Should You Set Up a Revocable Living Trust?

Fact checked by Timothy LiReviewed by Anthony BattleFact checked by Timothy LiReviewed by Anthony Battle

Do you ever worry about how your beneficiaries will manage their inheritance when you pass away? A revocable living trust (RLT) is one solution that allows you to maintain some control over your money—even after passing.

Key Takeaways

• A revocable living trust is a trust document created by an individual that can be changed over time.
• Revocable living trusts help avoid probate, protect the trust owner’s and beneficiaries’ privacy, and minimize estate taxes.
• Revocable trusts, however, have several limitations, including costs for the initial write-up and a lack of features found in irrevocable trusts.
• Revocable trusts differ from irrevocable trusts in that the grantor still retains ownership of assets and can easily change beneficiaries.
• Unlike wills, which are more useful and cheaper for simpler estates, revocable trusts offer greater privacy protection.

How to Establish a Revocable Living Trust

A revocable living trust is like a rule book for handling your assets after you pass. Once your assets are placed in the trust, they do not have to go through the probate process upon your death. As long as you’re a competent adult, you can establish a revocable living trust in three steps:

1. Create a written agreement or declaration that appoints a trustee to manage and administer your property.
2. Name a competent adult, bank, or trust company as your trustee. You can also act as a trustee throughout your lifetime.
3. Transfer your assets into the trust, including investments, bank accounts, and real estate.

At this point you no longer own those assets; they belong to the trust. However, because this is a revocable living trust, you retain control of the assets while alive.

You can amend or change the trust at any time. Income earned by the trust’s assets goes to you and is taxable, but the assets themselves do not transfer from the trust to your beneficiaries until your demise.

Revocable Trust vs. Irrevocable Living Trust

The key difference between a revocable living trust and an irrevocable living trust is that the revocable trust can be altered or voided at your discretion. As the trustee, you can make changes and update decisions as you see fit. For example, if you wish to change a beneficiary after a revocable living trust has been set up, you may do so.

On the other hand, an irrevocable living trust limits what can be done once the trust is established. Often, you can only modify or change the trust with consent from everyone listed in the trust. Beneficiaries may also be required to provide their signature approval to make the change.

Another large difference between the two types of trusts is the tax responsibilities. In a revocable trust, the assets within the trust are still yours, therefore, you are responsible for any income taxes resulting from those assets within the trust. This is different from an irrevocable trust, where the assets no longer belong to you. Any taxes due on trust assets are applicable to the trust.

Note

Assets within a revocable trust may be subject to bankruptcy judgments since the individual still owns the assets. The grantor’s creditors shield assets in an irrevocable trust.

Revocable Trust vs. Will

While a living trust offers many of the same coverages as a will, the two legal items cover different periods of the grantor’s life. A revocable living trust covers an individual’s assets while alive, in incapacitation cases, and after death. A living will only covers the individual’s assets after death.

Living trusts have the added benefit of avoiding probate court, allowing for faster asset distribution and more privacy. Living wills may result in a court dispute and become public record, so there is minimal privacy regarding the distribution of assets.

When creating a living trust, you must specify a trust administrator to oversee it until minors under 18 are old enough to receive their inheritance. On the other hand, individuals under the age of 18 can be named to receive assets in wills directly. In addition, wills are usually easier and cheaper to create.

An oversimplification of the two options is that a will is better for basic estates, while a trust is better for more complex estates.

Advantages of a Living Trust

Avoiding probate is the main advantage of establishing a living trust, but other benefits like privacy protection and flexibility make it a smart choice.

Avoiding Probate

Probate is the legal process for transferring your property when you die. It requires presenting documents to a probate court and going through a multi-step process—or processes if you have assets or property in different states.

Establishing an RLT avoids expensive probate proceedings, allowing assets to be transmitted to beneficiaries faster. Assets named in a trust bypass the costly courts and typically take precedence over the property designated in your will.

Changeable and Flexible

A living trust allows you to make changes (or amendments) to the trust document while you are still alive, at your own discretion.

Privacy Preservation

Revocable trusts are a good choice for those concerned with keeping records and information about assets private after your death. The probate process that wills are subject to makes your estate a public record for anyone to access.

