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Trusts - Coggle Diagram

- - - - Long-Term Trust
        
        Dynasty Trust
        
        When a trust is established to last for multiple generations, transfer tax is minimized by preventing the property from being included in each beneficiary’s gross estate.
        
        Example:
        Brian created a trust thirty years ago (in a state that has abolished the rule against perpetuities) that provided income to his only child, Michael, who died this year. Despite the fact that Michael was the primary beneficiary of the trust and was permitted to use the trust’s assets, none of the assets in the trust will be included in Michael’s gross estate, since he did not own the assets. Michael’s children will now be able to receive trust benefits and use the trust’s assets. If, in contrast, Brian gave the assets transferred in trust directly to Michael, those assets would have been subject to estate tax, perhaps leaving only about half of the assets for Michael’s children.
        
        Allowing beneficiaries to use trust assets, instead of requiring distributions from the trust, often results in better estate planning from a multi-generational perspective.
        
        Example 2:
        Assume the same facts as above, except that Gerald’s trust did not mandate income distribution to the children. Instead, the trustee used the trustee's income to purchase artwork displayed in the homes and offices of the children. When the children die, the artwork's fair market value will not be included in their gross estates and will not be subject to estate tax since the children did not own the artwork, and therefore have nothing to transfer through their estate at death. Gerald’s grandchildren can now enjoy the art owned by the trust and exclude the art's value from their gross estates. In such a case, the income earned by the trust is subject to income tax at the trust level.
        
        Example 1:
        At his death, Gerald created a dynasty trust for the benefit of his family. The trust requires the trustee to distribute the income to his children, and when each child dies, to split up that child’s share and distribute the income to the child’s children. All of Gerald’s children are independently wealthy and are renowned art collectors. When they receive the income distributions from the trust, they use the money to purchase art displayed in their homes and offices. When each of the children dies, they will include the fair market value of the art they purchased in their gross estates and subject to estate tax.
        
        A potential problem with the use of trusts is that the property placed in trust may be removed from the stream of commerce for a very long period of time, and would therefore violate a common law dictate stating that any restraint on the alienation of property is void as a matter of law.
        
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    - - Irrevocable trust
        
        Once an irrevocable trust is established and funded, all future appreciation in the trust assets belongs to the trust's beneficiaries. The appreciation and income occurring after the grantor made the gift is not taxable to the grantor. (See Reduction of Income Tax for More Info on Irrevocable Trusts)
    - - GRAT, GRUT, GRIT, QPRT, & TPPTs
        
        When a grantor trust is created, the grantor is required to pay the income tax liability on the trust income.
        
        By paying the income tax liability, the grantor of the trust reduces his gross estate by the amount of the income taxes paid. In addition to reducing the size of the grantor’s gross estate, the payment of the trust’s income tax liability is not considered to be a taxable gift, since the payment requirement is imposed by tax law.
        
        Standby Trust
        
        Also known as a contingent trust, is a trust created during the grantor’s lifetime that is either unfunded or minimally funded. The trust stands by and waits for a triggering event to activate it.
        
        An unfunded trust is a trust that has not received a transfer of property from the grantor. Technically, a trust is not considered to be in existence until it is funded.
        
        The trust may be used during life, during times of incapacity, or at death to assist with estate administration.
        
        Revocable must be inter vivos trusts, that is created during the lifetime of the grantor
    - - All income a trust receives, whether from foreign or domestic sources, is taxable to the trust, to the beneficiary, or to the grantor of the trust unless specifically exempted by the Internal Revenue Code (IRC).
        
        Trusts can eliminate income tax at the trust level by making distributions to beneficiaries.
        
        Under Subchapter J, a trust or estate pays income tax on the amount of income it retains, and the beneficiaries pay income tax on the distributions of trust income that they receive.
        
        Acception:
        If the appreciated property is sold within two years of the date of transfer, an income tax is imposed on the trust equal to what the grantor would have paid if the gain had been included in his or her income for the year the sale occurred.
        
