Trust Fund Investment Strategies: Where To Begin?

Trust funds are a legal entity that holds assets or property on behalf of a person or organisation. They are often used as a tool for estate planning, allowing individuals to place assets in a special account to benefit another person or entity. Trust funds can be complex and require the assistance of an attorney to set up.

Trust funds can hold a variety of assets, including money, real estate, stocks, bonds, businesses, and other investments. The assets in a trust fund are managed by a trustee, who is responsible for acting in the best interests of the grantor and beneficiaries.

There are different types of trust funds, including revocable and irrevocable trusts, and each has its own advantages and disadvantages. Revocable trusts, for example, provide easy management and control of assets, while irrevocable trusts can help reduce potential estate taxes.

Overall, trust funds offer benefits such as financial protections, tax benefits, and long-term support for loved ones, but they also come with costs and complexities that should be carefully considered.

Tax benefits of irrevocable trusts

When it comes to irrevocable trusts, there are several tax benefits to consider. Firstly, irrevocable trusts can help with estate tax avoidance. By placing assets and property into an irrevocable trust, these items are no longer considered part of the estate, reducing its value and, in turn, the amount of estate taxes owed after the grantor's death. This is particularly beneficial for individuals with large estates, as it can result in significant tax savings.

Secondly, irrevocable trusts can provide protection from creditors. In the event of unpaid debts, creditors can pursue the grantor's assets. However, with an irrevocable trust, those assets are protected and cannot be claimed by creditors. This type of trust is especially meaningful for individuals who frequently face lawsuits, such as surgeons, architects, and real estate developers.

Additionally, irrevocable trusts can offer access to government benefits. For individuals relying on government assistance programmes like Medicare and Supplemental Security Income, placing assets into an irrevocable trust ensures that their wealth does not count against them when determining eligibility for these benefits. This allows them to preserve their wealth while still qualifying for the necessary assistance.

It is worth noting that while irrevocable trusts offer these tax benefits, they also come with certain disadvantages. For instance, irrevocable trusts often result in higher tax rates for the trust itself. Any income tax earned by the trust will be taxed separately and often at a higher rate than the grantor's personal tax rate. Furthermore, irrevocable trusts require the preparation and filing of an additional tax return, which can incur costs.

In conclusion, while irrevocable trusts provide certain tax advantages, it is important to carefully consider the specific circumstances and goals before deciding whether to utilise this type of trust. Consulting with a legal or financial professional can help individuals make an informed decision that aligns with their unique situation.

Avoiding probate

A trust fund is an estate planning tool that holds property or assets for a person or an organisation. Trusts can be revocable or irrevocable. Both types of trusts can help to avoid probate, but only irrevocable trusts can dodge estate taxes and avoid creditor claims.

Probate is a legal process that takes place after someone's death. It ensures the deceased's debts are paid and their assets are distributed to their beneficiaries. It can be costly, time-consuming, and public, and can delay access to assets that beneficiaries may depend on.

Revocable Living Trusts

Legally, the grantor of a revocable living trust no longer owns the assets; the trust does. So, upon the grantor's death, there is nothing for the probate court to process, as the assets are not in the grantor's individual name but in the trust's name. The successor trustee can then transfer ownership of the trust property directly to the designated beneficiaries without the need for probate court proceedings.

Transfer on Death (TOD)

A transfer-on-death account allows the assets held within a brokerage account to pass directly to a named beneficiary upon the account holder's death, thus avoiding probate. Banks offer a similar designation, known as payable on death (POD).

Beneficiary Designations

Naming beneficiaries is a simple and effective way to prevent assets from health savings accounts (HSA) and 401(k)s from going into probate. Accounts with a designated beneficiary, such as life insurance policies and retirement accounts, pass directly to the named heir.

Joint Ownership

When you own property jointly with another person, the surviving owner automatically inherits your share of the property when you die. This process, known as the 'right of survivorship', allows the account to bypass probate entirely. However, joint ownership isn't without risks. It isn't a great choice if you want to leave your assets to someone other than the joint owner when you die, or if you're concerned about the joint owner's creditors.

Protecting beneficiaries

When setting up a trust fund, it is important to consider how to protect the beneficiaries. Here are some key ways to do this:

School or Earnings Performance:

Incentivise certain behaviours by tying trust fund distributions to school performance or earnings. For example, you could set up a rule where a beneficiary receives a certain amount of money from the trust for living expenses if they achieve a specific grade point average in college. Alternatively, you could base distributions on a percentage of their previous year's earnings to encourage them to strive for a better salary.

Invest in Education:

Encourage beneficiaries to save for higher education by instructing the trust to make matching contributions to their college savings fund. This will help them carry less student loan debt and give them a stronger financial foundation for the future.

