THE REVOCABLE LIVING TRUST -- IS IT FOR ME?

By Nathaniel E. Clement, J.D.

During my years of practicing estate planning, this question often arises in my first consultation interview with a person who wants to talk about estate planning -- Is the revocable living trust right for me and my family? The answer depends on what you wish to achieve in your estate plan for yourself and your family. As I explain, estate planning is much more than money or property. It's about people and values: what do you want your money to mean to a  spouse, to children, to grandchildren, to favorite family members. It's about their security and prosperity without you. It's also about state and federal taxes, as well as income, death and gift taxes. It, too, may be about your favorite charity and how you can remember it in a thoughtful way. Estate planning is life planning. It is a living statement of commitment to others. Estate planning allows you to achieve your goals, objectives, dreams, desires and hopes. It provides you the opportunity to control your assets both during life and after death.

Done the right way, estate planning is more than just "death planning." In reality, estate planning is an act of caring, not an act of death. My experience is that people who love are people who plan. People who care about themselves and others are far more likely to want to create a plan that preserves their assets and shares them with others in a kind and responsible way.

Returning to the headline, the question, "The Revocable Living Trust--Is It For Me?" is answered "yes" when you express the following wishes to me during our first conference: (1) I want to control my property while I am alive. I want my assets to be available to take care of me and my loved ones if I become disabled; (2) I would like to give my property to whom I want, in precisely the way I want. Further, I would like to control how and when my heirs or beneficiaries receive property from me; (3) But, -- and this is very important to me -- I want to save every last tax dollar in accomplishing my objectives. Oh, yes, I also want to avoid, or at least reduce, legal fees and court costs; (4) Lastly, I don't want myself or my family involved in a lot of red tape that is public and prevents my objectives from being accomplished quickly and in an efficient and effective way.

THE WILL SUBSTITUTE THAT HAS COME OF AGE

In their book, PROTECT YOUR ESTATE, noted estate planning attorneys Bob Esperti and Renno Peterson describe the revocable living trust ("RLT") as "the will substitute that has come of age." Their belief, which is shared by our law firm, is that estate planning attorneys should generally use the revocable living trust as the "foundation" document to accomplish the majority of their clients' estate planning objectives.

Following is an overview of the benefits that Esperti and Peterson list in their book that can be derived from using the RLT:

• You can give what you own to whom you want and when you want subsequent to your death through the use of a RLT. As the trustmaker, you can spell out all your distribution terms and requirements as to how your property passes after your death.  You might think of these instructions as your "rule book.

• A RLT can control, coordinate, and distribute all your property interests while you are alive as well as upon your death. By using a RLT, you can arrange for your well-being under your terms as you advance in years, become ill, or become mentally incompetent. Your back-up trustee can take over your financial affairs without the problems that often go with powers of attorney.

• The use of a RLT assures that your plans and affairs will remain private, rather than being make public, on your death or incapacity. Your children's inheritance will remain confidential.

• RLTs are easy to create and maintain during your lifetime.

• It is easy for you to change or amend your RLT at any time during your lifetime. In fact, it's easier to amend a RLT than it is to amend a Will.
  

• The RLT has no income tax consequences, pro or con. A living trust carries the social security number of the trustmaker.  Thus, the trustmaker reports all income tax attributes of the living trust on his or her own personal income tax return.  In other words, the IRS ignores the living trust for income tax purposes and treats it and the trustmaker as one person for tax purposes.

• The RLT allows your estate to pass probate free.  This will happen if all of the otherwise probate assets that one owns are transferred during lifetime to the living trust.  Probate is for people...it is not for trusts, corporations, or other entities.  By avoiding probate, your estate plan will be MUCH harder for a disgruntled heir to challenge.  Also, the time and frustration of probate will be avoided  Also, you affairs will be kept private.

• A RLT is an ideal vehicle on which to "piggyback" estate tax planning, thereby sheltering up to $4 million (as of 2007) in assets (for the married couple). The living trust by itself is tax neutral (as stated).  However, by affirmatively adding "a-b" trust planning to the living trust, assets can pass to a trust for the benefit of a surviving spouse and then to heirs without an estate tax.  This technique will not shelter all of the decedent's assets from estate taxes when the children or heirs receive, but it will shelter a substantial amount.  The "coupon" referred to above is an amount that an individual can transfer to heirs free of the estate tax.  Most married couples leave their property to one another in a way that wastes one coupon, with the result that a married couple typically has available only ONE coupon to shelter assets they pass to children or heirs.  This is a needless waste because it can cost the children under current tax law over $500,000 in taxes that would not otherwise have to be paid.

