In simple terms, a trust is a legal structure created by a grantor/settlor that vests legal title to assets in one party, i.e. the trustee, to manage the assets of the trust for the benefit of others, i.e. the beneficiaries. The grantor/settlor of the trust transfers property to the trustee either during life or at death. The assets received by the trustee are commonly known at the “principal” or “corpus” of the trust and are managed and administered for the benefit of the beneficiaries by the trustee.
Trusts provide many benefits including but not limited to the ability to manage property (both real and personal), creditor protection, estate and wealth transfer planning, tax minimization, and in the case of Revocable or Living Trust, the avoidance of Probate. Income earned by a trust is taxable to either the trust, a beneficiary or the grantor or a combination thereof depending upon the terms of the trust.
Income retained by the trust is taxable to the trust. Income distributed to a beneficiary is taxable to the beneficiary. Income earned by a “Grantor Trust” is taxable to the grantor/settlor.
The income tax rate schedule for trusts is compressed as compared to individual tax rates. Trusts are subject to the highest marginal bracket of 37% with taxable income over $12,500 (2018).
There are many kinds of trust arrangements. Understanding the differences between a Revocable Trust and an Irrevocable Trust is crucial when considering their use.
Revocable Trusts are created during a grantor’s lifetime and may be revoked or amended by the grantor during life. At the grantor’s death the trust may become irrevocable or it may terminate in accordance with its terms. Often, the following applies to a Revocable Trust:
Grantor Trust requires a grantor/settlor to pay all of the income taxes associated with trust income
Grantor is typically the primary beneficiary of the trust during lifetime
Grantor is often the trustee during lifetime
The benefits of Revocable Trusts are they are effective in avoiding probate for assets transferred to the trust during the grantor’s life, allowing for centralized management of trust assets at the death of the grantor without having to seek court approval, facilitating administration of out-of-state real property, as well as providing privacy as the disposition of assets under the terms of the trust are not available to the public. They do not provide estate tax benefits to the grantor/settlor.
Inter Vivos Irrevocable Trusts are created during a grantor’s lifetime and cannot be amended or revoked. Transferred property is considered a completed gift to the trust beneficiaries. Irrevocable trusts are often used to achieve estate and gift tax benefits.
There are a number of types of Inter Vivos Irrevocable Trusts including:
Irrevocable Life Insurance Trust (ILIT)
Qualified Terminable Interest Property Trust (QTIP)
Grantor Retained Annuity Trust (GRAT)
Charitable Lead Trust (CLT)
Charitable Remainder Trust (CRT)
Qualified Personal Residence Trust (QPRT)
The state in which a trust shall be administered is an important consideration when establishing a new trust. It may also be an important consideration in the management of existing trusts. Tennessee has very favorable Uniform Trust Code which offers the following benefits:
Administrative flexibility
Lengthy trust terms (up to 360 years)
Favorable trust income taxation
Statutory procedures for modification
Protective provisions for trustee