        If trust beneficiaries find themselves in income tax brackets below 37 percent, income tax minimization can be achieved by distributing the trust income to the beneficiaries, who will then pay tax on the trust income at their marginal income tax rate (plus the 3.8 percent Medicare surtax if their adjusted gross income exceeds $200,000 for single individuals and $250,000 for those who are married filing jointly).
        
        The IRC treats a set of substantially similar trusts, created for the purpose of avoiding income tax at higher marginal rates, to be taxed as a single trust.
        
        Simple Trust
        
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        Complex Trust
        
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        Irrevocable Trust
        
        For estate tax purposes, the assets held by an irrevocable trust funded during a grantor’s lifetime are generally excluded from the gross estate of the grantor.
        
        Any transfer to the trust will be considered a taxable gift (unless the grantor retains some interest in the trust) subject to gift tax, and there is no inclusion in the gross estate of the grantor.
        
        Acception:
        When created for charities the unlimited gift tax charitable deduction is available to avoid gift tax on the portion of any transfer that is determined to be for the charity.
        
        Example:
        Forty years ago, Shay purchased a tract of raw land several miles outside of a major city. Over the years, the city has expanded, and the land has appreciated. Shay transferred the land to a Charitable Remainder Unitrust (CRUT - discussed in Chapter 9), retained the right to receive a 5% unitrust payout each year for life, and named the local library (a qualified charity) as the remainder beneficiary of the trust. When Shay dies, the full value of the assets inside the CRUT will be included in his gross estate, since at the date of his death, he had a right to receive income from the trust. His estate will also be entitled to a charitable deduction for the same amount since the trust terminates at Shay’s death, and all of the trust assets are transferred to charity. Note that the inclusion of the CRUT assets in his gross estate will not increase his estate tax liability due to the availability of the charitable deduction but may have an impact on his ability to qualify for a Section 303 redemption, a Section 6166 deferral of the estate tax, or a Section 2032A special use valuation (discussed in Chapter 12).
        
        Example 1:
        Five years ago, Adam created and funded the Luckhardt Dynasty Trust, a perpetual trust for his heirs' benefit. When Adam created the trust, he transferred $1,000,000 to the trust and allocated a portion of his generation-skipping transfer tax exemption (see Chapter 13) to the transfer. Since Adam had used his applicable gift tax credit and applicable annual exclusions in prior transfers to family members, the dynasty trust funding was a fully taxable event for gift tax purposes, and Adam paid $400,000 in gift taxes on the transfer. If Adam dies this year, there will not be anything included in his gross estate related to this transaction since he died more than three years after the transfer. In funding the trust, however, Adam made an adjusted taxable gift of $1,000,000 (recall that Adam used no annual exclusions in making the transfer), which will be added back to his tentative taxable estate for purposes of calculating his estate tax, and the IRS will give his estate credit for the gift taxes deemed paid.
        
        Example 2:
        Assume the same facts as above, except that Adam created the Luckhardt Dynasty Trust two years before his death. Since Adam died within three years of making the transfer, the $400,000 in gift taxes paid will be included in his gross estate under the three-year rule. His executor will add the $1,000,000 adjusted taxable gift to his tentative taxable estate for purposes of calculating the estate tax. Adam’s estate will also receive a credit for the gift taxes actually paid on all prior transfers, including this transfer to the Luckhardt Dynasty Trust.
        
        Gift Tax Exclusion
        
        Most transfers to trusts are transfers of a future interest and are therefore not eligible for the annual gift tax exclusion.
        
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        Acceptions by Retaining:
        
        the right to receive income from the trust;
        
        the right to use the trust assets;
        
        the ability to exercise voting rights on stock transferred to the trust;
        
        a reversionary interest with a value greater than five percent of the trust;
        
        the right to terminate, alter, amend, or revoke the trust; or
        
        the right to control beneficial enjoyment of the trust.
        
        To the extent that the grantor paid gift tax on the transfers, and the value of the trust assets are included in his gross estate, the grantor’s estate will receive a tax credit for the gift taxes actually paid.
        