• A RLT executed in N.C. is valid in every other state. Just because you move doesn't mean you have to change your plan. Some advisors and even lawyers may question this because this is certainly not the rule for Wills.  The reason RLTs are honored throughout the U.S. is the full faith and credit clause of the U.S. constitution, which states that a contract executed in one state shall be given full faith and credit in every other state.
  

• Wills, unlike trusts, are easy for disgruntled heirs to attack.  Wills are statutory animals. This means that the rules for Wills are spelled out by the state legislature in the written statutes.  The statutes vary, of course, by state.  A Will executed in one state may not necessarily be  honored in every other state.  Also, Wills have recitations in the document, in which the parties state that the willmaker is, for example, "competent." Or the willmaker is "of sound mind." Or the willmaker is "not under duress."  These phrases all represent potential litigation.  Trusts, as contracts, are held to a lesser standard. The standard for the execution of a trust is "did he or she know what she was executing at the time it was signed."  A Will can be challenged at death in the probate "court" (the local Clerk of Court's office in North Carolina).  This is a legal forum established by the legislature as a place to hear disputes about the Will. Thus, if you don't want to make it easy for a disgruntled heir to challenge your plan, it makes sense NOT to give that person a ready-made forum to hear disputes.  Living trusts are very difficult to challenge legally.  Many lawyers believe that the statute of limitations that applies to contracts also applies to living trusts.  Thus, even if a disgruntled party did want to challenge the living trust's validity (on whatever creative grounds a trial lawyer may dream up), the statute of limitations may have already run.

How Does The Living Trust-Centered Plan Work?

The revocable living trust is an ancient legal concept which has been in use at least 500 years longer than Wills.

A "trustmaker" (sometimes called "grantor") creates a RLT. The trustmaker then transfers his or her assets into the RLT. The trustee of the RLT can be you alone, you as co-trustee with a spouse or another person, or the trustee could be a bank or a trust company. The trust is managed by this "trustee" (similar to the chief administrative officer of a corporation), who acts in accordance with your instructions in the trust. Whomever you choose as the initial trustee, RLTs allow you to maintain total control over the assets you put in the trust. This is possible because you always retain the right to hire/fire trustees and the right to amend or even revoke the trust. In case of your mental or physical disability, you -- the trustmaker -- will name your backup trustees in your RLT; and they will be able to take care of you, using trust assets; and they will manage your financial affairs through the trust. When you recover from a disability, you automatically resume control of your trust and your assets. At your death, your backup trustees pay your debts and distribute your property according to your instructions in the RLT. Upon your death, the beneficiaries of your trust typically will be your spouse and/or your children.

How Does the RLT Avoid Probate?

Probate is for people; it's not for trusts, partnerships or corporations. If your RLT owns all of your assets upon your death, your estate is not subject to probate.

How Does a RLT Save on Estate Taxes for a Married Couple?

First, a RLT does not, by itself, save estate taxes! For a RLT to save estate taxes, it must have properly drafted tax language within the document that establishes a special trust that becomes effective upon your death.

Remember, if at death the value of all your assets (home, IRAs, 401k, life insurance, stocks, bonds, etc.) is more than the "coupon" amount ( currently $2.0 million), federal estate taxes must be paid, beginning at 37% and going as high as 46% (over 50% when state taxes are added). These taxes must be paid within 9 months after death.

