"Isn’t a trust just for the wealthy?" That’s a common misconception I hear all the time, but here’s the truth: a Revocable Living Trust (RLT) is valuable for almost everyone, regardless of the size of your estate. Whether you own a home, have children, or simply want to avoid leaving your family with a legal and financial mess, an RLT can save you - and your loved ones - countless hours, thousands of dollars, and loads of stress. If you don’t understand how an RLT works, you could be risking your assets and leaving your wishes unfulfilled.
In this post, I’ll walk you through what an RLT is and how it can be a crucial piece of your financial and estate plan.
What is a Revocable Living Trust?
A Revocable Living Trust is a legal document that allows you, as the grantor, manage your assets during your lifetime and distribute them after you pass away. Unlike a will, which only goes into effect after you pass away, an RLT can help manage your assets while you’re alive - especially if you become incapacitated.
It's called "revocable" because you can change or cancel it anytime during your life.
You stay in control of your assets, but if you ever can’t manage them due to illness or injury, the trust steps in, making sure things keep running smoothly. This can be a huge relief for you and your loved ones.
In most cases, you will also act as the trustee, meaning you’ll manage the assets placed in the trust. You will also be the initial beneficiary, so you can continue to use and benefit from those assets for as long as you’re alive.
Example: Let’s say you own a house, a savings account, and some investments. If you set up an RLT, you’ll still manage everything while you're alive and well. But if something happens to you - like an accident or a medical issue - the person you choose as your successor trustee can take over, paying your bills and handling your finances without needing to go to court.
How Does a Revocable Living Trust Work?
When you create an RLT, the first step is transferring ownership of your assets - such as your house, bank accounts, or investments - into the trust. This is known as funding the trust and legally the trust is now the owner.
This sounds complicated, but it's really just a paperwork change. For example, you’ll sign a new deed to your house that says something like, “We, Chris and Sarah Brown, transfer our house to Chris Brown and Sarah Brown, Trustees of the Chris and Sarah Brown Trust.” From then on, the house is owned by the trust, but you still live in it and control it as you always have.
Most of our clients notice little to no difference in how they handle their finances after setting up the RLT and serving as trustees.
As the grantor, you’re in full control during your lifetime. You can add or remove assets from the trust, change the terms, or even dissolve it. The trust is there as a backup in case something happens to you. If you ever become incapacitated, the successor trustee steps in to manage the assets according to your instructions. And upon your passing, the successor trustee will follow the trust’s guidelines to distribute your assets to your heirs.
Key Advantages of a Revocable Living Trust
For many people, an RLT is an excellent planning tool because it can cover a wide range of needs.
One of the biggest advantages of an RLT is that it helps you avoid probate, which is the court process that oversees the distribution of assets when someone dies. Probate can be time-consuming and expensive.
For example, in Illinois and many other states, probate law requires notifying all heirs, even those intentionally left out of your will. This can cause legal challenges and delays. An RLT bypasses probate, allowing your estate to be distributed privately and more quickly, ensuring your heirs receive their inheritance faster.
Probate is also a public process, so anyone can look up the details of your estate. With an RLT, everything stays private, keeping your financial affairs confidential
If you become incapacitated, your successor trustee can manage your assets and take care of your financial responsibilities. This prevents the need for your family to go to court to establish guardianship or conservatorship
If some of your heirs struggle with managing money, you can include spendthrift provisions in your trust. These give the successor trustee the ability to limit unwise spending and protect the assets from being claimed by creditors, ensuring your heirs are financially safeguarded
You can delay distributions until your heirs reach a certain age or maturity, ensuring they handle their inheritance responsibly
You can customize the distribution of your estate to fit each heir's needs and abilities. For example, you can instruct the trustee to distribute assets either outright or in increments over time
If you have contentious family members, an RLT can help minimize the chances of legal disputes, as it is typically harder to contest than a will
Revocable Living Trust vs. Testamentary Trust
It's also important to understand the key differences between a Revocable Living Trust and a Testamentary Trust, as each serves a unique purpose.
A Revocable Living Trust is created and takes effect while you’re alive. As the grantor, you establish it during your lifetime and can continue to manage and make changes to it as long as you’re capable.
Revocable Living Trust becomes irrevocable upon your death.
On the other hand, a Testamentary Trust is created after you die, as outlined in your will. This means the trust doesn’t exist until your death, and it goes through the probate process to be established. It can’t be changed or managed while you’re alive because it’s not in effect until your passing. A testamentary trust may be a better option if you don’t mind the probate process or prefer to delay transferring assets into a trust until after death.
Types of Revocable Living Trusts
When choosing the right Revocable Living Trust, it's essential to consider your personal circumstances, such as whether you're married, live in a community property state, and how your assets are titled. There are two main types of RLTs: joint trusts and separate trusts. Let’s take a closer look at each to help you determine which might be the best fit for your needs.
Joint Revocable Living Trust
A joint RLT is most commonly used by married couples. In this type of trust, both spouses act as the grantors and typically both act as trustees. This means that both partners share control over the trust while they’re alive. If one spouse passes away, the surviving spouse continues to manage the trust without any interruptions, making it a smooth transition.
Pros of a Joint Revocable Living Trust
Like any estate planning tool, joint RLTs come with both advantages and disadvantages. Let’s start by looking at some of the pros.
Easier Asset Management for Couples: If you and your spouse own assets together, like a home or joint bank accounts, a joint trust makes it easier to manage everything in one place. You can both oversee your shared assets and handle decisions together.
Seamless Management After a Death: Another big advantage of a joint trust is that the surviving spouse can continue to manage the assets without going through probate or court involvement. This ensures that life can continue with minimal disruptions.
