You, or Your Parents, Should Probably Have a Revocable Living Trust
By Jim Krapfel, CFA, CFP
October 1, 2020
Do you have a revocable living trust? If not, you may be missing out on an incredibly useful tool used by many even modestly wealthy individuals and families. Dying with a revocable trust can spare your loved ones considerable time, money and stress as part of your asset transfer process. As you become more familiar with revocable trusts, perhaps you or your older relatives consider a revocable trust in addition to the more frequently utilized last will and testament.
What is a Revocable Living Trust?
A revocable living trust, also known as a revocable trust, is a written document that determines how your assets will be handled after you die. Assets can include investments, bank accounts, real estate, and valuable possessions. They are called living trusts because they are created during one’s lifetime. They are called revocable trusts because you can change or cancel any of the provisions prior to death or incapacitation. Assets placed in the trust are transferred to designated beneficiaries upon death. Beneficiaries can be people, organizations, or other entities. The creator of the trust is known as the grantor.
Advantages of a Revocable Living Trust
1) Avoiding probate
Avoiding probate is usually the main reason people choose revocable living trusts. Probate is the legal process of distributing assets of the deceased’s estate to his or her loved ones. There are three overall scenarios when one dies: (1) if there was no will, he or she is considered to have died intestate, and the court will determine who receives the assets; (2) if there was a last will (but no revocable living trust), the estate must still go through the courts, but the will provides a useful guide to the person’s stated intentions; (3) if a revocable living trust was created and contains all relevant assets, then the probate process can be avoided altogether. Note that estates under $100,000 in most states do not have to go through probate whether a revocable living trust is in place or not.
Why avoid probate?
a) Time-consuming/hassle-ridden. If assets are small and uncomplicated, and the will is not contested by potential beneficiaries, the probate process might take a few weeks or months. However, the process can take much longer, even several years, if an estate is large and complicated, or the will is contested, with assets frozen until the courts decide on the property’s distribution. A will can be contested on grounds that the decedent did not know what he or she was doing when they signed the will, the decedent was under undue influence at the time of will signing, or it was improperly executed, such as not having enough witnesses. If assets are held across multiple states, such as having a vacation home in a state outside one’s principal residence, then the probate process must take place in each state in which assets are held. That is a lot of time and stress for the executor of the estate to deal with. With an all-encompassing revocable trust, the probate process is avoided and assets are able to be immediately dispersed and/or managed on an ongoing basis by the successor trustee (more on successor trustees in a bit).
b) Costly. The overall cost of probate can range from 2% to 7% of the entire estate value, according to LegalMatch. It will typically be on the lower end of the range if a sound will is in place, thus minimizing attorney fees that make up the majority of the cost. There is also the court filing fees set by each state, with some charging a flat fee and others based on the value of the estate. Fees may also need to be paid to other professionals such as accountants to conduct a final tax return or real estate agents to liquidate real estate property. In my home state of Illinois, the total cost of probate is typically $4,000 to $6,000 for a relatively simple estate with no disputes and a competent executor or administrator. With an effective revocable trust, since there is no probate, there will be no attorney and court filing fees, saving thousands of dollars.
c) Public. Probate files are public court records that anyone can read. That means anyone can see what stipulations are in your will, who your beneficiaries are and what each beneficiary is inheriting. With a revocable trust, assets are distributed in private.
2) Increased flexibility
A revocable living trust also allows for a higher degree of flexibility and specificity than a last will. You can specify that assets are fully dispersed to beneficiaries at your death, or a certain percentage of the assets are dispersed per year, or that some portion of the principal is to be set aside for a future generation. Thus, a revocable trust can “live on” well beyond the decedent’s death, unlike a last will that has no power after you pass.
All sorts of conditions, if/then-type provisions can be inserted into the trust. For example, you could specify that your niece receives 5% annual income from her half of the estate, with her portion of the remaining principal dispersed equally among her born and unborn children at the time of her death. If your niece has no children, you might say that the principal goes to her spouse, if alive, another family member, or a charity.
As mentioned earlier, the creator of the trust, also known as grantor, can easily change or cancel any of the provisions prior to death or incapacitation. By contrast, making changes to an irrevocable living trust is much more difficult. A high net worth household utilizing an irrevocable trust sacrifices flexibility for tax minimization. Irrevocable trusts move assets out of an estate to minimize paying estate taxes, which are paid on taxable estates exceeding $11.58 million in 2020. The exemption limit is set to revert to the 2017 level of $5 million in 2026 as adjusted for inflation.
3) Assets in revocable trusts receive FDIC protection.
An often-overlooked feature of a revocable living trust is that they receive enhanced Federal Deposit Insurance Corporation (FDIC) protection. The FDIC insures up to $250,000 per beneficiary, with a maximum of $1,250,000, equal to $250,000 for the owner and each of four beneficiaries.
