Trusts

Definision and History

A trust is an agreement between the settlor (the person setting up the trust) and the trustee. The trustee has legal title and authority to, and over, property placed in the trust, but only for the benefit of the beneficiaries in accordance with the terms and conditions of the trust. Trusts in Tennessee are governed by the recently adopted Tennessee Uniform Trust Code.

Trusts are unique to Western Civilization. The concept was developed during the Middle Ages in England. When the King sent barons to fight wars in foreign countries, there was no one to run the manor and take legal action on behalf of the baron. Parliament passed the Statute of Uses which allowed the baron (the settlor) to give the property to another (the trustee) during his absence and yet remain the sole legal beneficiary of his property. The trustee has the solw and exclusive legal title, but cannot obtain any benefit from the trust property.

Types of Trusts

• Revocable - a revocable trust is one in which the settlor can either change the terms and conditions of the trust, or can revoke the entire agreement at any time and for any reason. The settlor remains in complete control during his lifetime so long as he or she is legally competent.
  
  
• Irrevocable - an irrevocable trust is one that can not be revoked or changed in the future – it is set in concrete at the time it is established.
  
  
• Living Trusts - a living trust is one which takes effect at the time it is set up and the trust agreement is signed, that is, during the settlor's lifetime.
  
  
• Testamentary Trusts - a testamentary trust is one established by the settlor’s will. It does not come into existence until the death of the settlor. A testamentary trust can be changed anytime by the settlor while he or she is living and is legally competent, by merely changing their will.
  
  
• Trusts for Minors - a trust can postpone ownership of assets until certain ages of a beneficiary, or some other future event. For instance, a testamentary trust can provide that upon the death of both parents, their assets are to be held by the trustee until the children complete college or obtain an age of 22 or 26, for instance. Unless the parents set up a trust, assets left to children who are minors are held by a guardian until the child is 18 years old, then the child has an absolute right to the assets without any control. A trust could postpone that event until the minor is older and presumably more mature. During the administration of the trust, the children’s money would not be subject to claims of anyone else, including creditors or spouses, but is available for the children's health, maintenance, and education.
  
  
• Special Needs Trusts - this is either a living trust or testamentary trust, which is used to protect and assist persons under a disability. The trustee is given sufficient discretion to make distribution to the beneficiary that the trust should not be considered a resource of the beneficiary with respect to qualifications for public benefits. This type of trust is also used for the elderly as age and physical and mental capacities decrease. Their funds could be used only for their benefit, but the trustee would make decisions over the funds so that they are not wasted or subject to improper schemes. This essentially is a management tool.
  
  
• Estate Tax Savings Trusts - these are trusts established to fully utilize each individual's estate tax exemption upon the death of the last to die of a married couple.

Advantages of Trusts

Trusts are generally used as a management tool. The beneficiary has no control over the trust, but the trustee is obligated to manage and distribute trust income and assets for the sole benefit of the beneficiary. A further benefit of a trust is the "spendthrift provision" which prohibits the beneficiary (or any creditor or spouse of the beneficiary) from being able to access the funds in the trust. Another advantage is privacy of family finances versus public exposure in connection with probate.

Tax Consequences of Trusts

Generally there is no income tax benefit from establishing a trust, and under certain circumstances there is an income tax disadvantage of having a trust. A trust established by a settlor for his own benefit is treated the same for income tax purposes as though there were no trust - all income is taxed to the settlor. If a trust has beneficiaries other than the settlor, then trust income distributed to beneficiaries is included in their tax returns. If the trust retains the income, then it is taxed at a much higher rate than an individual.