Encourage Philanthropy:

If philanthropy is an important part of your legacy, you can include language in the trust that incentivises charitable work. For example, you could make charitable gift-giving a prerequisite for receiving trust assets or require their participation on the board of directors of a family nonprofit business.

Support Family Reunions:

To foster lasting family bonds, you can grant the trust the power to distribute funds for family reunions. This will help encourage your extended family to come together and consider the kind of legacy they want to build.

Age-Based Distributions:

If you are concerned that beneficiaries may not be emotionally or fiscally prepared to handle a large sum of wealth, you can include age-based distribution provisions. For example, you could specify that a beneficiary receives one-third of the trust at age 25, half at age 30, and the rest at age 35, giving them time to gain financial management experience.

Communication:

Clearly communicate your wishes to both your estate planning attorney and the trustee(s) you choose to administer the trust. They will be responsible for carrying out your legacy and ensuring your intentions are honoured.

Seek Professional Advice:

Consult with a financial or legal professional to determine the best type of trust for your specific situation. They can guide you through the complexities of trust funds and ensure that the necessary legal documents are created properly.

Types of trust funds

Trust funds are either revocable or irrevocable, and they can be further categorised into living trusts and testamentary trusts.

Revocable Trusts

Revocable trusts can be altered or cancelled by the grantor at any time, as long as they are mentally competent. The grantor still owns the assets in a revocable trust and must report any revenue generated by the trust on their taxes. These trusts become irrevocable upon the grantor's death.

Irrevocable Trusts

Irrevocable trusts cannot be modified or revoked without the beneficiaries' permission or a court order. Once established, the grantor relinquishes ownership and control of the assets, which are transferred out of their estate. Irrevocable trusts pay their own taxes and file separate tax returns. They offer asset security and tax advantages but are inflexible.

Living Trusts

Living trusts are created and may start to take effect while the grantor is still alive. They can be either revocable or irrevocable.

Testamentary Trusts

Testamentary trusts are generally created by a grantor's will and only take effect after their death.

Other Types of Trusts

There are several other types of trusts, including:

• Asset Protection Trusts — irrevocable trusts that exist to protect assets from creditors.
• Blind Trusts — the grantor cedes control to the trustee, obscuring the content of the trust from the beneficiaries.
• Generation-Skipping Trusts — set up so that assets pass directly to the grantor's grandchildren or anyone at least 37.5 years younger than them.
• Grantor-Retained Annuity Trusts — a type of irrevocable trust that stops the appreciation of assets so that when the estate passes to the beneficiaries, they don't owe estate or gift taxes.
• Individual Retirement Account Trusts — the grantor names a trust as the beneficiary of their IRA assets when they pass away, allowing them to set rules around how the beneficiaries manage those assets.
• Land Trusts — transfers ownership of a piece of property or a mortgage into the trust while the grantor is still alive.
• Marital Trusts — an irrevocable trust that allows a tax-free transfer of assets to the surviving spouse when the first spouse passes away.
• Medicaid Trusts — irrevocable trusts that effectively exclude assets from a person's net worth so that they qualify for Medicaid.
• Special Needs Trusts — set up for a family member who has special needs and will need lifelong care.
• Charitable Remainder Trusts — shield money from taxes while passing down money to a charity.
• Qualified Terminable Interest Trusts — ensure that the surviving spouse can remain in their home until they die, but don't allow them to sell the property.
• Qualified Personal Residence Trusts — a type of irrevocable trust that keeps the grantor's primary or vacation home out of their estate for tax purposes.

Investing money in a trust

There are several types of trusts, including inter vivos trusts (living trusts), testamentary trust funds (established when the grantor dies), revocable trusts, and irrevocable trusts. Revocable trusts can be altered or cancelled until the grantor's death, at which point they become irrevocable. Irrevocable trusts cannot be easily changed or dissolved and are independent entities managed by a trustee for the benefit of the beneficiaries.

When setting up a trust, it is important to consider the investment criteria and how the wealth will be gifted. For example, if the beneficiary is a minor, the trust may retain all dividend, interest, or rental income until later in life, and the money should be invested in a way that minimises taxes as trust funds are subject to compressed tax rates.

The process of investing with a trust is straightforward and involves providing the necessary documents, such as the trust instrument and tax identification number, and opening a bank or brokerage account in the trust's name. The trustee can then either manage the money themselves or outsource the investment to a registered investment advisor.

Trusts offer benefits such as financial protections, tax benefits, and long-term support for loved ones, but there are also downsides, including the costs associated with set-up and the potential for awkward conversations with family members about financial resources.

Frequently asked questions