It wasn’t that long ago that the mention of trust funds conjured up images of a spoiled trust fund baby who would quickly blow through money left by their wealthy parents. However, today, many financial advisors, lawyers, and business professionals recognize the importance of trusts as a powerful estate planning tool.
A children’s trust fund can allow you to put specific assets into an account while maintaining control over how they are distributed. This arrangement can provide many benefits, including the ability to avoid probate, minimize taxes, avoid reckless spending, and protect assets for your children well into their adulthood. Additionally, a children’s trust fund can help avoid the problem of having a child hold valuable assets in their name.
While trusts can be powerful estate planning tools, they also require a lot of thought. Here are 10 questions you should consider before you set up a trust fund for kids.
1. What Is the Purpose of the Trust?
It is important to first consider what you want the trust fund to do. As the grantor, or the person making the trust, you have the right to determine how you want the trust to be managed. You will also want to declare the purpose of the trust in the trust document to help the trustee better understand your intentions and follow the instructions of the trust.
You may have different purposes for setting up a trust fund, such as:
- Minimize or eliminate taxes – Certain types of trust arrangements can minimize or eliminate taxes, such as gift taxes and/or estate taxes. You may also be able to effectively double the estate tax exemption. Estate taxes can be up to 40% of the amount that exceeds the estate tax exemption, so this could represent significant savings.
- Avoid probate – A trust is a separate legal entity from the grantor, so when all of the grantor’s property is in a trust, there will be no need for probate and supervision by the probate court.
- Protect assets from creditors – Certain types of trusts, such as spendthrift trusts, may be able to protect trust assets from creditors, judgments, and collection efforts.
- Control assets – A trust can allow you to control how your assets are used and when your beneficiaries will have access to them.
- Care for a child with special needs – Children with special needs may need a trust drafted in a certain way so that they do not lose their eligibility for public benefits like SSI or Medicaid. Additionally, the financial needs may be different.
2. Who Will Benefit from the Trust?
After you have identified the purpose of the trust, you should carefully consider who you want to benefit from it. Is that just your children? What about your step-children? Do you want to provide for your grandchildren? Or are there other minor children you want to help support, such as a niece or nephew? Also, will you also be able to benefit from the trust? Will your spouse?
3. What Assets Will the Trust Hold?
Trusts can hold a variety of assets. The assets you put in a trust will depend on the assets you have now and expect to receive in the future. Common assets trusts can hold include:
- Checking accounts, savings accounts, and other bank accounts
- Real estate
- Insurance policies, such as life insurance
- Personal property
- Vehicles
While the term trust fund may refer to an account, trusts can hold a variety of assets.
4. Who Should Be Responsible for Managing Trust Assets?
One of the most important decisions you can make when you set up a trust fund is who should serve as the trustee, or the person who manages the trust funds. Trustees have a fiduciary duty, so they must act in the best interests of the trust and the beneficiaries. This means you should choose a trustworthy person you believe will follow the terms of the trust and take this role seriously.
Choosing the wrong trustee could cause harm to you and the beneficiaries. Mismanaged trust funds can result in irreparable losses to the trust and leave it depleted so that it cannot accomplish its objective.
Carefully consider who the best trustee should be. Many people choose family members, but you could choose a trustee bank or trust company instead. You can also talk to your financial advisor for other recommendations.
5. When Should Your Children Receive Distributions from the Trust Fund?
Another important consideration is when your children should receive distributions from the trust fund. Afterall, the needs and maturity of young adults may be different than older adults. Some common arrangements related to the distribution of trust funds include:
- One-shot – This type of trust keeps the assets in the trust until the child reaches a certain age, which you set ahead of time. For example, you may state that your child should receive a lump sum of all the assets once they reach the age of 21, 25, or 30. At this point, the child will have full access and control of the trust assets.
- Tiered – A tiered distribution arrangement provides distributions at different intervals, such as when the child reaches certain ages or milestones. For example, the trust may state that the child receives 10% of the trust funds at age 18, 40% upon obtaining a college degree, and 50% at age 30.
- Generation-skipping – If you do not want your children to inherit but instead want to leave an inheritance to your grandchildren, you could set up the trust to skip the current generation and then provide it to the grandchildren. You could also set up the trust for the child’s lifetime so that the grandchildren receive the inheritance when the child dies.
- Common pot – A common pot is an arrangement that works when you have several beneficiaries. It allows you to designate some trust funds for specific expenses like education and then allow your children to split the remaining assets once the youngest child reaches the age of majority.
You are not limited to these arrangements. You can set up a schedule for when you want your children to receive distributions. You could set up the trust to remain in place to continue to provide for your adult children, such as discretionary distributions the trustee makes to provide for their health and education.
6. What Types of Trusts Will Help Fulfill Your Objectives?
There are many different types of trusts that fulfill different needs and objectives. For example, a spendthrift trust can help protect assets from creditors. Revocable trusts allow you to provide instructions on how your property should be managed and allow you to make changes or revoke the trust entirely if you so desire.
A living trust is effective immediately while a testamentary trust only goes into effect after you die. A special needs trust includes specific provisions that allow your child to remain eligible for public benefits while benefiting from trust funds.
One important decision you may have to make is whether to use irrevocable trusts or revocable trusts. Revocable trusts allow you to have greater flexibility and control over trust funds. However, irrevocable trusts may provide creditor protection and tax savings because the trust is a separate legal entity from the grantor.
7. What Are the Costs of Setting Up and Maintaining a Trust?
One of the biggest drawbacks of a trust fund is the cost to set it up and maintain it. If you use a lawyer, you will have the initial costs to set up a trust fund. However, you may have ongoing expenses related to maintaining the trust. You may also have the recording costs of transferring real property to the trust, such as costs to prepare and record a deed transfer. Carefully consider whether the trust has sufficient assets to justify these costs before setting up a children’s trust fund.
8. Are There Viable Alternatives to a Children’s Trust Fund?
Yes, there are some alternatives to a children’s trust fund, such as:
- Last will and testament – You can name your children as beneficiaries in your last will and testament. By the time you die, they may be young adults and able to inherit directly from you. Or, you can name a conservator who can hold their property until they reach legal adulthood.
- Custodial accounts – UTMA accounts and UGMA accounts are set up to benefit minor children but are held by an adult.
- Beneficiary designations – You could also leave property through a beneficiary designation, such as an IRA or life insurance policy.
These alternatives do have their own risks and drawbacks. You can discuss your options with a knowledgeable estate planning attorney.
9. How Should You Create the Trust?
You also have options for setting up a trust fund. You can create your own trust documents with passdown™. Or, you can hire an estate planning attorney for help.
Your trust documents will need to contain basic information, including:
- The name of the trust
- The name of the grantor
- The name of the trustee and beneficiaries
- Details about how the trust fund should be managed
10. How Will You Transfer Property to the Trust?
You may need to take additional steps to officially transfer property to the trust. For example, you may have to execute a deed to transfer real property to the trust. Or, you can sign a title to a vehicle to the trust or name the trust as a beneficiary of an account or insurance policy.
Takeaway
Trusts can be a convenient way to hold assets for minor children. They allow you to control the assets so they are not needlessly wasted. You can create your own trust documents with the help of passdown™.