What Is a Trust? (Pass Down Property and Belongings)

Creating a trust can help you pass down property and belongings to your heirs.

A trust is a legal entity in which you can place your assets to be used by you or your future beneficiaries. Like a last will and testament, a trust has rules about which assets go to whom and how the assets can be used. When you pass away, you want to be confident that your belongings and property will go to the right people. Creating an estate plan will help you do that, and a trust can be part of it.

Trusts can also be used while you're still alive. You could, for example, create a trust fund for your children's future education expenses. We can help you can create a living trust as part of your estate plan with easy-to-use, attorney-approved tools. With other kinds of trust, like an irrevocable trust, you relinquish your ability to cancel the trust or modify its terms, in return for certain benefits like minimizing income tax or protecting assets from creditors.

We'll talk more about how a trust works, its benefits and disadvantages, and the difference between types of trusts, including revocable vs irrevocable.

How does a trust work

Here’s an overview of how a trust works, which may not be as complicated as you think:

1. You create a trust document

2. You transfer assets into the trust

3. Your trustee distributes assets from the trust

Create a trust agreement

The trustmaker, called the grantor, trustor, or settlor, creates the trust by drawing up a trust agreement. This legal document includes all the information about how the trust works, including names of the grantor, trustee(s), beneficiaries, and all of the trust's assets.

The trust beneficiary receives the trust assets. You should also list a contingent beneficiary in case the primary beneficiary is unable to receive the assets.

The trustee is appointed to manage the trust and they have a fiduciary duty to act in the trust’s best interests. The trustee can be the same person as the grantor (a grantor trust), but it can also be a lawyer, a financial institution, or any other person you choose. (Depending on the type of trust you have, the grantor may not be able to fulfill both roles.) If you're the grantor and trustee, you must name a successor trustee to take over when you die.

Transfer assets into the trust

The grantor decides what assets should be placed in the trust. Normally you transfer your house and other real estate into the trust. You should also fund it with money and bank accounts, and can even have the proceeds of a life insurance pay out to the trust upon your death.

→ See a full guide on how to set up a trust

The trustee distributes assets

The trustee distributes assets according to the trust agreement. That might mean beneficiaries receive trust assets upon the grantor’s death. But it could also mean beneficiaries receive trust income soon after the trust as established. It all depends on the trust.

Once an asset has been disbursed to the beneficiary, the beneficiary becomes the owner of the asset. Even if the grantor is alive, they cannot recover disbursed assets.

Trust vs wills

A last will and testament is another way to pass assets on to your heirs. Trusts and wills can often work in conjunction with each other.

For example, your will can create a trust upon your death, called a testamentary trust. You can also use a will to move assets into a trust that already exists.

Irrevocable trust vs revocable trust

There are two main ways to categorize trusts: irrevocable and revocable trusts.

Revocable trust

A revocable trust can be modified by the grantor. It is also called a living trust or inter vivos trust, because it's created while you're alive. When you die, your revocable trust typically becomes irrevocable (because you're dead and can no longer make changes to it).

With a revocable trust, your beneficiaries can access the assets as long as the terms of the trust agreement are met. You can continue adding or removing trust property, changing the beneficiaries, and updating the rules governing the trust. However, you'll have to claim the trust assets in your individual tax return and pay income tax on any earnings.

Irrevocable trust

An irrevocable trust can't be modified or revoked except when required by law and even then only under very specific circumstances. When you move an asset into an irrevocable trust, you no longer own the asset, and will face some difficulty getting it back, depending on the state.

The tradeoff for this loss of ownership is that you may be able to avoid being forced to use any assets in an irrevocable trust to pay debt or liabilities. Think of the irrevocable trust like another person; if you did the crime, why should the (irrevocable) trust pay the fine? The irrevocable trust can also minimize the grantor’s taxable income if it is structured properly and has its own tax identification number.

Benefits of a trust

A trust provides a safe way to allocate your belongings and property and protect them for future use by your loved ones. If you’re thinking about getting a trust consider these reasons:

More control

When you establish the trust, you set the terms, and they are enforced just like a contract. For example, you can draft a trust document that allows your children to access the money in the trust when they turn 30. You can stipulate most reasonable conditions that you want; it's common to lock down assets, including a life insurance policy, in a trust fund for a child's educational expenses or a mortgage.

You can also limit the amount of money a trust beneficiary can withdraw at any time, which you might want to do if you don't have confidence in the spending habits of your children.

Note that your beneficiaries can challenge the terms of the trust in probate court.

Avoid probate

Trust assets can usually avoid probate, which is the legal process of proving a will or determining how assets are distributed when there isn't one. The probate process can get expensive, time-consuming, and painful, especially when someone disagrees with how the assets are being distributed and decides to contest the will. (Because the assets in a testamentary trust have not fully transferred over before the person's death, they will unfortunately be subject to probate.)

Additionally, the results of probate aren't private because eventually wills are public and anyone can see what assets you have or who you passed them to. Trust disbursements on the other hand are private.

→ More on how to avoid probate

Minimize taxes

A trust can help reduce income tax and capital gains tax depending on how it's structured. It can also help a large estate reduce or avoid estate tax. If your estate is worth a certain amount, known as the estate tax exemption amount, you will have to pay an estate tax. By transferring your assets into an irrevocable trust, you can minimize the value of the estate and pay less taxes on it, ultimately helping your beneficiaries get a larger inheritance. The estate tax applies to estates worth at least $12.06 million in 2022.

→ Learn more about the estate tax

Asset protection

Certain trusts can shield beneficiaries and the grantor from creditors and lawsuits. If your beneficiary is sued or in debt, the assets that are designated for them in a properly structured trust cannot be used to pay for liabilities, since the assets in a trust are owned by the trust.

Disadvantages of a trust

There are a few reasons why a trust may not be right for you.

Trusts can be costly

Trusts are more expensive to set up than a will but there are substantial savings over time.

Trust agreements can be burdensome

Consider the scenario of setting aside money in a trust for your child to use only for college but then the child gets seriously ill and racks up huge medical expenses. In that case, it may be difficult or even impossible for the child to access the trust funds.  Would recommend a more discretionary trust in those situations.   Additionally, if you have a discretionary trust, the trustee is wholly in charge of disbursing assets, which means they may clash with the beneficiary;  choosing your trustee is important.

Trust rules might be complicated

If you allocate the trust funds for your beneficiary to buy a house, will your beneficiary still get the funds if he or she moves into a van down by the river? It's important to seek proper legal advice and have an estate planning attorney draft the terms of your trust to avoid such complications.

Alternatives to a trust

Trusts are just one part of your estate plan, but you have several options that can ensure your beneficiaries are taken care of after you're gone.

Here are some ways you can pass down your assets without a trust (or in addition to one).

Life insurance

If you have in-force life insurance coverage when you die, the death benefit will be paid to the primary beneficiaries named in the policy. Life insurance benefits are tax-free if you paid your premiums with after-tax earnings, and they do not have to go through probate.

Payable-on-death accounts

You can name a beneficiary to your bank accounts, brokerage accounts, and retirement accounts. Payable- or transferable-on-death accounts do not go through probate.

529 plans

States run their own 529 plan to help parents grow their child's college savings fund. You can contribute money to either a savings or investment account for your child's future education expenses.