Three Advantages (and One Disadvantage) of Trusts Versus Wills
Three Advantages (and One Disadvantage) of Trusts Versus Wills
If you’re navigating an inheritance, talking to your parents about their estate plan, or creating your estate plan, you need to understand the advantages and disadvantages of trusts versus wills
Posted on April 30, 2024 by Katherine Fox.
Three Advantages (and One Disadvantage) of Trusts Versus Wills
What do you do after a loved one dies with a will and a trust?
You’re not alone.
Understanding the advantages and disadvantages of wills and trusts can empower you to get your head around what you’re going to be inheriting, whether you are:
Discussing an estate plan with a loved one who is alive
Helping your parents decide how to structure their estate plan
Trying to understand the estate documents of a loved one who recently passed away
In any of these cases, you need to understand the two primary estate planning vehicles, wills and trusts, when and why they are used, and the advantages of trusts over wills.
I’ve got you covered.
I’m Katherine and I’m a CFP® and investment advisor for inheritors. I’m here to help you through this journey, whatever your needs are.
If you’re trying to get up to speed, check out the 20 Terms Inheritors Need to Know.
And if you’re deep in the weeds and don’t know what to do next, schedule a FREE consultation to see how I can help you manage your financial life and navigate a current or future inheritance.
I’ll start with the basics.
If you’ve already got these down, skip ahead to learn the primary advantages of trusts over wills.
What is a trust?
A trust is a legal document that creates a fiduciary relationship between a trustee, who holds and manages assets, and trust beneficiaries.
Trusts can be either revocable or irrevocable.
Trusts are used to minimize estate taxes, preserve privacy, and avoid probate.
They allow the grantor or settlor to control their wealth and define their legacy from beyond the grave.
If you are inheriting from a trust, the three primary pieces of information you need to know:
Who is the trustee of the trust
What are the terms of the trust
Who are the other trust beneficiaries
What is a will?
A will is a legal document that details how someone wants their assets and property distributed after death.
Wills may contain provisions for the protection of minor children, specific bequests to individuals or organizations, or more detailed estate settlement instructions.
A will should name an executor or personal representative.
Wills may also contain provisions for the creation of trusts upon death.
If you are managing an estate settlement with a will involved, you need to know:
Who is the estate executor?
What specific bequests are made through the will?
Does the will create any trusts?
Three Advantages (and One Disadvantage) of Trusts Versus Wills
1. Trusts can avoid probate.
Assets can pass in several ways at death. Probate is a legal process where a court oversees the distribution of a decedent’s assets. Estates with assets outside a trust that are not jointly held and don’t have a beneficiary designation will generally pass through probate.
2. Trusts can shelter money from state and federal estate taxes.
For individuals or families who expect to have a taxable estate at the state or federal level, irrevocable trusts can help shield assets from estate tax by removing them from a decedent’s taxable estate.
3. Trusts give grantors control from beyond the grave.
Trusts can give grantors (the person who created the trust) control over their assets from beyond the grave. Grantors can set rules to dictate how trust beneficiaries can access trust assets, when they are entitled to receive funds, and if they must meet any specific milestones (such as graduating college) before receiving trust funds.
“Ultimately, the decision to create a trust as part of an estate plan doesn’t have a right or wrong answer. It depends on the grantor’s preferences, goals, and financial situation.”
How do trusts versus wills allow you to avoid probate?
Most assets held outside of a trust and without beneficiary designations at someone’s death will pass through the probate process.
Probate is the state-run process during which a court oversees an estate settlement, distribution, and closing.
Some individuals prefer that their heirs avoid probate, to reduce the administrative burden and expense of estate settlement, and to keep their affairs fully private.
Assets correctly titled and held within a trust skip the probate process. This can increase the speed of estate settlement, preserve the privacy of the decedent and inheritors, and reduce the overall administrative burden on heirs.
Remember that only assets which are correctly titled in the name of the trust are eligible to bypass the probate process.
Setting up a trust on its own is insufficient to avoid probate. Assets must also be retitled in the name of the trust while the grantor is still alive.
What are the tax benefits of trusts versus wills?
A correctly set up irrevocable trust may allow a grantor to avoid paying estate tax on trust assets.
Estate tax is payable on all assets held within a person’s estate. When an individual sets up and funds an irrevocable trust during their lifetime, they effectively remove the assets in the trust from their estate by giving up “incidents of ownership.”
For individuals or families who live in a state with estate tax, or who would be subject to Federal estate tax, setting up and funding an irrevocable trust may be an effective way to reduce their overall estate tax exposure.
The downside of using an irrevocable trust to shield assets from estate tax is that assets held within an irrevocable trust do not get a step-up in basis at the grantor’s death.
The decision to set up and fund an irrevocable trust for estate tax purposes should only be undertaken after a review with a qualified financial advisor, estate planning attorney, and CPA.
How do trusts versus wills give deceased people control from beyond the grave?
Wills govern the estate settlement process but do not exert control over assets once passed down to heirs.
Trusts can endure across generations and hold assets for the benefit of beneficiaries without giving beneficiaries full control or discretion over assets.
Some trusts may make lump-sum distributions, after which beneficiaries can manage their assets free of trust.
Many trusts leave money in trust perpetually, while allowing beneficiaries to take distributions to maintain their current standard of living. Distributions are commonly also available to buy a home, start a business, or attend school.
Some trust beneficiaries are “income beneficiaries” meaning they have access to all income generated from trust assets, but may or may not have the right to take additional distributions from trust principal.
What are the negatives of trusts versus wills?
While trusts have many advantages over wills, they are more expensive to set up, can be administratively burdensome to maintain, and may be more than many people need to facilitate the smooth transfer of generational wealth.
A well-executed trust requires an attorney to set up and necessitates retitling assets in the name of the trust. Many carefully crafted estate plans are never executed because grantors set up a trust and then neglected to retitle all assets in the name of the trust.
Revocable trusts are relatively easy to maintain during a grantor’s lifetime, but irrevocable trusts are more administratively complex, while living or after death. An irrevocable trust needs a fiduciary trustee to monitor trust assets and distributions closely. It also must file a tax return on an annual basis.
Ultimately, the decision to create a trust as part of an estate plan doesn’t have a right or wrong answer. It depends on the grantor’s preferences, goals, and financial situation.
Let’s take the next step together
Understanding the differences between wills and trusts is not easy. Beneficiaries can encounter a wide variety of different situations requiring knowledge and finesse to manage. If you need more help, you can download The 20 Inheritance Terms You Need to Know, or reach out to Katherine Fox, CFP® and CAP®, a financial planner for inheritors to learn how Sunnybranch can help you build a plan set up your estate plan or manage your inheritance from a will or trust.
