Living trusts, and other types of trusts can be essential estate planning tools. Trusts allow assets to pass more easily to intended beneficiaries outside of probate. Depending on the type of trust, it can provide other benefits like reducing taxes or protecting assets from creditors.
Your estate planning attorney can help you identify whether a trust is right for your family’s needs, and what type of trust you should have. Your estate planning attorney will probably also remind you to fund your trust. What exactly does that mean?
Wills and trusts are the primary building blocks of most estate plans, but they differ in some important ways. When you prepare and execute a will, there is nothing more that you need to do for the will to be effective. Upon your death (and after payment of your estate’s debts), your assets will be distributed as you dictated in your will.
By contrast, when you create a trust, there is a further step you need to take: funding the trust. Think of a trust as an empty vessel. In order to use it to distribute your assets to your intended beneficiaries, you have to fill it first. The process of putting assets in the trust is what is meant by “funding” the trust.
Let’s take a moment to talk about exactly what a trust is. While a trust is created by the trust document, the trust itself is a legal relationship between three parties: the grantor (also called the settlor or trustmaker); the trustee; and the beneficiary or beneficiaries. In this relationship, the grantor gives the trustee property to hold for the benefit of the beneficiary. This is done by putting assets in the name of the trust, rather in the name of the grantor.
For instance, consider Mary Smith, a widow who wants to create a trust as part of her estate plan. She owns a house, a checking account, a savings account, a 401(k), an IRA, an automobile, and some personal property, including valuable heirloom jewelry. She also has a life insurance policy.
Mary’s attorney creates the Mary Smith Living Trust for her. Because it is a living trust, Mary can be grantor, trustee, and beneficiary of the trust during her lifetime, using and enjoying trust property just as if it were titled in her sole name. Upon her death, the successor trustee she appointed in the trust document can distribute the trust assets to her remainder beneficiaries, her children and grandchildren.
Funding the trust with the checking and savings accounts is pretty straightforward. Mary needs to go down to the bank and change the owner of the account from “Mary Smith” to the “Mary Smith Living Trust.” For her house, she will need to execute a deed transferring ownership of the house from herself to the Mary Smith Living Trust. Similarly, she can go to her local MVD office to transfer the title of her car from herself to the Mary Smith Living Trust.
What about the retirement accounts—the 401(k) and IRA? Mary should not retitle those accounts in the trust’s name. Doing so could constitute an early withdrawal that would lead to taxes and penalties. Instead, Mary should obtain beneficiary designation documents from her retirement plan administrators and make the trust the beneficiary of the retirement plans.
So far, so good. But what does Mary do about the personal property, including the heirloom jewelry? Unlike the other assets so far, there are no documents like account records, titles, or deeds to use to shift ownership of the trust. Mary will need to identify personal property she wants to place in the trust as specifically as possible in an “assignment of ownership” document that should be kept together with the trust document. An experienced estate planning attorney can help Mary prepare this document.
Last but not least, Mary needs to deal with the life insurance policy. She may not want to place that in the trust. Life insurance proceeds do not have to go through probate even if the policy is owned by an individual, so probate avoidance is not a reason to place a life insurance policy in a trust. In addition, making the trust the owner of the life insurance policy could have tax implications or could expose the proceeds to creditors. Mary should discuss with her attorney if it is the best course of action to put the life insurance policy in her living trust.
Your trust may make reference to certain property, such as a house, car, bank accounts, and so on. But even if your trust gives specific instructions as to what to do with your assets, it will make no difference if those assets are not in the name of the trust. A trust cannot distribute an asset it does not own, and it will not own any assets until you fund it. In other words, you could pay an attorney to create a trust for you, but unless you complete the process by funding it, your investment could be in vain.
We understand that the prospect of funding a trust may be intimidating and involve some red tape. The best way to make the prospect less stressful is to create a list of assets you want to place in the trust and bring that list with you to your attorney so that she can advise you as to the specifics of funding your trust with various assets.
Another option is to dispose of your assets using a “pour-over” will, which simply “pours” your assets into your trust after your death. Be aware that like any will, a pour-over will has to go through probate. If probate avoidance is one of your goals in creating a trust, a pour-over will may not be right for you.
Don’t let your trust become useless because you didn’t know how to fund it. If you have questions about funding a trust in New Mexico, please contact our law office so that we can help.
© 2021 The Law Offices of Dana M. Kyle, P.A.