PLANNING WITH TRUSTS

Sometimes a person, who we will call a donor, wishes to leave property in his or her will to a person who is not capable of managing it.  The concern is that the recipient may spend the inheritance foolishly, lose it in bad investments or have one of the recipient’s creditors take the property away from the recipient.

One way to address these problems is to give the property to someone who will manage it for the recipient.  This is frequently referred to as “leaving the property in trust.”

For many people, trusts are cloaked in mystery and seem vaguely ominous.  Basically, however, a trust is where a person, known as a “grantor,” gives property to someone (i.e., a “trustee”) who manages the property.

Trusts are flexible arrangements, and the grantor can specify how the trustee will manage and distribute the property.  Below are three situations where a trust could be useful.

  1. An Heir Who Does Not Manage Money Well

A donor may wish to give property to a person who is not capable of managing money.  In such a case, a donor could transfer the property to a trust.  There are many horror stories about trustees mismanaging assets and shortchanging beneficiaries.  With upfront planning, however, a donor may prevent these problems.

The following example illustrates the planning that is possible.  Assume a parent, Mary, has two children, Ann and John.  Ann is capable of managing financial assets, but John has a mental impairment that keeps him from managing assets wisely.  Although Mary is confident that Ann would always act in John’s best interest, Ann does not want to manage the assets for John.

One possibility is to have Ann and a bank or trust company serve as co-trustees.  The bank or trust company would manage the assets, and Ann would determine the distributions to her brother.  Also, Ann could have the power to replace the bank or trust company.

What if Ann could no longer serve as a co-trustee?  What if Mary knows of no one who could take Ann’s place?  There are many alternatives.  First, Mary could provide guidelines as to investments and distributions.  Also, Mary could name someone to monitor and replace the trustee if necessary.

  1. An Heir Who Does Not Wish to Manage Money

A donor may wish to give property to a recipient who is unwilling to manage the property.  Although the recipient may be very smart, he or she may have no interest in managing financial assets.  Also, the donor may not want the recipient’s spouse to manage the assets.

An example helps illustrate a planning alternative.  Betty’s daughter Susan is a very successful physician.  Susan has neither the time nor the desire to manage financial assets.  Also, Betty does not want Susan’s spouse to manage the assets.

In her will, Betty could leave property in a trust for Susan.  The trust could give Susan the right to distributions.  Also, Susan could have the right to replace the trustee with another bank or trust company in the event she is unhappy with the trustee’s performance.

Another benefit of this structure arises if Susan and her husband divorce.  In a divorce, a Texas court would divide “community property” between the spouses on an equitable basis.  However, a court cannot award the “separate property” of one spouse to the other spouse.

In Texas, the inherited property of a spouse is that spouse’s separate property.  However, if separate property is mixed with community property, the separate property becomes community property.  As such, it is subject to division between the two spouses.  If the separate property is maintained in a trust, it will not be mixed with community property.  In our example, Betty will be assured that all of the property she left for Susan will only go to Susan.

  1. An Heir Who May Have (or Potentially Be Subject to) Liabilities

A donor may wish to give property to a recipient who has liabilities or is at risk for incurring such liabilities.  A trust may work well to protect the assets from the claims of the recipient’s creditors.

Assume Alex wishes to leave property to his daughter, Carol, and son. Luke.  Alex has no problem leaving property outright to Carol.  However, he is concerned about leaving property outright to Luke since there are outstanding creditor judgments against Luke.

One possibility is to transfer the property to a trust for Luke.  Alex would name Carol as trustee of the trust.  If Carol could no longer serve as trustee, Luke would have the right to name a successor trustee.

If Alex desires, the trust could direct the trustee to acquire and maintain a residence for Luke’s benefit.  Also, the trust could require the trustee to provide Luke other benefits, such as paying for medical insurance, providing and maintaining an automobile for him and paying for the education of his children.  If the trust has what is called a “spendthrift provision,” the assets in the trust would not be subject to Luke’s creditors.

These examples demonstrate that a trust arrangement can help individuals meet their planning goals.  However, planning is necessary to take advantage of these arrangements.