The purpose for creating a trust is varied as the needs are varied, but the creation has a guiding principal:
A Trust creates a fiduciary relationship in which one person (the trustee) is the holder of the legal title to property (the trust property) subject to an equitable obligation (an obligation enforceable in a court of equity) to keep or use the property for the benefit of another (the beneficiary).
The following Types of Trusts summarizes a variety of trusts that are formed for a variety of reasons. Our Trustees in collaboration with your attorney, CPA and trusted advisers will assist you in selecting the Trust that meets your needs.
CHARITABLE LEAD ANNUITY TRUST (CLAT)–A CLAT is a type of charitable trust that’s required to distribute a specific fixed dollar amount to one or more qualified charities (either specified in the instrument or selected by the trustee), determined at the time the trust is created. The annuity amount must be paid out periodically, at least annually, for a specified number of -years or for the life or lives of individuals. At the end of the trust’s term, the remainder interest must be distributed to one or more non-charitable beneficiaries. A CLAT can be created during a donor’s lifetime or at his death.
CHARITABLE LEAD UNITRUST (CLUT) A CLUT is required to distribute a sum equal to a fixed percent of the net fair market value (FMV) of the trust’s assets, as revalued annually, to one or more qualified charities (either specified in the instrument or selected by the trustee). The unitrust amount must be paid out periodically, at least annually, for a specified number of years or for the life or lives of individuals. At the end of the trust’s term, the remainder interest must be distributed to one or more non-charitable beneficiaries. A CLUT can be created during a donor’s lifetime or at his death.
CHARITABLE REMAINDER ANNUITY TRUST (CRAT) A CRAT is required to distribute a fixed sum of at least 5 percent, but no more than 50 percent, of the initial value of the trust’s assets to one or more non-charitable beneficiaries. The annuity amount must be paid out periodically, at least annually, for a specified number of years (maximum of 20 years) of for the life or lives of individuals. At the end of the trust’s term, the remainder interest must be distributed to one or more qualified charities (either specified in the trust instrument or selected by the trustees). No additions to the trust’s principal may be made after the trust is established. A CRAT can be created during a donor’s lifetime or at his death.
CHARITABLE REMAINDER UNITRUST (CRUT)–A CRUT is required to distribute a fixed sum of at least 5 percent, but no more than 50 percent, of the net FMV of the trust’s assets as valued annually to a non-charitable beneficiary. The unitrust amount must be paid out periodically, at least annually. At the end of the trust’s term, the remainder interest must be distributed to one or more qualified charities (either specified in the trust instrument or selected by the trustee). Additions to the trust’s principal may be made after the trust is established. A CRUT can be created during a donor’s lifetime or at his death.
CREDIT SHELTER TRUST—Also known as a bypass trust or a unified credit trust, this trust is typically created under a will or revocable trust agreement and is funded after death with an amount equal to a testator’s or grantor’s unused “applicable exclusion amount” the maximum amount insulated from federal estate taxes at an individual’s death. The 2010 Tax Relief Act raised the applicable exclusion amount from $3.5 million to $5 million in 2010, 2011 and 2012.
A credit shelter trust generally reduces, and may even eliminate, federal estate taxes ultimately due on the estates of a married couple. Although the terms of this trust can vary, most credit shelter trusts benefit a surviving spouse for life; other individuals, such as the children, may also benefit. At the surviving spouse’s death, the trust’s assets can pass outright or in trust to the children or other designated individuals free from federal estate taxes.
CRUMMEY TRUST—A Crummey trust is an irrevocable trust established for the benefit of one or more individuals and is typically created as a vehicle for receiving and retaining annual tax-free gifts. Typically, a gift in trust isn’t a gift of a present interest and won’t qualify for the annual $13,000 gift tax exclusion in 2010 and 2011, because the beneficiary doesn’t have the immediate use of the property. To avoid this restriction, a Crummey trust gives the beneficiary a current right to withdraw the property contributed to the trust, called a “Crummey withdrawal power” during a limited period of time (typically 30 or 60 days). If, after receiving formal notice, the beneficiary fails to withdraw the property during the specified period (the usual occurrence), the gifted property becomes part of the trust assets and is administered with the other property in accordance with the provisions of the trust agreement.
Most irrevocable life insurance trusts (JUTs) are Crummey trusts. With an JUT (discussed on p. 32e), the grantor typically contributes enough money to pay the insurance premiums.
This planning technique is also an alternative to an Internal Revenue Code Section 2503(c) minor’s trust (discussed on p. 32d) when making gifts to minors.
