Liquidity, Powers of Appointment, and Trusts - Types, Features And Taxation Of Trusts

Classification
Five Common Elements of all Trusts:

  • Creator (Grantor, Settlor or Trustor)
  • Trustee
  • Beneficiaries
  • Trust Property
  • Terms of the Trust

Simple and Complex
The income tax laws dictate that all trusts must be classified as either simple or complex trusts. While most trusts operate as simple trusts, the two have very distinctive features:

Simple Trusts
Complex Trusts
ALL income must be distributed
Accumulation of income allowed
No distribution of Corpus
Distribution of Corpus allowed
No charitable contributions
Charitable contributions allowed
Deduction for distributable income
Taxed on retained income
No tax to trust on income paid out
Deduction for actual distributions
Beneficiaries taxed on DNI
Beneficiaries taxed on DNI







DNI = Distributable Net Income (the trust's income, less any income related expenses).

Capital gains are excluded from the definition of "income" and generally are considered as part of the corpus (principal).

Revocable and Irrevocable
The Revocable Trust is a trust created by a grantor by transferring property to the trust under the supervision of a trustee(s). Some common reasons for creating a revocable trust include the following:

Revocable Trusts:
-
Probate avoidance
- Monitor the trustee
-
Gifting property in trust
-
Grantor lacks time to manage
-
Avoid out-of-state disputes
-
Preserve a family business

The Irrevocable Trust is a trust created by a grantor whereas property is transferred to the trust permanently. The grantor will lose control and possession of the property. These trusts are frequently used to remove assets from an estate to reduce estate tax exposure.

Irrevocable Trusts:
- Probate avoidance
-
Avoids the claims of grantor's creditors
-
Shelter and protect assets
-
Provide property for beneficiaries
-
Gifting opportunities
-
Estate tax reduction

Inter Vivos and Testamentary
Inter vivos is a Latin term meaning "between the living," so an inter vivos trust is a living trust that is created for use before the death of the grantor. It can be both revocable and irrevocable.

The testamentary trust is a trust created under the terms of a will, thus making them subject to probate. These trusts are considered revocable until the death of the testator; at the time of death it becomes irrevocable. Characteristics of a testamentary trust would include the following:

Testamentary Trusts:
- Grantor wants to maintain control of property
- No probate avoidance (public information)
-
Irrevocable at death
-
No estate or income tax savings during the life of the testator
- Distribution of property at death to multiple beneficiaries

Types and Basic Provisions


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