Estates, Wills & Trusts

Living Trusts – what they are and how they work. The term “Living” added to the word Trust has come to mean a Revocable Trust established and legally existing during the Settlor’s lifetime. It can equally be said that an Irrevocable Trust created by a Settlor during lifetime is a Living Trust.

A revocable living trust – often just called a living trust –- is, in reality, a contract.In current time it is treated as a legal creation designed to hold legal title of an person or persons’ assets, and designation an agent or agents (called Trustees) to manage the assets as directed by the law and the Trust document. For convenience, this special variety of contract, is called a Trust, and is often referred to as if it were a business entity, and is sometimes easier to view as such, because it has many of the attributes of being a business entity for legal purposes.

Despite the relative present popularity of Trusts, they are actually ancient and are known to have existed in the time of the Pharaohs in Egypt. During the time of the Crusades (periodically from 1096AD to 1270AD) the English nobility used Trusts to prevent the seizure of their properties by the Crown due to an absence of the male heirs (nobility having the right to hold property) to the wars in the Middle East, which caused the legal presumption of death, much like our laws today (persons missing in a disaster are declared deceased after lapse of a period of time1).  The Trustees were fellow nobility, who held legal title for the benefit of the Settlor’s family. The “trusted” Trustee was not always trustworthy, and the legal system for the rules as to the duties of a Trustee began to develop.

The descriptive name for the person(s) who creates a trust varies, dependent upon the law of the state or country. Florida and many other states have adopted at various times “Grantor” or “Settlor,” some other jurisdictions have chosen “Trustmaker.” Some Settlors also act as the Trustee, where others prefer to have an institution (such as the Trust department of a bank) or attorney to act as the trustee, although this is less common with the typical living trust. It is not unusual for a married couple with a time tested and healthy marriage to establish a joint living trust if the choice of beneficiaries is essentially the same.

The general intention of a modern Living Trust is to organize and hold assets of the Settlor to ultimately reduce delay and minimize the expense of probate, inasmuch as the trust assets will be managed for and distributed to the Settlor’s beneficiaries as provided in the Trust. The usual picture is:

SETTLORS LIFETIME IN HEALTH: The Settlor controls the assets, and may modify or terminate the Trust any time.

INCAPACITY OF SETTLOR: During a period of the Settlor’s incapacity (as determined by the provisions of the Trust document), the Trustees designated to serve to manage the Trust as provided by the Trust document and law.

DEATH OF SETTLOR: The Trust continues in accord with its terms for the benefit of its beneficiaries, managed by the successor trustees.

1In the World Trade Center attack on September 11, 2001, through advanced DNA technology, victim 1,642 was identified on July 6, 2018. it is reported that 1,111 remains have not been identified as of the date of this article.

Three main tasks are performed by the Trustees:

  1. Administration - Keeping financial records, filing tax returns, informing the beneficiaries;
  2. Invest the assets appropriately - considering the needs of the beneficiaries and the directions of the Trust agreement, the amount involved, and the taxes applicable.
  3. Distribute income and principal to beneficiaries in accord with the Trust document.

In order for the Trust to be of benefit, Settlor’s assets must be titled in the name of the Trust. Florida allows a Homestead to be owned by a trust with proper language preserving Homestead benefits to retain tax benefits and creditor protections.  During the lifetime in good health (not during periods of incapacity) of the Settlor, the Trust assets are usually under the Settlor’s control in the dual capacity of Settlor and Trustee, although some with sufficient wealth have others manage the assets as Trustees.

This type of Trust (a revocable living trust) does not have tax existence separate from the Settlor. Instead, the Settlor’s Social Security number is used, and income and expenses are taken into account in the Settlor’s income tax return on IRS Form 1040.  This remains true through any period of incapacity of the Settlor.

During the incapacity of the Settlor, the successor Trustee(s) manage the Trust.  Upon return of capacity, the Settlor once again acts as Trustee.  Following the death of Settlor, the Trust becomes irrevocable (see below for an expansion on the nature of “irrevocability”).  The successor Trustees then manage the Trust according to its terms.  Appropriate provisions can legally protect beneficiaries from loss of their legacy in the event of misfortunes, drug or other habituation or bad acts, or other adversities.  Trust are not always just distributed, but more often managed in the discretion of the successor trustee(s) for the beneficiaries.

Because the Settlor in a revocable trust personally retained the right to amend the Trust and to retake the assets by revoking it or withdrawing assets from the Trust, for Estate Tax purposes, the assets are taxable, both for Federal and state estate taxes.  Nevertheless, for state law purposes, the Settlor did relinquish control, and at death, the assets are dealt with by the terms of the Trust, and not by the Settlor’s Will.  The courts only become involved if there is an action other than probate brought involving the administration of the Trust.

In context, consider that Probate of an Estate involving multiple assets of more than a $1 million generally will take a year or more to settle, and for the administrative fees and direct costs would likely involve expenses not incurred by a Trust2, plus $30,000 in legal fees per statute3, plus any legal fees for extraordinary services, such as suits by or against the estate. In contrast, administration of a trust of the same amount does not require filing a court case to obtain authority over the asset of the trust, nor the filing copious documents with the court in order to obtain orders to do ordinary things.  Because notices do not need to be served on potential creditors or advertised in a “legal” newspaper, the statutory period of 3-month wait for creditors clams does not apply.  Generally, such Trust administration may begin immediately so that beneficiaries are not standing by to be blessed by a distribution in order to move on with their lives, assuming that the Trust is drafted to provide support, education, and healthcare.

2Such as Court filing fees, publication of Notice to Creditors, etc.

3Legal fees per Florida Statute §733.6171(3) and (4)

The term “Living” added to the word Trust has come to mean a Revocable Trust established and legally existing during the Settlor’s lifetime. It can equally be said that an Irrevocable Trust created by a Settlor during lifetime is a Living Trust; however, this fine point of law has been downtrodden by the overly simplified promotion of “Living Trust” to mean a Revocable Trust established during the Settlor lifetime.

For various long-term planning purposes, very wealthy families use Irrevocable Trusts to perpetuate financial protection for businesses and heirs, often from a perception that a duty is owed to the employees as well as the family.  The oldest North American business is Shirley Plantation in Virginia, founded in 1613, and has been owned by the Hill family since 1638. Also, charitable trusts are frequently created for public purposes.

Irrevocable trusts are not absolutely irrevocable. There are various methods for modification to adjust to changed circumstances, such as family crisis, habituation or other bad behavior of a beneficiary, tax law changes, trust law changes and events which without trust changes would undermine the intent of the Settlor. These methods are embodied in legal rights of the Trustees and beneficiaries, and sometimes others who are appointed in special positions to amend a trust under such circumstances. Much of these methods do not require court intervention if all the affected parties agree. A simple example is the right of the Trustee to move the situs (the state) of the administration of the Trust to a state with lower taxes to save unnecessary costs.

The purpose of creating a Trust is to fulfill the Settlor’s intentions; however, it would be impossible to draft a document covering every possible happening. It is possible when something unexpected occurs which is adverse to the Settlor’s intent, to use available legal methods to modify the Trust to better fulfill the Settlor’s intentions.

© 2019 Stratton Law Firm, PLLC
Stratton Smith, JD, LLM (tax)