Many people realize that having a will for future financial planning is key. In the world of estate planning, trusts can also play a crucial role, yet many people have misconceptions about them. If you're asking yourself, 'What are wills vs. trusts?’, we can help. Today, we’ll delve into different types of trusts, their purposes, and how they can benefit you and your loved ones.
Trust vs. Will
A will is a document that has instructions to guide the probate court in the distribution of a person’s assets after their death. A trust is an entity that creates a plan to efficiently distribute assets after death but can also be used for more complex situations.
The Origins of Trusts
Trusts have a rich history, dating back to around 200 BC in Rome. They first began as a moral law and evolved into a legally enforceable structure. The concept allowed a person to hold property (now known as the fiduciary) for the benefit of another.
This foundational idea was further developed in England with the Magna Carta in 1215, which established more structured legal frameworks around property ownership. Today, trusts remain a vital part of modern estate planning.
Types of Trusts
- Testamentary Trusts
- These trusts are created through a will and only comes into existence after a loved one's death.
- Established during the probate process, which will incur costs (typically around 2-5% of the estate's value).
- Provides a structured, court-supervised way to transfer assets to beneficiaries. They are part of publicly accessible documents and may not be the most cost-effective option.
- Revocable Trusts
- Can be amended or revoked during the individual’s lifetime, offering flexibility.
- They help avoid probate by transferring assets into the trust while the individual is alive and can stay in trust after the individual’s death.
- The trustee has the authority to manage the trust’s assets, which can be beneficial in times of crisis, as well as carrying out more complex instructions.
- Irrevocable Trusts
- Not easily modified or revoked.
- Often used for advanced estate tax planning and asset protection.
- Assets placed in an irrevocable trust are removed from the individual’s estate. This can be advantageous for tax purposes but typically create inflexibility.
Keep in mind: for all three trusts to function effectively, they must have funding. This means transferring assets into the trust. If you are not properly transferring assets, they may still be subject to probate, defeating one of the primary purposes of establishing the trust in the first place.
Common Scenarios for Trust Use
Testamentary Trusts: Ideal for young parents who want to ensure their children are financially supported in a structured manner.
Revocable Trusts: Suitable for individuals nearing retirement or those with assets in multiple states. They simplify the management and transfer of assets.
Irrevocable Trusts: Often utilized by those with significant assets looking to protect their wealth from taxes or potential liabilities.
Understanding the different types of trusts and their purposes is essential for effective estate planning. Whether you are a young parent, nearing retirement, or looking to protect your assets, there is a trust structure that can meet your needs. If you're looking for professional advice on which trust structure may be best for you, please reach out to a member of our Accel Wealth Management Team.
Learn more in the full webinar replay of Estate Planning 2.0.
Written by: Accel Wealth Management & Ryan Hervey, JD