What to Expect in Creating a Revocable Trust
As with other big life decisions like choosing a college or buying a house, creating a revocable living trust will require some time and effort on your part. The total process, from the decision to proceed to retitling the assets to the newly created trust, can take several months, with multiple conversations with your attorney in-between. Still, the effort required upfront likely pales in comparison to the stress and hassle faced by potential beneficiaries who are grieving with the loss of their loved one.
As with the probate process, the cost of setting up a trust can vary considerably based on asset size and complexity, and whether assets are owned across multiple states. I recently oversaw the trust creation process for a seven-figure client, and it cost $4,500. Although it is a considerable financial outlay, I expect that it will pay for itself by not having to pay attorney fees and courts as part of the probate process.
Once you have decided to create a revocable living trust as part of your estate plan, you will want to take inventory of all your assets that will be retitled to the trust. A nice byproduct of this process is that all your assets will be clearly identified, therefore your beneficiaries can avoid having to scour for accounts and assets owned. You will also want to think through your goals and wishes with the understanding that you can be highly specific.
Next you will want to hire a good attorney to help craft the trust. Many people start by asking a friend, family member, accountant, or financial advisor for introductions to estate planning attorneys in their community. Wealthy individuals will often meet with two or three attorneys before deciding which one is best for them. It is not advisable to create a trust on your own or download a relatively inexpensive template from a company such as LegalZoom. That is because there are various nuances between states that need to be accounted for, and based on my own experience, the templates are built to be as generalized as possible and are unlikely to accommodate your unique wishes.
When you meet with a prospective estate attorney, it will be helpful to provide three documents in advance: a family tree of living relatives including age and state of residence, a balance sheet of assets including investment assets, real estate, life insurance, and any other valuable property, such as coin collections, art, or antiques, and copies of any existing legal documents, such as your will or power of attorney for healthcare or property. When you establish a revocable trust, the attorney will typically update your will and powers of attorney at the same time.
Your attorney will also ask you that you select a trustee and successor trustee(s). The trustee manages the assets that are in the trust. Many people choose to be their own trustee and continue to manage their affairs for as long as they are able. At death or legal incapacitation, whichever comes first, the named successor trustee steps in to take over administration of assets. Administration of assets includes managing the assets, keeping detailed records of all transactions, tax filing for the trust (trust will have its own Employer Identification Number (EIN) upon grantor’s death) and distributing the assets according to the terms of the trust. If a trusted family member or friend cannot be identified, then one can hire a corporate entity such as a bank or trust company to serve as successor trustee. Typically, several successor trustees are named in succession in the event one or more is unable or unwilling to serve.
Finally, once the trust document is fully prepared, it is crucial that you retitle all relevant property to the trust. Your lawyer may offer to do this for you. If any bank accounts, investment accounts (other than some retirement account such as IRAs and 401(k)s), or owned real estate is not retitled to the trust at time of death, then those assets must go through probate, even if they are identified in the trust document.
Figure 1: Comparison of Popular Estate Planning Tools
Source: Glass Lake Wealth Management analysis
Summing It Up
Setting up a revocable living trust can be an excellent estate planning tool, especially as we age and assets grow. Some nontrivial upfront effort and expense can easily be outweighed with our beneficiaries avoiding a long, potentially costly probate process while they grieve. Further, considerable flexibility is afforded in a revocable living trust with ability to makes changes as circumstances or wishes change.
Just remember that a revocable living trust does not completely replace a last will and testament. Some tangible assets may be impractical to transfer to a trust, such as automobiles, furniture, or jewelry. Wishes for these assets will need to be spelled out in a will. If you have children under 18, a will must also be used to designate a guardian. Further, final wishes such as end-of-life care or funeral arrangements will need to be specified in a will, or better yet, in a separate document.
Talk to a financial planner or qualified attorney to determine which estate planning tools are most appropriate for you. He or she will help you create the best plan based on your goals and objectives, asset level, tax burden, and special considerations.
Disclaimer
Advisory services are offered by Glass Lake Wealth Management LLC, a Registered Investment Advisor in the State of Illinois. Glass Lake is an investments-oriented boutique that offers a full spectrum of wealth management advice.
This article is being made available for educational purposes only and should not be used for any other purpose. The information contained herein does not constitute and should not be construed as an offering of advisory, legal, or accounting services or an offer to sell or solicitation to buy any securities or related financial instruments in any jurisdiction. Certain information contained herein is based on or derived from information provided by independent third-party sources. Glass Lake Wealth Management believes that the sources from which such information has been obtained are reliable; however, it cannot guarantee the accuracy of such information and has not independently verified the accuracy or completeness of such information or the assumptions in which such information is based.