Married couples have a unique tax break available to them when it comes to estate tax planning. Within the Internal Revenue Code lie the keys to estate tax planning for married couples. They are called the "marital deduction" and the "applicable exclusion" amount. We believe that the term "coupon" is a better term than applicable exclusion amount.  Here is an example of how these two tax concepts work:   Let's assume a married couple and the husband dies first, leaving a surviving spouse.  When the husband dies, he typically will want to leave all of his wealth to his wife so that she can continue to live comfortably.  If he does this all of his estate bequeathed to his wife will pass to her FREE of estate taxes.  The marital deduction allows any amount of wealth to pass between spouses tax free. When  wife dies in our example, she will typically say that she wants all of her wealth to pass to children or heirs.  How much can pass to the children/heirs tax free?  Under current tax law $2.0 million of her estate -- the coupon amount will pass tax free.  If she is "worth" more than this, the excess will be taxed.  It could be that a coupon of $2.0 million will protect all of her wealth. But, what if her wealth, worth under $2.0 million today grows to an amount over $2.0 million? And what if the U.S. government reduces the coupon?  Under current law, the coupon will be reduced in 2011 to $1 million.  Because of the way most married couples leave property to each other they waste one coupon.  Proper tax planning can capture BOTH COUPONS for the married couple.   By planning ahead, by using a bypass or "Family Trust," which is incorporated within the RLT, EACH spouse can protect up to the coupon amount and still take care of each other exactly the way they want.

Please Summarize For Me A Living Trust-Centered Estate Plan

When we use the term "Living Trust-Centered Estate Plan" with our clients, we're describing an estate plan in which the revocable living trust is used as the foundation document. In other words, the RLT is the "hub" of the wheel. To be totally effective, it must also include other important legal documents and supporting information. A comprehensive trust-centered estate plan portfolio will include the following:

The Living Trust Document

A comprehensive living trust document will have extensive language about you and your family. It will define what "disability" is and how your trustees will care for you. It will have your instructions as to how and to whom property will pass at your death. It will name your backup trustees, whether they be family members, friends, advisors, bank or trust company, who will follow your instructions at your disability or death. If you are married, it will, of course, contain precise tax provisions to utilize each spouse's coupon.

Pour Over Will

With every living trust-centered plan, there must be a short, single-purpose, "fail safe" will. This will is known as a Pour-Over Will. It says:

"I leave my property which, at my death, is not already owned by my RLT, to my RLT. Please have my personal representative put it in my trust."

Please remember that property that goes through your Pour-Over Will is subject to probate.

If you have young children, the Pour-Over Will is also the place to name a guardian for your children.

Special Powers of Attorney

General powers of attorney are not needed when you have a RLT! This is good because financial institutions hate general powers of attorney and often don't readily honor them. Also, general powers of attorney are often abused by the holder. There are two exceptions to this general rule.  (1) We recommend that the trustmaker of an RLT execute a "special durable power of attorney for funding." This legal document allows you to give to your backup trustees the power to transfer your property into your RLT in the event you become disabled before you can complete the transfers yourself. (2)  We recommend a power of attorney if you own an IRA or qualified retirement plan.  The reason for this is that an IRA or a qualified retirement plan will always stay outside of a living trust during your lifetime.  If you are disabled, it is important that your trusted party can obtain money from your IRA on your behalf if you are disabled.

Health Care Power of Attorney and Living Will

These legal documents allow you to give a trusted person the authority to make health care decisions for you if you are unable to make sound medical decisions on your own and gives your instructions as to what you want done if you have a terminal and incurable condition or are in a persistent vegetative state.

Memorandum of Personal Property

How do you make sure your very important personal effects, such as the special rocking chair, Christmas Nativity Scene, piano, Mom's rings, Dad's gun collection, go to specific individuals? A "Memorandum" is a separate written document that is incorporated by reference into your RLT. You complete the Memorandum after your RLT is signed, giving specific items to named individuals. You can, on your own, change the Memorandum anytime you want, without having to change your RLT itself.

Funding Instructions

In order for your RLT to meet your planning goals, it is critical that your assets be titled into the name of your trust. We find that the process of transferring assets to your living trust (called "funding" your trust) is a team effort. It should include not only your estate planning attorney but also your financial advisors, such as your accountant, your insurance advisor, and your investment advisor.

Our firm always helps clients with this most important function. Where appropriate, we transfer real estate into the RLT, since this requires a deed change, and we provide clients with a comprehensive set of instructions (and letters) for the remaining assets. Moreover, our firm is always available to clients by telephone if further help is needed in this important area.

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Copyright, Nathaniel E. Clement, J.D., 2007

1709 Legion Rd., Ste 214, Chapel Hill, NC 27517

Tele: 919-929-9298

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