How Do Trust Funds Work?

Trusts serve a variety of functions in estate planning, and they aren’t just for wealthy people.

Trusts can be simple, or they can be complex, depending on what type of trust is being considered and how they are structured. Trusts should be set up by an estate planning attorney, who is familiar with asset ownership and how trusts impact inheritances and taxes.

U.S. News & World Report’s recent article, “Setting Up a Trust Fund,” explains that a trust fund refers to a fund made up of assets, like stocks, cash, real estate, mutual bonds, collectibles, or even a business, that are distributed after a death. The person setting up a trust fund is called the grantor, and the person, people or organization(s) receiving the assets are known as the beneficiaries. The person the grantor names to ensure that his or her wishes are carried out is the trustee.

While this may sound a lot like drawing up a will, they're two different legal vehicles.

Trust funds have several benefits. A trust can reduce estate and gift taxes and keep assets safe. With a trust fund, you can establish rules on how beneficiaries spend the money and assets allocated through provisions. For example, a trust can be created to guarantee that your money will only be used for a specific purpose, like for college or starting a business.

A trust fund can also be set up for minor children to distribute assets to over time, such as when they reach ages 25, 35 and 45. A special needs trust can be used for children with special needs to protect their eligibility for government benefits.

At the outset, you need to determine the purpose of the trust because there are many types of trusts. To choose the best option, talk to an experienced estate planning attorney, who will understand the steps you'll need to take, like registering the trust with the IRS, transferring assets to the trust fund and ensuring that all paperwork is correct. Trust law varies according to state, so that’s another reason to engage a local legal expert.

Next, you'll need to name a trustee. Choose someone who’s reliable and level-headed. You can also go with a bank or trust company to be your trust fund's trustee, but they may charge around 1% of the trust's assets a year to manage the funds. If you go with a family member or friend, also choose a successor in case something happens to your primary trustee.

It’s not uncommon for people to have a trust written and then forget to add their assets to the fund. If that happens, the estate may still have to go through probate.

It’s better to create some general guidelines and have confidence in the trustee to carry out your wishes. Placing too many restrictions on a trustee will inhibit their ability to be effective on your behalf.

Reference: U.S. News & World Report (November 8, 2018) “Setting Up a Trust Fund”