Different Types of Trusts Can Meet Your Estate Planning Goals

For some people, creating a trust as part of their estate planning process can be a savvy move to protect their assets and their legacy. But with so many different types of trusts, it can be confusing to know which type is right for your unique situation and objectives. Let’s take a look at what a trust is and some of the different types of trusts that are available.

Some basics about trusts

There is a misconception that trusts are only for the ultra-wealthy. The truth is that a trust can benefit just about any adult who owns property, has other assets, and/or has a dependent.

A trust is a legal document that establishes a “virtual container” for a person’s assets — primarily money and property. In essence, the trust forms a legal connection between:

The trust – The legal document created by the grantor, i.e., the owner of the assets
A trustee – The institution or person who manages the trust’s assets in the best interest of the beneficiary
The beneficiary or beneficiaries – The person, people, or organization that benefits from the trust

In the simplest terms: A trust puts into writing how the grantor’s assets can be used during their lifetime, as well as how their assets should be passed along to the trust’s beneficiaries when the grantor dies. Spelling out these detailed wishes can help avoid confusion and strife after a person passes away — similar to a will. However, depending on the type of trust that is created, trusts can provide certain benefits for estate planning and asset protection that wills do not.

For instance, the assets in a trust can sometimes minimize the estate taxes owed by your loved ones and avoid the probate process (where a will must be proven valid), which can be lengthy and expensive for your heirs. Trusts can enable you to provide for a spouse and/or children after your death, or designate contributions to your preferred charitable organizations. They also can help protect your assets from legal action and creditors.

Categorizing the most common types of trusts

The most common types of trusts will fall into two or more of the following categories:

A living trust (also called an inter vivos trust), which is established and active during the grantor’s lifetime
A testamentary trust, which is created after the grantor’s death
A joint trust, in which a couple retain joint control over assets while both are living, and assets then pass to the surviving partner when one dies
A revocable trust, which the grantor can change or revoke entirely, as long as they are deemed mentally competent
An irrevocable trust, which the grantor cannot change or revoke once it is created unless all beneficiaries consent to the change
A funded trust, contains designated assets in the name of the trust while the grantor is still living
An unfunded trust, only contains assets from the grantor’s will once the grantor passes away

Choosing the right type of trust

For the majority of people, a living revocable trust is a straightforward way to benefit your named beneficiaries after you pass away. It will enable your loved ones to avoid the often-costly probate process and minimize or avoid estate taxes.

But depending on your goals, some people do need a more specialized type of trust. For instance, an irrevocable trust may be beneficial if you work in an often-litigious profession, such as lawyers and doctors. An irrevocable trust prevents legal judgements or creditors from seizing your assets, whereas a revocable trust does not provide this advantage.

Other unique types of trusts

There are many other types of trusts that are designed to meet a person’s unique needs, such as:

AB trusts – Can be an effective tactic for minimizing estate taxes for married couples. It is similar to a joint trust, but an AB trust essentially splits the trust into two upon the first partner’s death. The “A trust” becomes the surviving partner’s trust, and the “B trust” is the decedent’s.

Blind trusts – This is a type of living trust in which the beneficiaries have no prior information on the assets held within the trust. Because a trustee has complete discretion over the distribution of these assets, this type of trust can be beneficial if there are concerns about conflicts of interest.

Charitable trusts – This type of irrevocable trust designates a charitable organization as the trustee and beneficiary of the assets. Depending on how the charitable trust is set up, it can have tax benefits to the grantor and/or their heirs.

Credit shelter trusts – For the very affluent, this type of trust can help reduce or eliminate estate taxes. It can help provide for educational or medical expenses, and assets that remain after the surviving spouse dies can be transferred to the final beneficiaries without owing estate taxes.

Insurance trusts – A way to avoid estate taxes owed by beneficiaries of an insurance policy, this type of irrevocable trust is established with the trust’s only asset being the insurance policy.

QTIP trusts – A qualified terminable interest property (QTIP) trust is similar to an AB trust but ensures that only income (NOT principal) from the “B trust” is paid to the surviving spouse. The remaining funds are held in the original A trust until the second spouse passes and then are passed to the final beneficiaries. This may be a good option for couples who each have children from previous relationships so that their own children receive their inheritance.

Special needs trusts – These trusts are a way to provide financially for a physically or mentally disabled person under the age of 65, who will need life-long care without risking their eligibility for government aid programs such as Supplemental Security Income (SSI) or Medicaid.

Spendthrift trusts – The trustee has near-complete control over the distribution of assets in this type of trust. It might be used when the trust’s beneficiary is either young or has been financially irresponsible in the past.

The Medicaid trust

To qualify for Medicaid, a person cannot have more than a certain amount of assets in their name — a financial eligibility formula that varies from state to state. A Medicaid trust, also called a Medicaid qualifying trust, is another type of irrevocable trust that can potentially help someone in need of long-term care qualify for Medicaid while protecting certain assets from being counted in the Medicaid financial eligibility formula.

By transferring one’s assets into a Medicaid trust, you are no longer considered the owner of the asset and you relinquish control over that asset. Instead, your trustee is tasked with ensuring the assets are managed and used according to the trust’s terms. In essence, with a Medicaid trust, you are moving assets out of your own estate in order to qualify for Medicaid, so the government will pay for your care instead of it coming out of your pocket.

There are some ethical questions around this strategy — having the taxpayer foot the bill for your care when you could perhaps afford it on your own. And keep in mind: This is only applicable for Medicare-/Medicaid-certified long-term care facilities — not self-pay facilities. You can learn more about Medicare trusts here.

Determining which trust meets your needs

While this is not an exhaustive list of the types of trusts, it does give you an idea of the wide variety of options available. But it’s important to understand that there are pros and cons to every type of trust, so be sure to talk with an experienced financial planner, accountant, and/or estate planning attorney, who can help you determine which type of trust is right for your unique situation and goals.

FREE Detailed Profile Reports on CCRCs/Life Plan Communities
Search Communities