Setting up an estate plan is the pathway to making sure that your loved ones will be looked after for years to come. The process is sometimes tricky to navigate, but necessary all the same. In your estate planning toolbox, you’ll find the option of setting up a Trust. One type of Trust is the Testamentary Trust, which is different from a Living Trust. Keep reading to find out the difference between a Testamentary Trust vs. Living Trust, and which option might be best for you.
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How is a Testamentary Trust Different from a Living Trust?
If you’re just starting to think about putting together an estate plan, you might not know much about how Trusts work. Let’s build your foundation with a basic definition of a Trust, and things to consider when choosing one. Then, we’ll explain how Living Trusts and Testamentary Trusts work, along with their differences.
What is a Trust?
A Trust is an estate planning document that works in tandem with a Will. It’s a fiduciary arrangement, which means that it allows an appointed person or entity to act on behalf of another. Assets are transferred into the Trust, after which they are owned and managed by the Trust. The Trustee is the appointed individual or entity who is responsible for handling the estate per its provisions. The Beneficiary is the individual who inherits the estate. Trusts come in handy for estates of any size and help families avoid a lengthy probate process.
Here are some aspects to consider when choosing a trust:
What kind of assets will the Trust hold?
What kind of tax protection are you seeking?
Do you want to be able to make changes to the Trust while you’re alive?
Do you want to be able to control the assets in the Trust while you’re alive?
Do you want to establish the Trust alone, or with a spouse?
Who are your beneficiaries, and what are their ages?
What is your relationship with your beneficiaries?
Who will be your Trustee?
While keeping these considerations in mind, let’s dive into the specifics of Living Trusts and Testamentary Trusts, and how to choose the best option for your needs. Be sure to check out our extensive “What is a Trust” if you’d like to spend more time understanding if you should have a Trust.
What is a Living Trust?
A Living Trust is established during your lifetime. It allows you, the Grantor, to access assets after they have been transferred into the Trust. It includes provisions for how you wish for your assets to be managed and distributed after you pass away. The main advantage associated with a Living Trust is not having to go through the probate process. You could also secure a reduction in your estate taxes.
Under the Living Trust umbrella, you’ll find two options: revocable and irrevocable. The differentiation between the two is easy to remember. Revocable Trusts can be revoked if needed, but Irrevocable Trusts generally cannot be changed. They both offer a unique set of advantages, along with disadvantages. The differences between a revocable vs irrevocable trust are worth looking into.
What is a Testamentary Trust?
A Testamentary Trust is a great option to consider if you have young children or grandchildren. Naturally, some people would be concerned if a young person inherits an estate, all at once, when they turn 18 or 21.
This type of Trust is created within, and works in accordance with, your Will. Unlike a Living Trust, a Testamentary Trust only goes into effect in the event of your passing. These Trusts typically outline when assets should be distributed to the children, such as once they become legal adults, graduate from university, or get married. You can also dictate a set distribution schedule for the assets. We’ll provide an example of this a bit later.
There are two types of Testamentary Trusts: Separate Trusts and Family Trusts. In the case of Separate Trusts, one Trust is created for each beneficiary. Most often, assets are split equally into unique Trusts for each child. A Family Trust manages all assets in one place and is often used when one child might need more financial support than another. Our Testamentary Trust guide goes into all of the nuances in detail.
Testamentary Trust vs. Living Trust
The key differences between a Testamentary Trust vs. Living Trust are:
Timing of when the Trust goes into effect
Whether or not the Trust is subject to probate court
A Living Trust goes into effect as soon as it’s established, although it must be properly funded first. In contrast, a Testamentary Trust only goes into effect upon the grantor’s passing.
Another important consideration is probate. It can be a lengthy, costly process, and families naturally prefer to avoid probate when possible. Living Trusts generally bypass probate, whereas Testamentary Trusts do not. Knowing the unique advantages of each type of Trust can also help you make your decision.
Advantages of a Living Trust
A Living Trust is a natural choice for those who want to avoid probate. These Trusts protect families from extensive oversight from the court system. Your privacy is better protected as a benefit of keeping your estate out of public records. Further, avoiding probate means you get to save on legal and court fees.
If you think your Trust might require some modifications during your lifetime, then a Revocable Trust is a great choice.
Advantages of a Testamentary Trust
Although Testamentary Trusts are subject to probate court, they provide helpful mechanisms for families with young children, young grandchildren, or family members with disabilities or mental illness.
First, they prevent children from receiving inheritances and distributions at inappropriate ages.
Most estates are inherited by default at the age of 18 or 21, which some would argue is too young of an age. Testamentary Trusts allow for specific parameters. For example, you can specify that your child will only begin receiving $1,000 per month when they turn 21. You could also specify that this allowance increases when they reach certain milestones.
Overall, Testamentary Trusts are a great option for those who prefer more oversight provided by the court system.
Is a Testamentary Trust Irrevocable?
Yes, a Testamentary Trust is considered irrevocable. The provisions of the Trust are detailed in your last Will and testament, and the Trust itself is only established upon your passing. During your lifetime, however, you would be able to update the provisions that are included in your Will. Once the Trust goes into effect, it may be subject to probate.
Trusts and Wills are both powerful estate planning tools, especially when you use them in tandem. Beginners often get started by setting up a Will without knowing much about Trusts. Through the process, they quickly learn how setting up a Trust is equally as important. Not only will a Trust enhance your Will, it will also provide added protection for your assets. There are several different types of Trusts to choose from, but narrowing it down between a testamentary trust vs living trust is a great place to get started.
Don’t worry! You won’t be on your own. Our experts are available to help you find the best fit for your needs. Is there a question here we didn’t answer? Reach out to us today or Chat with a live member support representative!