DYNASTY TRUST—Also known as a perpetual trust, this irrevocable trust is typically created by a grantor during his lifetime for the benefit of the grantor’s children, grandchildren and more remote descendants. This trust is generally funded with an amount up to the grantor’s maximum available GST tax exemption ($5 million for 2010, 2011 and 2012).A dynasty trust is typically created to last for a term that won’t violate a particular state’s rule against perpetuities (the maximum trust term permitted under state law), which is equivalent to a period of 21 years beyond the lives of designated individuals living at the time the trust is created.
A number of states, such as Alaska, Delaware, Illinois, New Jersey and South Dakota have abolished laws relating to the rule against perpetuities, making it attractive to establish a dynasty trust in those jurisdictions. If properly drafted and properly administered, a dynasty trust can last hundreds of years, providing a vehicle to pass assets from one generation to the next, free of estate, gift and GST tax.
GENERATION-SKIPPING TRANSFER TAX-EXEMPT TRUST–A GST tax-exempt trust is an irrevocable trust, such as a dynasty trust, to which all or a portion of a grantor’s unused GST tax exemption has been allocated. The exemption represents the amount of assets a grantor can insulate from GST tax. Subject to several exceptions, the GST tax is imposed whenever there’s a transfer to a “skip” person—an individual who’s two or more generations below the grantor, such as a grandchild or great-grandchild. A skip person can also be a non-family member, if that individual is more than 371h years younger than the grantor.
The GST tax is in addition to any estate or gift tax owed on a transfer. In 2010, 2011 and 2012, each individual is allowed a lifetime GST tax exemption of $5 million. A GST tax-exempt trust is generally created to use an individual’s GST tax exemption, thereby insulating those trust assets from GST taxes and allowing them to pass to future generations, free of any GST tax.
GSTs that exceed an individual’s GST tax exemption are taxed at the highest federal estate and gift tax rates, which are currently 35 percent and will remain at that rate through the end of 2012.
GENERATION-SKIPPING TRANSFER NON-TAX-EXEMPT TRUST–A GST non-tax exempt trust is an irrevocable trust to which no portion of a grantor’s unused GST tax exemption has been allocated.
GRANTOR RETAINED ANNUITY TRUST (GRAT)–A GRAT is an irrevocable trust into which the grantor transfers assets and retains the right to receive, at least annually, payment of a fixed dollar amount (the annuity) for a specified term of years (the GRAT term). At the end of the GRAT term, the trust’s remaining assets, including appreciation, pass to designated beneficiaries, generally members of the grantor’s family (the remainderpersons).A transfer to a GRAT constitutes a taxable gift if the value of the grantor’s retained right to receive the annuity is less than the value of the transferred property. If the grantor dies during the GRAT term, some or all of the remaining trust assets will be includible in the grantor’s estate for estate tax purposes. However, if the grantor survives the GRAT term, the assets remaining at the end of the GRAT term pass to the remainderpersons free of any further gift tax.
INTER VIVOS TRUST–An inter vivos trust is created during a grantor’s lifetime. Depending on the grantor’s wishes, this trust can be revocable or irrevocable. It’s to be distinguished from a testamentary trust, which is created under a will and becomes effective and irrevocable after an individual’s death.
IRC SECTION 2503(c) MINOR’S TRUST–An IRC Section 2503(c) minor’s trust is an • irrevocable trust established for the benefit of a minor child to receive and retain annual tax-free gifts in trust until the child reaches age 21. Typically, a gift in trust isn’t a gift of a present interest and won’t qualify for the annual $13,000 gift tax exclusion because the beneficiary doesn’t have the immediate use of the assets.
IRC Section 2503(c) creates an exception to this rule, however, and specifically authorizes gifts in trust for a minor child’s benefit, which will qualify for the annual gift tax exclusion if three conditions are met. The trust instrument must provide that (1) the principal and income from the trust may be expended for the child’s benefit at all times; (2) all undistributed principal and income must be distributed to the child when the child reaches age 21; and (3) if the child dies before reaching age 21, the principal and income will be included in the child’s estate.
If properly structured, the trust can continue for the child’s benefit after he reaches age 21, if the child doesn’t withdraw the property from the trust at that time.
IRREVOCABLE TRUST—An irrevocable trust can’t be revoked or amended by a grantor during the grantor’s lifetime or at the grantor’s death. It’s distinguished from a revocable trust, which can be revoked or changed during the grantor’s lifetime.
