When you establish your living trust, you must decide who will be the beneficiaries of the trust, how much each beneficiary will receive, and when the beneficiaries will receive their gifts from the trust.
While you are alive, you will be the primary beneficiary of your living trust. You may also wish to name your spouse and minor children as beneficiaries while you are alive. Then, if you become incapacitated, the successor trustee can make distributions not only for your care, but also for the care of your spouse and minor children. This is particularly important if you are the primary income earner in the family. Your trust assets will earn income that can assist your family as it adjusts to the loss of your paycheck.
You may name beneficiaries to receive income only, principal only (principal is the property that you transfer to the trust), or both income and principal. After your death, you may wish to give all of the trust property to your spouse with the intention that he or she assumes your role and provide for him- or herself and your children. If your spouse has established a living trust of his or her own, the trust assets in your trust can be distributed to your spouse's living trust.
Spouse as Beneficiary
Many married couples name their surviving spouse as the primary beneficiary of their living trust after their death. There are several options available to accomplish this result. Some of the options take into account—and may be driven by—estate tax implications.
If the combined value of your estate and the estate of your spouse does not exceed $5,430,000 (as of 2015), and your state does not impose estate taxes on estates of your size, there is no estate tax reason to keep the assets in trust after your death. You may wish to distribute the assets in your living trust to your spouse outright or to his or her living trust. This permits your spouse the greatest flexibility in managing and using those assets.
However, even if there is not an estate tax reason to keep your assets in trust, there are a number of non-tax reasons to keep the assets in trust after your death. The primary reason for keeping assets in trust is to retain control of the disposition of the assets after your death. If you keep the assets in trust, you can make certain that the assets remaining after providing for your spouse will be distributed to your intended beneficiaries. These beneficiaries may be your children, parents, siblings or others. This control can be extremely important if you and your spouse have children from previous marriages. It may be your intention that your assets be available to your surviving spouse, but upon his or her death go to your children and not your spouse's children.
Another reason to keep the assets in trust rather than distributing them outright is to protect the assets from the creditors of the beneficiaries. A basic trust principal is that if assets are held in trust for a beneficiary and the beneficiary does not have uncontrolled access to the trust assets, creditors of a beneficiary cannot force payment of the trust assets to satisfy credit obligations. If a beneficiary has experienced credit difficulties in the past or is in a profession that is subject to litigation (such as law, medicine, engineering, and so on), it may be wise to keep the beneficiary's inheritance sheltered from creditors and litigants.
If the value of your estate exceeds the applicable credit amount ($5,430,000 in 2015), at least the amount of the applicable credit amount should be set aside in a Bypass Trust rather than distributed outright to the surviving spouse. Your surviving spouse and/or your children can be beneficiaries of the Bypass Trust and be entitled to receive income, principal or both from the Bypass Trust.
To the extent the value of your estate exceeds the applicable credit amount or exceeds the amount exempt from state estate taxes, if any, such excess can be kept in a separate trust, of which your surviving spouse is the sole beneficiary. The assets placed in this Marital Trust will not be subject to estate tax at your death, because the Marital Trust is designed to qualify for the unlimited marital deduction. Upon your spouse's death, the value of the assets in the Marital Trust will be included in calculating the value of your spouse's estate.
To qualify for the unlimited marital deduction, the Marital Trust must pay all of the income from the trust to the surviving spouse, and the surviving spouse must be the only beneficiary of the Marital Trust. In addition, if the surviving spouse serves as trustee of the Marital Trust, he or she must be limited to making distributions of principal only for his or her health, education, maintenance or support.
Children as Beneficiaries
If you are unmarried or if your spouse has sufficient assets to provide for him- or herself, you may wish to distribute the remaining trust assets to your children upon your death. Again, there are several options available to accomplish this result.
You may wish to distribute the assets remaining in your living trust to your children outright and free of trust. However, as previously discussed with regard to an outright distribution to a spouse, there are important reasons to keep the assets in trust for the benefit of the children. In addition to protecting the trust assets from the claims of your children's creditors, keeping the assets in trust permits you further control of the ultimate distribution of the trust assets.
If your children are minors, there is a very important reason to avoid an outright distribution of your assets to your children. Under the laws of most states, if a minor child receives an inheritance, the inheritance must be set aside in a custodial account that is subject to court supervision. A custodian of the property, who is charged with the duty to manage the assets in the account and make distributions for the benefit of the minor children, will be appointed. The list of permissible investments and grounds for distribution to the beneficiary are very restrictive. The courts are involved in the financial affairs of the beneficiaries, which undermines the privacy of the beneficiaries and the efficiency, of trust distributions. Additionally,, under most state laws, a child's inheritance is distributed to the child upon attaining age 18. Most parents do not feel that their children are mature enough to manage and invest assets of any substantial value at age 18.
