Using a Living Trust to Avoid Probate

As discussed in How to Avoid Probate of Real Estate, probate can be avoided by titling all of your assets so that everything you own either passes automatically to someone at your death or can be transferred without court involvement. Real estate can be retitled to avoid probate using estate planning deeds like TOD deeds, lady bird deeds, or traditional life estate deeds. People who use estate planning deeds usually do so in order to avoid the expense and hassle of a living trust.

What is a Living Trust?

A living trust is a contractual arrangement between the person who creates the trust (the grantor or settlor) and a person who will hold legal title to the trust assets (the trustee) for the benefit of others (beneficiaries). There can be more than one trustee and more than one beneficiary. This contractual arrangement creates a vehicle that can hold title to your assets while you are alive and distribute them after your death. This makes living trust a popular tool for avoiding probate.

How Living Trusts Work

Living trusts remove assets from your personal name so that the asset is not considered part of your probate estate at death. Here’s how it works:

• You must first create and sign a trust agreement. The agreement is between yourself as the one who set up the trust (called a settlor or grantor) and yourself as the person responsible for managing the assets (called a trustee). During your lifetime, you are also the person (or one of the people) who benefits from the assets (called a beneficiary).
• All of your assets are transferred into the living trust during your lifetime. This removes the assets from your estate so that they need not go through probate at your death.
• Because you serve as trustee of the trust, you call the shots. Even though the assets are placed into the trust, you keep complete control over the assets as though you still held them in your own name. Because you retain full control over the trust, including the right to revoke the trust and “undo” the transfers of assets, living trusts are commonly known as revocable trusts.
• If you become incapacitated, the person you have named to serve as successor trustee steps in to manage the assets for your benefit under the terms of the trust.
• When you die, there is no need to probate your estate since the trust owns all of your assets. The person you name to serve as successor trustee either distributes the assets to the people or organizations described in the trust or continues to hold them in the trust for the benefit of those people or organizations, depending on how the trust is structured.

The beauty of this arrangement is that it avoids probate without sacrificing control of your assets—a win-win situation for many people.

Downsides of Living Trusts

Living trusts are a good alternative for people with complex estates. They are especially useful if there is a reason to delay a beneficiary’s receipt of the assets. For example, a living trust can be structured to hold property over a very long time, without ever transferring it to the beneficiaries during their lifetime. A living trust is the only type of estate planning tool that provides this type of long-term flexibility.

For people with less complex estates, there are few downsides to keep in mind when considering a living trust:

• Cost – A living trust can be expensive. Because a trust is a contractual arrangement, you need a legal agreement to establish the trust. To be done correctly, this legal agreement usually requires the assistance of an attorney. Once the trust is established, it must be funded. Trust funding requires deeds to transfer real estate and various other transfer instruments, each of which adds to the cost of the trust. An estate planning deed is a less expensive alternative.
• Hassle – The process of gathering all of the assets and transferring them into a trust can be time-consuming. When the trust terminates (for example, on the death of the grantor), similar documents must be prepared to transfer the trust assets to the beneficiaries. At a minimum, this requires two transfers of each asset (transfer into the trust during life and another transfer from the trust when the trust terminates). An estate planning deed, by contrast, only requires one transfer to pass property to beneficiaries.
• Tax Returns – While the grantor is alive, a living trust is disregarded for tax purposes. Because the grantor can revoke the trust, the Internal Revenue Code treats the grantor as owning the trust assets for tax purposes. As long as the grantor is alive, the trust does not need to file a separate income tax return. But, on the death of the grantor, the trust becomes irrevocable. At that point, the trust must file its own income tax returns and pay income taxes at relatively higher rates.

For these reasons, a trust may not be the best alternative for people with simple estates. If your goal is simply to transfer the property outright to others at your death, then a living trust may be overkill for your situation. An estate planning deed can often be used to transfer your real estate to your family members or other loved ones without probate and without the cost and hassle of a living trust.