        Example:
        Thirty-five years ago, Don purchased a beach house in Stone Harbor, NJ. Ten years ago, Don transferred the beach house to a qualified personal residence trust (QPRT), retaining the right to use the property for 20 years, with the remainder of interest passing to his only daughter, Beth. Don passed away last month. The full fair market value of the beach house (the only asset of the QPRT) will be included in Don’s gross estate since, at the time of his death, he had a retained right to use the property that he had been transferred to the trust. To the extent that Don paid gift tax on the value of the remainder interest that he gave to Beth, his estate will receive a credit for the deemed gift taxes paid (to avoid double transfer taxation as discussed in Chapter 6).
        
        In the event, a grantor makes a transfer to an irrevocable trust in which the grantor retains an interest, and the grantor releases his interest in the trust within three years of death, the three-year rule (IRC Section 2035) requires the full fair market value of the trust to be included in the grantor’s gross estate.
        
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        Irrevocable trusts can be either inter Vivos trusts (if created during the grantor’s lifetime) or testamentary trusts (if created by the grantor’s will).
        
        Testamentary Trusts
        
        Two of the most common types are:
        
        credit shelter (or bypass) trusts and
        
        marital deduction trusts (QTIP Trusts, General Power of Appointment Trusts, or Estate Trusts).
  - - - A person not experienced in handling wealth may squander it or invest imprudently.
        
        Revocable Trust
        
        revocable living trust: All of an individual’s property is transferred (retitled) to a revocable trust (a trust that the grantor can terminate at anytime) that is managed by the grantor and is for the benefit of the grantor during his lifetime.
        
        It is important to remember, however, that a revocable trust does not avoid estate taxes – it only avoids the probate process and the resulting probate fees and expenses.
        
        A transfer to the trust will not be considered a completed gift, and therefore will not be subject to gift tax.
        
        Because the grantor retains an interest in a revocable trust, the full fair market value of the assets is included in his gross estate for estate tax purposes.
        
        All revocable trusts are grantor trusts for federal income tax purposes, requiring the grantor to pay income tax on all of the trust income.
        
        All revocable trusts are also inter vivos trusts, that is created during the lifetime of the grantor
        
        Standby Trust
        
        Also known as a contingent trust, is a trust created during the grantor’s lifetime that is either unfunded or minimally funded. The trust stands by and waits for a triggering event to activate it.
        
        An unfunded trust is a trust that has not received a transfer of property from the grantor. Technically, a trust is not considered to be in existence until it is funded.
        
        The trust may be used during life, during times of incapacity, or at death to assist with estate administration.
      - One can use a trust to provide professional management of assets for individuals who are not suited, by training or experience, to manage assets for themselves.
  - - - If property is placed in a trust, however, with appropriate spendthrift protection provisions instead of being transferred outright, the creditors of the beneficiary will not be able to access the funds in the trust to satisfy outstanding creditor claims.
        
        The spendthrift clause simply states that the beneficiary may not anticipate distributions from the trust, and may not assign, pledge, hypothecate, or otherwise promise to give distributions from the trust to anyone and, if such a promise is made, that promise is considered to be void and may not be enforced against the trust.
        
        self-settled trust is when the beneficiary is also the grantor of the trust and, as a general rule, spendthrift protection will not apply.
        
        A few states, such as Alaska and Delaware, have changed their laws to allow the creation of a self-settled asset protection trust, but this protection is far from being the majority rule in the United States.
        
        Example:
        Jonathan decided that he needed to protect his assets from his potential creditors, and created a trust in the state of Texas. He transferred all of his assets to the trust and named himself as the discretionary beneficiary of the trust. The trust included a spendthrift clause. Despite the presence of a spendthrift clause, Jonathan’s creditors will be able to gain access to the trust assets to settle any debts since the trust is a self-settled trust.
        
        A spendthrift clause, coupled with a provision that allows the trustee to make distributions solely on a discretionary basis, is a very strong and effective asset protection tool.
        