IRREVOCABLE LIFE INSURANCE TRUST (ILIT)—An ILIT is an irrevocable trust created by an individual (the grantor-insured) to remove life insurance proceeds from the grantor-insured’s estate for estate tax purposes. This technique uses the trust as the owner and beneficiary of the life insurance policies. This trust can be funded either by transferring an existing policy to the trust or by having the trust purchase a new policy on the grantor insured’s life. If existing insurance is transferred to the trust, the grantor must live for three years before the proceeds can be removed from the estate for estate tax purposes.
QUALIFIED DOMESTIC TRUST (QDOT) A QDOT is created for the benefit of a surviving spouse who isn’t a U.S. citizen. The trust can qualify for the federal estate tax marital deduction.
In general, property passing from a decedent to a surviving spouse who isn’t a U.S. citizen won’t qualify for the marital deduction unless the property is distributed to a QDOT. Similar to a qualified terminable interest property (QTIP) trust (described on p. 32f), the QDOT must provide that the surviving spouse is entitled to receive all income from the trust, payable at least annually. The QDOT is subject to a number of stringent requirements. For example, the trust must have at least one trustee who’s a U.S. citizen or domestic corporation. Similarly, if trust principal is distributed to the non-citizen spouse, the U.S. trustee is required to withhold funds equal to an estate tax attributable to the principal distributed. Although exceptions are made for principal distributions due to hardship, the estate tax is determined at the highest rate applicable to the deceased spouse’s estate.
QUALIFIED PERSONAL RESIDENCE TRUST (QPRT)—A QPRT is an irrevocable trust into which a grantor transfers a personal residence and reserves the right to occupy the residence, without payment of rent, for a specified term of years (the QPRT term). When the QPRT term ends, the residence passes to designated beneficiaries, usually the grantor’s children or other family members, either outright or in further trust. The grantor may continue to reside in the residence when the QPRT term ends, but the grantor must pay FMV rent to avoid the inclusion of the residence in his estate for estate tax purposes.
The major advantage of this technique, if the grantor survives the QPRT term, is the grantor’s ability to transfer a personal residence to family members at the future date (when the QPRT term ends) using the present value of the residence for gift tax purposes, reduced by the actuarial value of the grantor’s retained right to occupy the residence during the QPRT term. If the residence appreciates in value during the QPRT term, that appreciation will pass to the family members free of estate and gift tax. If the grantor dies during the QPRT term, the entire value of the residence will be includible in the grantor’s estate for estate tax purposes.
If specific statutory requirements are met, a vacation home can also qualify for this planning technique.
QUALIFIED TERMINABLE INTEREST PROPERTY TRUST—A QTIP trust is created for the benefit of a surviving spouse. The trust qualifies for the federal estate tax marital deduction so that no estate tax is payable on the assets passing to that trust. A QTIP trust must pay the surviving spouse all income from the assets at least annually and no other person can have a present interest in the assets during the surviving spouse’s lifetime. In addition, to the extent that the trust’s assets qualify for the marital deduction, those assets are includible in the surviving spouse’s estate for federal estate tax purposes at the spouse’s later death.
REVOCABLE TRUST—Also known as a living trust, this is a trust that’s created by a grantor to manage his assets during his lifetime. The grantor retains the right to change or alter the terms of the trust, including the right to completely revoke the trust. The trust becomes irrevocable and unamendable at the grantor’s death. One of the often-cited benefits of a fully funded revocable trust is the avoidance of probate and its attendant delay in the management of estate assets. The primary benefit, however, is that it provides a pre-arranged mechanism that will ensure the continued management and preservation of an individual’s assets if an individual becomes disabled. The trust’s provisions then simplify asset management at death. It can also set forth all of the dispositive provisions of the grantor’s estate plan.
Generally speaking, a revocable trust won’t save the grantor income taxes during lifetime, nor will it save estate taxes at the grantor’s death.
SUPPLEMENTAL NEEDS TRUST (SNT)— Also known as a special needs trust, this trust is created for the benefit of a disabled person to supplement, but not supplant or diminish, governmental benefits, such as Supplemental Security Income or Medicaid, to which a disabled person may be entitled. An SNT is typically created by a parent or grandparent for the benefit of a disabled child or grandchild to provide additional funds for the disabled individual in areas not covered by governmental benefits, without jeopardizing or reducing those benefits. An SNT may also consist of the proceeds of a personal injury award.
TESTAMENTARY TRUST—A testamentary trust is created under a will. It becomes effective and irrevocable after an individual dies and the testator’s will is admitted to probate.