Don't Let Your Trust Become an Expensive Waste of Paper
You’ve created a trust to protect your assets and beneficiaries. You’ve paid the fees and signed the documents. But you’re not done yet. You need to fund your trust.
Funding your trust means transferring your assets to the trust or naming the trust as the beneficiary. This is how you make your estate plan work.
If you don’t fund your trust, you may face these problems:
- Your assets may go through probate, which is costly, time-consuming, and public.
- Your trust may not achieve your goals, such as avoiding taxes, protecting assets, or supporting causes.
- Your beneficiaries may not get what you intended, or they may get it in a way that is not optimal.
- Your trustee may not have the power or access to manage your assets.
Unfortunately, many people forget or delay to fund their trust. According to some sources, this is a common and preventable error that can ruin your estate plan.
There are some situations where you may want to name your trust as the beneficiary of an account instead of transferring it to the trust. For example, if you have a retirement account such as an IRA or a 401 (k), naming your trust as the beneficiary can allow you to control how the funds are distributed to your heirs and avoid potential tax issues. However, this also requires careful planning and drafting of the trust document to avoid losing the tax benefits and flexibility of these accounts.
One of the main benefits of retirement accounts is that they allow you to defer taxes on your contributions and earnings until you withdraw them. This can help you grow your savings faster and reduce your taxable income. However, if you name your trust as the beneficiary of your retirement account, you may lose this benefit and trigger a higher tax bill.
This is because trusts are subject to different and often higher tax rates than individuals. For example, in 2023 trusts will reach the top income tax bracket of 37% at $13,400, while individuals will reach it at $578,126 for single filers and $693,751 for married couples filing jointly 1 2. This means that if your trust inherits a large retirement account, it may have to pay a lot more taxes than if you left it to an individual beneficiary.
Another benefit of retirement accounts is that they allow you to stretch out the distributions over your life expectancy or over a period of time for your beneficiaries. This can help you preserve the tax-deferred growth of your account and reduce the annual tax burden on your withdrawals. However, if you name your trust as the beneficiary of your retirement account, you may lose this benefit and have to take out larger distributions sooner.
This is because trusts are subject to different and often stricter rules than individuals when it comes to required minimum distributions (RMD’s). RMD’s are the minimum amounts that you or your beneficiaries must withdraw from your retirement account each year after reaching a certain age or after inheriting it. If you fail to take out enough, you may face a hefty penalty on the amount that you should have withdrawn but didn’t.
The rules for RMD’s depend on whether the beneficiary is a person or a non-person (such as a trust). If the beneficiary is a person, they may be able use a longer time period to distribute the inheritance and therefore the taxes. However, if the beneficiary is a non-person, they have to distribute it over a much shorter time period.
The SECURE Act 2.0 changed some of these rules for non-person beneficiaries. It allows certain trusts that benefit disabled or chronically ill individuals to use their own life expectancy for RMD’s instead of the 10-year rule. This can provide more flexibility and tax efficiency for these special needs trusts. This means that all distributions from the retirement account must be passed through to the beneficiary without any accumulation or discretion by the trustee.
Therefore, naming your trust as the beneficiary of a retirement account can be a mistake or at least unnecessary in many cases. It can result in higher taxes and faster depletion of your account than if you named an individual beneficiary. You should consult with an estate planning attorney and a financial advisor before making this decision.
Naming your trust as the beneficiary of a life insurance policy could also be a mistake. This could expose the death benefit to creditors or estate taxes, which would otherwise be avoided if you name individual beneficiaries.
Some assets should not be put in the name of the trust at all. These include health savings accounts (HSAs), medical savings accounts (MSAs), uniform transfers or gifts to minors accounts (UTMAs or UGMAs), and vehicles. These assets have special rules or tax advantages that could be lost or complicated by transferring them to a trust.
How to Fund Your Trust
The process of funding your trust depends on the type and location of your assets. Here are some steps to follow:
- Make a list of all your assets and their values.
- Contact the institutions that hold or manage your assets and ask them how to transfer or retitle them to the trust or name the trust as the beneficiary.
- Follow their instructions and provide them with any information or documents they need, such as a copy of your trust agreement or a certificate of trust.
- Update your estate planning documents, such as your will, power of attorney, and health care directive, to reflect that you have a trust.
- Review your trust funding periodically and update it as needed.
Funding your trust is not a one-time event, but an ongoing process that requires attention and diligence. By funding your trust properly and regularly, you can help ensure that your estate plan will benefit those you love.
At LaCour Wealth Management, we specialize in providing second opinions to clients who already have a financial advisor. We can help you evaluate your current scenario to provide our honest feedback and
recommendations.
If you are interested in getting a second opinion, please contact us today. We would love to hear from you and see how we can help.
1: irs.gov
2: taxfoundation.org
RMD's are generally subject to federal income tax and may be subject to state taxes. Raymond James and its advisors do not offer tax or legal advice. You should discuss any tax or legal matters with the appropriate professional.
This blog post was created with the help of Bing Chat Enterprise, an AI-powered chatbot developed by Microsoft.
The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee that it is accurate or complete, it is not a statement of all available data necessary for making an investment decision, and it does not constitute a recommendation. Any opinions are those of LaCour Wealth Management and not necessarily those of Raymond James.
Raymond James is not affiliated with and does not endorse the opinions or services of Bing Chat Enterprise or Microsoft.