        In some states, claims for spousal or child support can be obtained from a trust despite the presence of a spendthrift clause.
        
        Example:
        Pat, a registered nurse, always wanted her children to enter the medical profession. None of her children became physicians, but her grandson, Luca, decided to go to medical school. Understanding the malpractice dilemma faced by physicians, Pat decided she wanted to protect any property that would pass during her lifetime, or at her death, to Luca from Luca’s creditors. She created a trust that named Luca as the discretionary income beneficiary for life and upon Luca’s death, would distribute the trust corpus to Luca’s children in equal shares, per stirpes. The trust included a spendthrift clause. If a malpractice claim is filed against Luca, the assets in the trust will not be available to satisfy those claims. If the trust purchases assets for Luca’s use instead of making distributions to Luca, those assets will also be protected. Note that if Pat had not used a trust, any assets that she transferred to Luca directly would be subject to malpractice claims
  - - - This may be particularly important for clients who have most of their estate tied up in a very valuable asset that they do not want to sell and do not want to divide amongst their children.
        
        Example:
        William owns a farm that has been in his family for over 100 years. The farm is the primary asset in his estate and generates substantial income for William and his family. Some of William’s children are interested in continuing the farming business, while others pursue different careers. William and his wife, Marge, want to treat all of their children equally, meaning that they want each of their children to receive the same amount of money or property from their estate. If the children who want to run the farm receive the farmland, there will be no other assets to give to the other children. William can put the land into a trust that allows the trustee to lease the land to the children who will run the farm. He can name his other children as the income beneficiaries of the trust so that they derive some value from William and Marge’s estate for a period of time. The trustee will distribute the land to the children running the farming operation. In this case, the single piece of farmland has been split into two separate pieces – an income interest and a remainder interest. The children who wish to continue the farming can do so, provided that they “pay” for the other children’s interest in the land through the farming operation's income. The children pursuing other opportunities will “cash-out” over time and therefore be treated fairly in William and Marge's eyes.
      - Pourover Trust
        
        A trust that receives assets from another source, generally the grantor’s estate at the grantor’s death.
        
        The trust is generally unfunded or minimally funded until the assets pour into the trust.
        
        An unfunded trust is a trust that has not received a transfer of property from the grantor. Technically, a trust is not considered to be in existence until it is funded.
    - - By delaying a beneficiary’s enjoyment of the property, it is possible to lower the value of a gift or estate transfer for tax purposes.
        
        Example:
        Denzel recently transferred $1,000,000 to a trust. Denzel retained the right to receive an annuity of $50,000 each year for 10 years. Upon termination of Denzel’s annuity income interest, the trust will terminate and the assets will be transferred to Malcolm and Olivia. When Denzel created the trust, he made a completed gift of the remainder interest in the trust to Malcolm and Olivia. The present value of the $50,000 per year income stream that Denzel will receive is $350,000, and therefore the remainder interest in the trust is $650,000 ($1,000,000 initial funding - $350,000 income interest retained). Since Malcolm and Olivia had to wait to receive the gift (in this case, they had to wait 10 years), Denzel was able to generate a $350,000 temporal discount on the transfer for gift tax purposes. Denzel will have a taxable gift of $650,000 against which he could use some of his applicable gift tax credit.
      - Standby Trust
        
        Also known as a contingent trust, is a trust created during the grantor’s lifetime that is either unfunded or minimally funded. The trust stands by and waits for a triggering event to activate it.
        
        An unfunded trust is a trust that has not received a transfer of property from the grantor. Technically, a trust is not considered to be in existence until it is funded.
        
        The trust may be used during life, during times of incapacity, or at death to assist with estate administration.
  - - - It is important to remember, however, that a revocable trust does not avoid estate taxes – it only avoids the probate process and the resulting probate fees and expenses.
        
        Because the grantor retains an interest in a revocable trust, the full fair market value of the assets is included in his gross estate for estate tax purposes.
        
        A transfer to the trust will not be considered a completed gift, and therefore will not be subject to gift tax.
        
