What Is a Trust Fund and How Does It Work?

How Does a Trust Fund Work

When it comes to protecting your assets for future generations, a trust fund is a viable option to consider. It is important to understand what a trust fund entails, how it works and what needs to be done to properly create it.

What Is a Trust Fund?

A trust fund is an official legal entity created to hold property for the benefit of another person(s) or organization(s). The actual trust account is under the control of the trustee, a person who is appointed and named in the trust, and the terms that the trustee must abide by are detailed in the trust fund document.

Who Are the Parties Involved in a Trust Fund?

A trust fund normally involves three different parties: the grantor, beneficiaries, and the trustee. The grantor is the individual who establishes the trust fund and gives the money, property, cash, stocks, bonds, real estate and other property to the fund. Since the grantor is the individual behind the document’s creation, this person is in charge of deciding who will receive the trust assets, under what terms and who will control the trust assets as trustee. The beneficiary is the individual for whom the trust was created. This party is the person who is meant to receive the assets of the trust under the terms of the trust fund document. The trustee is either a person or an institution, such as a bank trust department, who is named as the person responsible for overseeing the assets in the trust fund. The trustee’s powers and duties are clearly laid out in the trust fund document, and the trustee must act with the best interests of the beneficiaries in mind at all times.

What Are the Benefits of a Trust Fund?

Trust funds and trusts are used for several different reasons. Trusts are extremely helpful if the grantor wishes to avoid probate and protect his or her assets through the structure of a trust instead. Trusts also have tax advantages. For instance, trusts are often very helpful in bypassing estate taxes, after the grantor dies. If the grantor wants family members to receive money only upon specific instructions, a trust document is also helpful in ensuring that these steps are taken. Many grandparents or parents will use trust funds to ensure that the grandchildren go to college and successfully graduate to get the money. Trusts are another way to protect specific assets, such as a family business, from creditors or the government, especially in the event the grantor later needs to go into long-term care. Whatever the reason for creating a trust, a trust and estate planning attorney can help prepare the document that meets the needs of the grantor.

Types of Trust Funds

What Are the Different Types of Trust Funds?

Several different types of trusts exist, depending on the circumstances of the grantor and beneficiaries. They range from basic to complicated and include the following:

Revocable Trusts: These types of trusts are often referred to as living trusts. They are created during the lifetime of the grantor, and he or she maintains the right to modify or revoke the trust. The grantor often serves as the initial trustee and has the ability to sell, move or alter property in the trust as much as desired. These types of trusts are most often used to avoid probate and estate taxes.
• Irrevocable Trust: An irrevocable trust is different than a revocable one in that it cannot be changed or revoked after the document is created. After the trust is signed and property transferred to the irrevocable trust, the grantor no longer has the ability to control the property within the trust. Many individuals use this trust as a way to protect their assets in the event they need to go into long-term care later in life.
• Asset Protection Trust: This type of trust protects a person’s assets from future creditor claims. An asset protection trust will be written so that it is irrevocable for a set period of time so long as the grantor is not a current beneficiary. Upon termination of this period of time, the undistributed assets of the trust are then returned to the grantor, so long as no current risk of creditor’s seeking these assets exist. Many of these types of trusts are created in foreign jurisdictions, although that does not have to be a requirement.
• Charitable Trust: A charitable trust benefits a specific charity or the general public. They are normally part of an estate plan and are meant to help reduce or avoid estate and gift tax. A charitable remainder trust (CRT) funded during the grantor’s lifetime is used often as a financial planning tool to benefit the grantor.
• Constructive Trust: A constructive trust is also referred to as an “implied trust.” These trusts are normally created by a court of law and is determined from a case’s facts and circumstances. It is implied since no formal document was written to create the trust, but the court finds that there was a clear intention on the property owner that it be used for a certain purpose, which has it placed into the constructive trust.
• Special Needs Trust: A special needs trust is created for a person who receives government benefits, so the beneficiary is not disqualified from these benefits due to other property owned. All that matters is the disabled beneficiary is not able to control the funds in the trust for the person to still qualify for Social Security.
• Spendthrift Trust: If the grantor is concerned that the beneficiary will sell or pledge away interests he or she has in the trust, a spendthrift trust may be that person’s best options. The trust also protects the assets from the beneficiary’s creditors until the trust property is distributed out of the trust and to the beneficiary.
• Tax Bypass Trust: This type of trust is created to allow a married couple to leave money for the surviving spouse while still limiting how much federal estate tax is payable on the assets after the second spouse dies. Assets will pass from the one spouse to the second spouse tax-free, but the bypass trust then allows the assets to be divided so that the remaining assets that are over the exempt limit for federal estate taxes are protected.
• Totten Trust: A Totten Trust is a type of trust that is created during a grantor’s lifetime by depositing money into a trust bank account that is in his or her name as the trustee for another person. Totten Trusts do not fully gift the money to the beneficiary until the grantor’s death or some other act during the grantor’s lifetime. A beneficiary under a Totten Trust can be both a person or entity. To create a Totten Trust via a bank account, the account should include language such as “in trust for,” “as trustee for,” or “payable on death to.”