Minimizing Estate Challenges

The standard may create family disputes at your death and be challenged for alteration by any member of your family. By using a trust, you can specifically disinherit anyone who posts a challenge to your wishes upon your death.

Asset Segregation

Asset segregation is helpful for married couples with substantial separate property that was acquired prior to the marriage. The trust can help segregate those assets from their community property assets.

Durable Power of Attorney/Guardianship

A living trust can help manage a guardian’s spending habits to benefit minor children. It can also authorize another person to act on your behalf if you become incapacitated and need someone to make decisions for you. Should you become impaired or disabled, the trust can automatically appoint your trustee to oversee it and your financial affairs without requiring durable power of attorney.

Continuous Management

Continuous management allows your accumulated wealth to grow for multiple generations by using a professional trustee to manage your property. With special emergency provisions, you can limit the number of withdrawals to income only.

Estate Tax Minimization

While the RLT is not a good tax minimization tool on its own, provisions can be included in the trust documentation to transfer wealth by establishing a credit shelter trust (CST) in the event of your death. The CST is a very effective tool to help reduce estate taxes for large estates exceeding the combined tax exclusion amounts.

Disadvantages of the Living Trust

While there are many advantages to establishing a revocable living trust, there are also some drawbacks.

Planning Costs

Establishing a trust requires legal help, which is not inexpensive, but the price will likely vary depending on where you live.

Maintaining Trust Books and Records

Once you create the trust, your work isn’t done. Most people need to monitor it on an annual basis and make adjustments as needed (trusts do not adapt automatically to changed circumstances, such as divorce or the birth of a child). You should consider the added inconvenience of making sure future assets are continuously registered to the trust and providing other professionals with access to the trust documents to review trustee powers and duties.

Re-Titling Property

Once the trust is established, property must be re-titled in the trust’s name, which requires additional time. Fees may apply to processing title changes.

Minimal Asset Protection

Contrary to popular belief, revocable living trusts offer little asset protection if you retain an ownership interest, such as naming yourself as a trustee.

Administrative Expenses

Expect additional professional fees such as investment advisory and trustee fees if you appoint a bank or trust company as the trustee.

No Tax Break

You will not receive a tax benefit from a revocable trust. Your assets in the trust will continue to incur taxes on their gains or income and be subject to creditors and legal action.

Unpredicted Problems

Problems with title insurance, Subchapter S stock, and real estate in other countries can create many new issues. More problems can crop up if you fail to adequately educate your spouse on the terms and purpose of the trust.

Pros

• Avoids potentially expensive probate process

• Allows for a decedent to have greater privacy over the treatment of assets

• May result in greater long-term management of assets and wealth continuity

• May reduce or minimize estate taxes through specific provisions

Cons

• Results in additional administration and upkeep expenses

• Requires continual (at least annual) review of the plan

• Does not minimize taxes on its own

• May result in administrative difficulties for unique assets

Who Owns the Property in a Revocable Living Trust?

In a revocable living trust, the grantor retains ownership of assets and is responsible for reporting associated taxes on the individual’s personal return. This differs from an irrevocable living trust, where the individual no longer owns the assets.

Is a Trust Better Than a Will?

A trust is a more complex, expensive plan for a beneficiary’s assets that provides a plan during the person’s life before their passing. A will often suffices for individuals with fewer assets or who do not have a complicated plan for asset distribution after they pass. A trust is likely more advisable for larger estates with more complex granting requirements.

What Assets Can Not Be Placed in a Trust?

Assets that cannot be placed in a trust include retirement assets, health savings account balances, assets held in other countries, vehicles, and cash.

Why Do People Set Up a Trust?

Like a will, a trust outlines how an individual wants their assets managed during life, during incapacitation, and after death. Trusts ensure heirs rightfully receive assets in accordance with the grantor’s wishes. They are also used to minimize taxes, avoid probate costs, and increase privacy around the distribution of assets.

The Bottom Line

Compared to wills, revocable trusts provide increased privacy, more control, and flexibility over asset distribution. With a revocable living trust, you do most of the work upfront, making the disposition of your estate easier and faster. However, they also require substantially more effort and higher costs. As with any major legal issue, you should consult with a trusted professional, in this case, someone well versed in estate planning, before embarking on a project of this magnitude.

Read the original article on Investopedia.