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Understanding The Pros And Cons Of Different Types Of Trusts

Nov 9, 2023

If you’ve taken the first step of deciding that creating a trust is the right move for you and your family, you may be wondering what step #2 is. Well, there are many different kinds of trusts that all have their own benefits and drawbacks. You’ll need to choose the type of trust – or combination of several trusts – that aligns most closely with your goals and objectives. In this blog, we hope to give you a better understanding of a few of the trusts that you could create, as well as their pros and cons. That way, you will have the information you need to make an empowered decision regarding your future!

Revocable Living Trusts

How They Work

As noted in the name, revocable living trusts are established while you are still alive, and set guidelines which detail how your assets (such as bank accounts, investments, or property) will be divided and distributed upon your death. The creator of the trust has the option to name themselves as the trustee, or seek a professional to fill that role. 

Pros

There are many advantages to revocable living trusts. Another part of its name reveals the first: revocable. The terms of these trusts are able to be changed or altered at any time, for any reason, by the creator (grantor). This can come in handy in the event that there are additions to or deaths within the family that need to be accounted for. 

Secondly, these trusts bypass the complex California probate process, which can drag on for months and substantially deplete the wealth of the estate. Probate is also a public matter, so trusts help keep your family’s business private.

Moreover, you will also be protected if you become incapacitated. If something tragic were to occur which left you chronically ill or disabled, you could become subject to a guardianship or conservatorship in which another person gains control of your property and assets, which puts you at risk of being taken advantage of. Even if you are the trustee of your trust, you can name a successor trustee whom you trust inherently to take over in your stead. 

Cons

The downside of creating a revocable living trust is that it is more time consuming than writing a will, and requires more work upfront. You’ll have to re-title all assets – such as property and/or bank accounts – you want transferred into the trust; if you don’t, they could be subject to probate. Revocable living trusts also do not have any direct tax benefits. Finally, this type of trust does not offer protection from creditors.

Irrevocable Trust

How They Work

Contrary to the former, the terms of irrevocable trusts are set in stone, and are only able to be altered under exceedingly rare circumstances.

Pros

Your assets will be much more secure in this type of trust, especially from creditors and from estate taxes in some cases, as well. Having your assets in an irrevocable trust will also not get in the way of you qualifying for Medicaid since you don’t technically have control over them, which could be essential in the event that you need to pay for nursing home care at some point in your lifetime. As with most other trusts, these will also bypass probate.

Cons

Irrevocable trusts are more difficult to create than revocable living trusts. To reiterate, it is nearly impossible to change the terms of this type of trust, so you are giving up the majority of the control over your assets. You are also not permitted to name yourself as the trustee, so you can’t personally manage your assets.

Testamentary Trust

How They Work

These types of trusts are established in accordance with the instructions outlined in a last will and testament.

Pros

These trusts give you control over how your assets are distributed and the conditions that must be met before, such as reaching a certain age (making it possible to support a minor financially until they reach maturity) or achieving specific milestones. This ensures that beneficiaries receive the assets responsibly and appropriately. Additionally, it offers your assets protection from creditors. Finally, testamentary trusts can be used to reduce estate taxes.

Cons

Unlike other types of trusts, because testamentary trusts are created by the terms of a will, assets must go through probate before they can be successfully put into the trust, so there is a delayed asset distribution, among the other negative consequences that come with the probate process. The cost and complexity of your estate plan could be increased by creating one. 

Charitable Trust

How They Work

The two most common types of charitable trusts are the charitable remainder trust and the charitable lead trust. These types of trusts allow you to hold and distribute assets to a charitable organization that is important to you.

Pros 

Mostly, these trusts make it possible for you to leave behind a philanthropic legacy while still providing a portion for your loved ones to inherit. Depending on the type of charitable trust you choose to create, you may also be able to reduce your income tax, capital gains tax, gift tax, or estate tax.

Cons

A charitable trust is a form of irrevocable trust, so you will not be able to access any of the assets you put into it, or change the terms of the trust. They are also costly and complex to set up. 

Special Needs Trust

How They Work

These trusts allow you to set up funds for a dependent or loved one with special needs that they may use without jeopardizing their eligibility for government programs and benefits. 

Pros

Many individuals who have special needs benefit from government benefits with income limitations. With a trust, their additional funds are not technically owned by them, so these assets won’t be counted when their income is calculated (and therefore won’t be held against them and prevent them from receiving benefits). Special needs trust funds can be used to pay for a variety of non-essential items, such as tuition, training, education, computer equipment, travel, home decor, sporting goods, and more. 

Cons

Creating this type of trust can be costly, because it must be maintained and the yearly management costs can be high. Furthermore, beneficiaries do not have the right to pull funds from the trust whenever they wish; they must request that the trustee withdraw funds from the trust. The trustee must evaluate whether the request is appropriate and serves the purpose of the trust before approving or denying it.

Karpel Law Firm Can Help You Take The First Step In The Right Direction!

Still not sure what the best option for you is? We can help! Our legal team has over 50 years of combined experience and has helped countless clients establish profitable trusts with ease. Call today to schedule your free consultation and learn more about how we can serve you.