Streamlined Tax Filing: With a joint RLT, tax filing is simpler while both spouses are alive. All income, deductions, and tax obligations flow directly onto your personal income tax returns, meaning the trust itself doesn’t pay taxes. This reduces paperwork and makes tax season easier.
However, once the second spouse passes away, the joint RLT becomes an irrevocable trust and must file its own tax return, paying taxes on any income it generates. Having two grantors in a joint RLT delays this process. In contrast, with separate RLTs, the deceased spouse’s trust becomes irrevocable at their death, and a separate tax return might need to be filed annually for that trust.
Cons of a Joint Revocable Living Trust
Of course, there are some drawbacks to joint RLTs.
Risk of Legal or Financial Issues: For example, if one spouse runs into legal trouble, like a lawsuit or has financial issues, all the assets in the joint trust may be at risk. This could include shared assets that both spouses worked hard to build.
Complicated Estate Tax Planning: When it comes to planning for estate taxes, joint RLTs can be more complicated. Depending on the value of the estate, figuring out how much tax will be owed can be trickier compared to separate trusts.
Separate Revocable Living Trust
A separate RLT is a great option for couples who want to keep their assets independent of each other. This type of trust is often used in situations where spouses brought significant assets into the marriage or are in second marriages with children from previous relationships. Each spouse creates and manages their own trust, which gives them more control over how their individual assets will be distributed.
Pros of a Separate Revocable Living Trust
Let’s take a look at some of the key pros of a separate RLT.
Greater Flexibility for Individual Assets: A separate RLT is typically a good choice when you and your spouse each own separate assets, such as individual businesses, investment accounts, or property. With a separate trust, you can manage and control these assets independently, giving each spouse full authority to decide how their own assets are handled and distributed.
Protection for Separate Property in Remarriage: If you’re in a second marriage, or you have children from a previous relationship, a separate RLT can protect your assets. This allows you to ensure your property goes to your chosen heirs, rather than automatically to your spouse. However, keep in mind the Right of Election statute, which I’ll discuss in more detail shortly.
Better Protection from Creditors: If one spouse has debts or faces legal claims, a separate trust can protect the other spouse’s assets from being affected. This way, the other spouse’s property is shielded from any claims.
Simplified Administration in Divorce or Death: If a couple decides to divorce, having separate trusts can make it easier to divide assets. Additionally, after one spouse dies, managing the estate can be less complex because the surviving spouse already has their own trust.
Cons of a Separate Revocable Living Trust
In terms of cons, separate RLTs require more paperwork because each spouse manages their own trust. You’ll need to handle two sets of trust documents, which can feel like a bit more administrative work compared to a joint trust.
Also, while separate trusts offer more control, they might not offer the same tax benefits as a joint trust, especially when it comes to estate tax planning. You’ll want to weigh the pros and cons depending on your financial situation and estate value.
Pour-Over Will: Safeguarding Assets Not Included in the Trust
Sometimes people forget to move certain assets into their trust. This is where a Pour-Over will comes into play. A pour-over will is a safety net that "catches" any assets that weren’t transferred into the trust while you were alive. It directs those assets to be transferred to the trust by your executor after your death. However, these assets might still need to go through probate, which is why it’s important to fully fund your trust during your lifetime – by doing so the pour-over will won’t need to be used at all.
Disadvantages of a Revocable Living Trust
While a Revocable Living Trust offers many benefits, it's important to be aware of its potential downsides as well.
No Asset Protection: A revocable living trust (RLT) doesn’t provide protection from claims or lawsuits against you. This is because you can revoke the trust and take back the assets at any time. If asset protection is a priority, you might want to explore an irrevocable trust, which offers stronger protections, though it comes with more restrictions.
On the upside, an RLT can help protect your beneficiaries from creditors. By including a special clause in the trust document, you can turn the trust into a spendthrift trust, which shields the assets from creditors' claims against your beneficiaries. However, keep in mind that not all states recognize spendthrift trusts, so it’s important to consult with your attorney before setting this up.
Right of Election: In many states, a surviving spouse may still have a legal right to claim part of your estate, even if they aren’t named in the trust. This is especially important if you own assets in multiple states or are part of a blended family, where the surviving spouse isn’t the parent of your children. In such cases, the surviving spouse can choose to claim up to one-third of the value of any assets over which they didn’t give up their spousal rights. So, plan carefully if you want to ensure your assets go to your children from a previous marriage.
Estate Taxes: An RLT doesn’t provide estate tax benefits. Since the trust is revocable and tied to your Social Security number, the assets remain part of your estate and are subject to estate taxes. If reducing estate taxes is a priority for you, it may be worth exploring other estate planning tools that offer more effective tax minimization strategies.
Funding: Some people either forget or find it a hassle to transfer ownership of their property into their RLT. However, an RLT only works if it’s funded. While it may seem like an inconvenience, it's something you only need to do once. If it feels like a hassle now while you’re healthy, imagine the burden it could place on your spouse or children if you were to become incapacitated or pass away. Don’t put it off and start with just one property at a time.
When You Might Not Need an RLT
Not everyone needs an RLT. If your estate is small and probate is not a concern, a simple will may be enough. For assets like retirement accounts or life insurance policies, which have named beneficiaries, those assets pass directly to your heirs without needing a trust or will. However, if your estate is larger or you have complex family dynamics, an RLT can offer significant benefits.
Conclusion
A Revocable Living Trust is a flexible and powerful tool that can help you manage your assets during your lifetime and ensure a smooth transfer of those assets after you pass. It can help your loved ones avoid probate, maintain privacy, and make sure your wishes are followed if you’re ever unable to manage your own finances. While it’s not the right solution for everyone, an RLT is worth considering as part of your overall financial and estate plan.
Are you looking for tax-efficient strategies to transfer your wealth to heirs and charities but not sure where to start? Feel free to book an estate clarity meeting with us.
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