        Standby Trust
        
        Also known as a contingent trust, is a trust created during the grantor’s lifetime that is either unfunded or minimally funded. The trust stands by and waits for a triggering event to activate it.
        
        An unfunded trust is a trust that has not received a transfer of property from the grantor. Technically, a trust is not considered to be in existence until it is funded.
        
        The trust may be used during life, during times of incapacity, or at death to assist with estate administration.
      - All revocable trusts are also inter vivos trusts, that is created during the lifetime of the grantor
        
        All revocable trusts are grantor trusts for federal income tax purposes, requiring the grantor to pay income tax on all of the trust income.
  - - - Revocable Trust
        
        revocable living trust: All of an individual’s property is transferred (retitled) to a revocable trust (a trust that the grantor can terminate at anytime) that is managed by the grantor and is for the benefit of the grantor during his lifetime.
        
        It is important to remember, however, that a revocable trust does not avoid estate taxes – it only avoids the probate process and the resulting probate fees and expenses.
        
        A transfer to the trust will not be considered a completed gift, and therefore will not be subject to gift tax.
        
        Because the grantor retains an interest in a revocable trust, the full fair market value of the assets is included in his gross estate for estate tax purposes.
        
        All revocable trusts are grantor trusts for federal income tax purposes, requiring the grantor to pay income tax on all of the trust income.
        
        All revocable trusts are also inter vivos trusts, that is created during the lifetime of the grantor
      - To probate a will, the will must be submitted to the probate court (in some states, the probate court is referred to as the Surrogates Court or the Orphans Court), and the will is open for public inspection.
        
        The activities of the executor are supervised by the court, and a record of the decedent’s property and debts is placed on file, along with the names of the individuals who will receive the property.
  - - - revocable living trust: All of an individual’s property is transferred (retitled) to a revocable trust (a trust that the grantor can terminate at anytime) that is managed by the grantor and is for the benefit of the grantor during his lifetime.
        
        It is important to remember, however, that a revocable trust does not avoid estate taxes – it only avoids the probate process and the resulting probate fees and expenses.
        
        A transfer to the trust will not be considered a completed gift, and therefore will not be subject to gift tax.
        
        Because the grantor retains an interest in a revocable trust, the full fair market value of the assets is included in his gross estate for estate tax purposes.
        
        All revocable trusts are grantor trusts for federal income tax purposes, requiring the grantor to pay income tax on all of the trust income.
      - All revocable trusts are also inter vivos trusts, that is created during the lifetime of the grantor
- - - - The law imposes several duties to ensure that a fiduciary always acts in the best interests of those s/he is charged to protect.
        
        1) the duty of loyalty
        
        A trustee must be loyal to the beneficiaries of a trust and must make decisions that are in the best interests of the beneficiaries (and consistent with the terms of the trust) even if those decisions result in a loss to the fiduciary.
        
        The Prudent Man Rule:
        
        The trustee, as a fiduciary, must act in the same manner that a prudent person would act if the prudent person was acting for his own benefit after considering all of the facts and circumstances surrounding the decision. Simply stated, the standard is a codification of the golden rule – do unto others as you would have them do unto you.
        
        2) the duty of care.
        
        A trustee owes a duty of care to all beneficiaries, and therefore should make decisions only after engaging in a diligent investigation of the facts and thoughtful consideration of the impact on all of the beneficiaries.
    - - Furthermore, care must be exercised when appointing a trustee who is either a current or potential beneficiary of the trust, or a person who can make discretionary distributions from the trust to benefit a person for whom he has a legal support obligation.
  - - - The person or entity who has the right to current income or distributions from the trust or the current right to use the trust assets.
        
        Generally the term “income” includes dividends and interest earned on trust investments
      - The income and remainder beneficiaries of a trust are the same person (or persons).
      - It is possible for a trust to have only income beneficiaries and no remainder beneficiaries.
    - - The individual or entity who is entitled to receive the assets that remain in the trust on the date of its termination.
        
        Generally, “principal” includes the original trust principal plus all capital gains.