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This article highlights some of the issues associated with using a trust to transfer wealth, and provides insight into the opportunities for producing particular outcomes.

Wealth transfer

Using a Trust in Financial Planning: Nonfinancial Questions and Choices to Consider

  • Dominic Zamora
  • 3/13/2013

In many of life’s experiences we look for simplicity, because in simplicity, we find elegance. In the world of strategic financial planning, trusts are simple and elegant, yet there are so many variations that they are among the most misunderstood financial planning vehicles.

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This article highlights some of the issues associated with using a trust to transfer wealth, and provides insight into the opportunities for producing particular outcomes. Discussions about use of a trust should nearly always be accompanied by nonfinancial questions; the answers often drive the solution.

What is a trust?

Webster’s New Collegiate Dictionary says a trust is, “… a property interest held by one person for the benefit of another.” That property interest could be land, but it could just as easily be interests in chemical formulas, or anything else that has value. Holding that interest by one person for the benefit of another is the essence of what it means to have a trust.

A trustee is often appointed to provide guidance and due care over the trust property. The trustee’s job is to provide a “benefit” derived from the trust property and distribute it to the beneficiaries of the trust. In most instances the benefit comes in the form of income, but it can also mean distributions of trust assets at a specified point in time. Beneficiaries are usually people, but sometimes they are institutions, such as schools, hospitals, or foundations.

If you want to create a trust, the hardest thing may be to find a person or entity willing to serve as trustee and abide by your wishes. For a trustee, the most difficult task is to fulfill the stated wishes of the trust creator while maintaining the proper asset allocation to satisfy the interests of two types of beneficiaries: an income beneficiary and a remainder beneficiary. The income beneficiary wants income to enjoy for as long as his or her interest lasts. However, the trustee must balance the desire to provide current income with the notion that the assets of the trust must continue to grow in order to fulfill the remainder beneficiary’s needs.

It’s a task that is simple in design, but exceedingly difficult to execute.

The importance of financial maturity

When contemplating the design of a trust, some of the most important decisions are nonfinancial. So it is critical for a conversation about creating a trust to begin with questions related to the financial maturity of the beneficiaries.

There are many examples where someone is given a windfall, only to have it destroy his or her life. We need look no further than many lottery winners to see the pitfalls and adversity often created by unexpected wealth.

One of the most frequently posed questions is something like, “What would happen if Liam Littlebucks were to receive Daddy Bigbucks’ fortune?” Many would respond with a not-too-surprising answer: Liam has a gleam in his eye for a red Corvette, a little Mini Cooper, or some other material item with little lasting value. The solution is often to design a trust that reduces the opportunity for Liam to squander his newfound wealth. For instance, the trust might be designed to match Liam’s regular income until he reaches the age of 30. A planner might also consider the use of a staggered inheritance.

Transferring assets over time

In creating many modern trusts, we discuss the concept of transferring the underlying assets in a trust over a period of time. Suppose Liam is 30 years old when his parents pass away. Due to the nature of Liam’s personality (and his well-known infatuation with the red Corvette), Daddy Bigbucks created a trust where Liam gets income from the trust until he’s 45. At that point, Liam receives a distribution equal to 50 percent of the trust’s value. He then receives the final 50 percent of the trust when he reaches 55.

An increasing number of clients are considering establishing “dynasty trusts” that have a perpetual life. Not only does the current generation enjoy the benefit of the trust assets, but future generations will as well. Those who desire this form of trust must consider many complex issues pertaining to taxation and state laws related to trusts of this nature. Suffice it to say that when the issues can be resolved satisfactorily, these trusts can be quite valuable.

The solutions to age-old difficulties surrounding trusts often lie in the planning capabilities of your advisors. Choose your advisors wisely and make sure you cover all of the bases.

  • Dominic Zamora
  • Principal
  • CLA Phoenix
  • CliftonLarsonAllen Wealth Advisors, LLC