8 for liquid assets and Form L-9 for real estate), which previously could be used for all estates as long as the beneficiaries were spouses, children and grandchildren, can no longer be used for estates greater than $675,000. The result is that one-half (1/2) of all bank accounts, stocks and bonds, and real estate cannot be sold or liquidated until the State of New Jersey issues tax waivers. This results in much delay. The Revocable Trust arrangement avoids this problem. Waivers are not required for a Revocable Trust since title remains with the Revocable Trust, both before and after death.
The principal disadvantage of a Revocable Trust is that there are additional legal fees incurred at the outset to create and fund the Trust. There may also be a great deal of work involved in funding the Trust during your lifetime. Probate is not avoided unless you transfer all of your “probate” assets to the Trust while you are alive. In any case, with a Revocable Trust, you should always still have a Will, which provides that any remaining assets in your name at the time of your death will “pour over” to the Revocable Trust.
Irrevocable Trusts – In General
An Irrevocable Trust is a legal document created during one’s lifetime which cannot be amended or “revoked” once created. Irrevocable trusts offer tax advantages that Revocable Trusts do not. Irrevocable Trusts are often used to own life insurance policies to keep the life insurance proceeds out of an insured’s estate for estate tax purposes. Irrevocable Trusts are also used to make estate tax efficient gifts for the future benefit of one’s heirs – such as a Grantor Retained Annuity Trust or a Charitable Remainder Trust, among others.
Life Insurance Trusts
A Life Insurance Trust is an Irrevocable Trust created for the purpose of owning a life insurance policy. A Life Insurance Trust is more commonly used when the combined assets of a client, including all life insurance, retirement benefits, real estate and other financial assets exceed estate tax exemptions. In the State of New Jersey, the exemption limitation for non-spouses is only $675,000. In New York State, the exemption is $1 million. As such, it is easy to exceed the limit when taking into account all of a client’s assets. A properly drafted Life Insurance Trust will protect life insurance from estate taxation, while keeping the funds available to a client’s heirs as needed. When applying for a new life insurance policy it is important to create the life insurance trust prior to applying for the new policy and have the life insurance trust be the applicant and owner of the policy.
Life Insurance Trusts typically take advantage of an Estate Planning technique known as “Crummey Powers of Withdrawal”. “Crummey” refers to the name of a taxpayer who successfully litigated a case against the Internal Revenue Service many years ago. The Crummey case held that gifts made to a Trust subject to the Trust’s beneficiaries’ power to withdraw a portion of such gifts qualifies as a “present interest” qualifying for the gift tax annual exclusion (now $14,000 per donee).
A Generation Skipping Trust (“GST”), sometimes referred to as a “Dynasty Trust”) is designed to avoid estate taxes upon the taxpayer’s children’s deaths and beyond. Pursuant to the terms of a typical GST the trust assets are available to the taxpayer’s children, but the trust assets that are not consumed by the children are passed on in further trust for future generations without being taxed in the children’s estates. Currently, there is a $5.25 million limit on the amount that each person can leave in a GST Trust. Generation Skipping Tax planning is usually only considered in estates in excess of $5 million or more, but can be appropriate in some smaller estates (e.g. a couple has only one (1) child).
New Jersey has repealed its “Rule Against Perpetuities” – which means that Generation Skipping Trusts can carry on for several generations and avoid estate taxes at each generation.
New York still has a law that limits the duration of a non-charitable trust.
Charitable Remainder Trusts
A Charitable Remainder Trust (“CRT’) is a Trust created for charitable and estate planning purposes funded by a taxpayer with charitable and tax reduction intentions. The current beneficiary of the trust (often the person making the donation or an heir of such person) receives cash flow from the Trust for a chosen fixed period of time or until death. The cash flow is either an annuity (a percentage of the original value of the assets) or a unitrust amount (a percentage of the current value of the trust assets determined every December 31 for the following year). Once the trust term ends, or the persons dies, the balance of the Trust assets are transferred to one (1) or more charities chosen by the Grantor. A Charitable Remainder Trust must be irrevocable for the tax benefits listed below to apply.
The Tax Benefits of a Charitable Remainder Trust include:
- By donating money or property to a charity in the form of a CRT you will receive a current charitable income tax deduction equal to the actuarial value of remainder interest ultimately passing to the charity while still receiving cash flow from the property for the term chosen.
- Donations of appreciated assets into a CRT avoid any capital gains tax on the donated assets when the assets are sold. This is especially important if you have highly appreciated assets in your portfolio.
- Assets held in a CRT for the benefit of the donor are not subject to estate and gift taxation, which can be substantial sums of money (over 50% including Federal and State taxes). A CRT can also be created under a Last Will and Testament.