NOTE: This article is NOT a substitute for the advice of counsel.
Introduction. A revocable living trust can be a powerful estate planning tool. There is publicity about the need for a living trust to avoid probate. Sometimes that can be a sales pitch. Sometimes a living trust can be beneficial.
What is a trust? A trust is a written document created by one person, the grantor, in which some asset, which may be placed in it in the future, is controlled by another person, the trustee, for the benefit of a third person, a beneficiary. All three persons can be the same individual or not.
Generally, a revocable living trust is a type of trust that can be cancelled at any time and the creator of the trust (the “Grantor”) is both the trustee and beneficiary (allowing for control of the trust’s assets). With a revocable living trust, assets can be distributed to the Grantor, and upon death, a “successor trustee” distributes the assets in accordance with the legal dictates of the trust.
Some of the Pros for a Revocable Trust
Probate can be avoided. Upon death, assets held in the revocable trust bypass probate, meaning the assets can pass to heirs without involving the courts, which can be time-consuming and expensive. The problem is probate is generally never completely avoided. Not all assets have paper titles to transfer to a trust. Also, some financial accounts like checking and savings accounts are often titled in the Grantor’s name. A successor trustee generally takes over without court oversight. However, in Pennsylvania, probate is an “inconvenience”; there is some cost and time delay before assets can be distributed, but it is not considered overly burdensome.
“Ancillary” probate in another state can also be avoided. Moving property into a revocable trust (by registering the deed to the trust) can avoid certain probate issues involving out of state property.
Protection in case of incapacity. At the point of incapacitation, a successor trustee can take charge, and that successor trustee has a fiduciary responsibility to manage trust assets for the Grantor.
Privacy. A living trust generally does not go through probate, all transactions being private, which is important to some people. A will, on the other hand, becomes part of the public record once it is probated. Pennsylvania requires an inventory of assets, a Pennsylvania inheritance tax return and a final accounting (unless a family settlement is agreed upon privately by the heirs which occurs often. Thus, the information on the estate may be accessible to the public if no family settlement is achieved.)
Management by a Trustee. Sometimes, it is better that large assets, like life insurance, be managed by a Trustee after one passes.
Step Up in Basis Applies. Assets passed through a revocable living trust get a stepped-up basis. A stepped-up basis means that for tax purposes, the government values assets at market value on the date of death as opposed to the purchase price. Thus, when the inherited property is sold, there may be less taxes due on appreciated property.
Some of the Cons for a Revocable Trust
No immediate tax benefits. Shifting assets into a revocable living trust will not save income or estate taxes as all assets in the trust are considered to be in the control of the Grantor, and are therefore includable in the Grantor’s estate. Inheritance tax is zero in Pennsylvania when property is passed to a surviving spouse and is only 4.5% on property passed to direct descendants and their lineal heirs. The Pennsylvania inheritance tax chart follows:
- 0 percent on transfers to a surviving spouse or to a parent from to a child aged 21 or younger;
- 4.5 percent on transfers to direct descendants and lineal heirs;
- 12 percent on transfers to siblings; and
- 15 percent on transfers to other heirs, except charitable organizations, exempt institutions and government entities exempt from tax.
No asset protection. Although assets held in an irrevocable trust are generally beyond the reach of creditors, that is not true with a revocable living trust. If asset protection is important, an irrevocable trust, limited liability company or a family limited partnership could be a better choice. Since the Grantor can revoke a living trust, the trust is viewed as a mirror image of the Grantor and not only does not provide any type of income or estate tax benefit, but provides little protections from creditors. However, if the trust continues after the death of the Grantor, it becomes irrevocable and the assets in trust then have protection against creditors.
It requires some administrative work and expense. After creating a revocable living trust, assets must be retitled into the trust’s name because assets not formally held in the trust still have to go through probate and will not be under the management of a successor trustee in case of incapacity. But certain types of assets can still avoid probate, like retirement plans, insurance policies, annuities and jointly held property, meaning a revocable trust may not be always needed. There may be some expense in transferring assets.
Added Complexity. A trust is like another living creature to take care of. You have to get bank permission to transfer property with loan encumbrances; you may need extra investment, checking and banking accounts to maintain assets. Banks, tradesman and others are not always comfortable dealing with properties in trust as compared to properties held by the Grantor individually.
Stepped up Basis on Assets. Revocable trusts, like assets held outside a trust, do get a step up in basis so that any gains are based on the asset’s value when the Grantor dies. Therefore, less taxes are paid on appreciated assets held in a revocable trust.
Closing Comments. I think revocable living trusts are useful estate planning tools. Most estates that I see do not need avoidance of probate (unless the estate is very large), so I generally do not transfer all assets to the trust. However, if an heir will receive a large sum, such as life insurance, it may be good to have that managed by a trustee when you die.
Henry I. Langsam, Esquire is a founding partner of Langsam Stevens Silver & Hollaender LLP and now serves as Of Counsel to the Family & Estate and Business & Real Estate practices. He is a seasoned attorney with decades of experience in Pennsylvania and New Jersey estate planning law and is delighted to help clients learn more about their options for long-term life planning.