A trust is oftentimes the foundation of a solid estate plan. It is important to remember that you just can't set up a trust and forget about it. It is a good idea to periodically review how your trust is working to make sure you and your family are getting the full benefit of the trust document and its terms. Not doing so can sometimes lead to unintended results.
Here are just a few things to consider and some common mistakes to avoid:
- Is your trustee (or successor trustee) still the best person for the job? If your trust agreement allows you to change the trustee, you should periodically give some thought to whether the person that you selected to handle the trust administration in the event of your death or incapacity is still the best choice. Picking a trustee can be difficult because trustees typically wear two hats. They must invest and manage the trust assets in order to maximize their value, and they must distribute them according to the terms of the trust and the written instructions of you, the trust maker.
- Does the trust actually own what it is supposed to? Sometimes people create an estate plan, including a living trust, but forget to change title to certain assets so that the trust actually owns or controls the assets for which it is intended. If the trust is supposed to hold real estate, life insurance, shares of stock, retirement or bank accounts, family business units, etc., does it in fact do that? Changing the title to assets can be complicated, but if it is not done properly, the trust won't work as intended. If the assets have changed in any way over time, this needs to be reviewed as well.
- How are trust bills being paid? In most cases, the trustee's fees and other ongoing expenses should be paid out of the trust itself. But be careful, many trust companies will automatically send the bill to the person who set up the trust. If the trust grantor pays the fees, this could cause problems. For instance, a payment might be considered a gift to the trust, which could potentially trigger the need to file a gift tax return or even pay additional taxes. If a trust was set up in part for asset protection purposes, then paying bills from the wrong account could even undermine the purpose of the trust. As an example, suppose you have created a trust for an heir so that the assets will be protected in case the heir gets divorced. If the income tax triggered by the trust is paid out of the jointly owned marital property, this could mean that the trust assets will no longer be filtered in a divorce. The same is true if trust assets and marital assets are combined or commingled in various ways.
- Are you coordinating distributions to minimize taxes? Many trusts are set up such that if they pay out income, the beneficiary pays the income tax, and if they don't, the trust pays the income tax. The problem is that under the current tax laws, rules for trusts and individuals are very different. For instance, in 2015, individuals pay the highest tax rate only if they have income more than $413,000 for single filers, and $464,000 if they are married and file jointly. But trusts pay the highest rate if they have income more than a mere $12,300! So even if a trust doesn't earn all that much income, it can be hit with high tax rates. Making smart distributions, especially to beneficiaries who are in lower tax brackets, can save both federal and state taxes, as well as minimize the 3.8% surtax on investment income.
Many people now have their estate planner, investment advisor and accountant work together each year on a plan to minimize both income and capital gains taxes, while furthering the non-tax purposes of the trust.