How Is a Trust Fund Structured?

Every state has its own set of guidelines for how a trust can be structured. Some trusts are considered perpetual trusts, meaning they can last indefinitely. Others are set for a specific period of time until a triggering event occurs, at which time the trust’s funds are liquidated and distributed. The clauses within the trust can provide what steps or events need to occur before a beneficiary will receive his or her share of the trust. Another mechanism that can be inserted into the trust fund is a clause called a “spendthrift clause,” which keeps the beneficiary from accessing the trusts to pay expenses that the trustee does not approve. These clauses are often inserted if the parents or grandparents who created the trust are concerned that the child will blow through the assets if given the chance.

What Is a Trust Fund Baby

What Is a Trust Fund Baby?

The term “trust fund baby” is often used to describe an upper-class child who does not have to work for a living but spends his or her days in some social club. A trust fund baby is a person whose grandparents or parents have place assets into a trust fund on their behalf. Once the child reaches a certain age, which can depend on the terms of the trust, the person can start accessing the money in the fund. Terms often say that the child must be 18, 21 or 25 years old, or some are set upon a certain condition being met, such as graduation from college or the death of the person who set up the trust. The trust is then managed by a third-party, normally not the child beneficiary.

How to Set Up a Trust Fund Bank Account

The actual trust fund document where the fund is created needs to first be written and signed before the bank account can be created. Most banks have options for different types of trust fund accounts. The account is not in the name of the person who opened it but rather the trust, and the individual who controls the money in the account is the trustee, who controls the money and handles it with the best interests of the beneficiaries in mind. The trustee will work with the bank to set up the trust account, as trustee for the benefit of the named individual(s) or organization for whom the trustee is handling the trust assets. The trust account is also normally in the tax account number for the trust, and the trustee is the person responsible for handling deposits into the account.

What Is a Family Trust Fund?

A family trust is one that is set up by a grantor relative for the benefit of future generations of family members. As new family members are born, the list of trust beneficiaries simply grows, and many times, these trusts are set up to be perpetual, the money continually being invested and monitored by a third-party trustee for the benefit of the family beneficiaries. The purpose of the trust is to benefit those that are related, either by blood or marriage, to the grantor.

How Does a Trust Work When Someone Dies?

In any trust documents, the triggering event that allows the beneficiaries to receive the assets in the trust is the death of the grantor who created the trust. What that means is the beneficiary cannot access the funds until that person dies. At that time, it is up to the trustee to then begin the steps outlined in the trust document itself to give the beneficiary his or her share of the trust assets, per the trust instructions.

How Do I Start a Trust Fund

How Do I Start a Trust Fund?

Because of the complexities involved in creating a trust document and deciding which type of trust is best for the grantor’s and beneficiaries’ specific life situations, the first step is to contact an attorney to discuss preparing the trust. The attorney will prepare the document according to what the client would like, and this document will need to be signed by the grantor, witnesses and in the presence normally of a notary public. After the trust has been created, the next step is to fully fund the trust by titling and transferring any property that will be included in the trust into the name of the trust. If real property is involved, this involves preparation and filing deeds changing ownership of the property to the trust. It is also advisable that the grantor and appointed trustee find a financial institution that will be responsible for maintaining the trust financial account. The trust account will need a tax identification number, which can be accessed through the attorney or the financial advisor. As soon as the trust is fully in place, it is then up to the trustee to work under the terms of the trust to be sure that the grantor’s wishes are fulfilled.

What Are the Disadvantages to Trust Funds?

One of the major downsides to setting up a trust are the fees that are accumulated in setting it up. It is almost always recommended that an attorney prepare the trust document, and because of all of the various requirements with taxes and legal terminology, having someone who does not have the proper legal background create it can be tricky if someone tries to fight the trust down the road. A traditional or basic revocable or irrevocable trust can be a couple thousand dollars to create. If the trust needs to be administered by a professional trust department or bank, fees will often be associated with this, as well. If the trust produces any income, an accountant will be needed, which will bring fees to prepare and file these annual taxes, too.