If a trust is established for the benefit of your children, the trustee should be authorized to make distributions of income and principal for the health, education, maintenance, and support of the children. While the assets are held in trust, if medical or tuition bills need to be paid, the trustee can make distributions either to the child or to the doctor or college. Generally, such discretionary distributions are limited to food, clothing, shelter, healthcare, education, special events (such as weddings), and major purchases (such as a car or home).
There are several options as to when final distributions of the trust property can be made to the children. The first option is to keep the assets in trust for the children throughout their lifetimes. This could mean the trust will be in operation for decades.
A second option to is make a single distribution of the assets to the child when the child attains a specified age or a specified event occurs, such as graduation from college or marriage. Until the child attains that age or the event occurs, the trustee can make distributions of income and principal to or for the benefit of the child.
The third option is to stagger distributions of the trust principal. The trustee may be authorized to make principal distributions of specified amounts, whether a specific dollar amount or a percentage of the trust assets, at specified intervals. For example, you may provide that when the child attains age 21, onethird of the trust will be distributed to the child; when the child attains age 25, one-half of the balance of the trust assets will be distributed; and, when the child attains age 30, the balance of the trust assets will be distributed to the child. Throughout the term of the trust, the trustee will continue to make distributions of income and/or principal for the benefit of the child. This approach allows the trust to terminate over time while not sacrificing the needs of the child.
As you can see, the planning options are limited only by your creativity.
Issues Applicable to All Beneficiaries
There are several issues or rules of law that apply whether the beneficiary of a trust is the surviving spouse, children, family members, or others.
Death of a Beneficiary Before Distribution
What happens if a child dies before you do or dies before his or her share of the trust is completely distributed? Most people would like their grandchildren to be provided for and inherit the property their children would have received. Attorneys commonly use either the phrase per capita or per stirpes, or by right of representation, in the clause that specifies how the property will be distributed.
Per capita. Per capita distributions are pro rata or share and share alike distributions. That means that all of the surviving descendants, regardless of generation, get equal shares of the trust property.
Example: Michael has four adult children: George, Tom, Judy, and Karen. Karen has three children and dies before Michael. At Michael's death, his living trust provides that the trust property is to be distributed to his descendants per capita. The trust property will be distributed in six equal shares—one for each living child of Michael and one for each of Karen's children.
Per stirpes. Per stirpes distributions are by representation, or literally, by the root. This means that if one of your children dies before you do, the amount that child would have received is divided equally among that child's direct descendants.
Example: Use the same facts as the previous example, except at Michael's death the trust property is to be distributed per stirpes. The trust property is divided into four equal shares—one for each of Michael's children and one to be subdivided among Karen's three children.
You may choose to leave certain assets to selected beneficiaries. For instance, you may want your oldest child to receive the vacation home that has been in the family for generations. You may want your daughter to receive a specific sum of money or a specific asset, such as all of the shares in ABC Corporation. These specific gifts should be set forth in the living trust with sufficient detail to make certain there will be no confusion when distributions must be made by the trustee.
Gifts of Tangible Personal Property
You may have specific intentions regarding gifts of certain items of tangible personal property. For instance, you may want your oldest daughter to receive your grandmother's wedding ring and your son to receive your antiques. Sometimes the list of specific gifts of tangible personal property may be lengthy. Rather than include all of the specific gifts in the trust agreement, some states permit written memorandum in addition to your living trust that lists the specific items of your tangible personal property to be distributed. Your living trust must refer to this memorandum.
If you would like to leave a gift to your religious organization or a charitable organization, you can include a provision in your living trust giving that organization a specified dollar amount or a percentage of the assets in the living trust. Remember, your living trust acts as a substitute for a will, so any gifts you would have included in your will can be included in your living trust.
There may be special circumstances that require your living trust to contain unique provisions. For instance, you may wish to provide for a disabled or special needs child, or you may have a child who is financially irresponsible and needs more restrictions on his or her share. You may wish to have other types of individualized distribution provisions for your children. Your parents may depend on you for support and would require continued financial assistance after your death. If you have a special circumstance, your living trust can have provisions added to meet your situation's specific needs.
Gifts to Pets
Except in a few states, you cannot typically leave property to your pets. If you wish to have a pet cared for after your death, you should make arrangements with a person you trust and leave a specific bequest of money to that person for that purpose.