Do I Need A Trust?

Do I Need A Trust?

If you’re thinking about your estate planning, you might ask Do I need a Trust? And to answer that question, we have to first ask why you might want a trust. There are many types of trusts and it is not as simple as a generic Yes or No. Many people do not need a trust, but for other families it may be valuable or even essential.

In this article, we are going to talk about the reasons for wanting or needing a trust. If you are clear on the reasons, you can help your estate attorney make sure you have the best type of trust for you. These can be slightly different from state to state. Or you can determine that you don’t need a Trust to accomplish your Estate planning objectives. The taxation of trusts is often overlooked and sometimes misunderstood, even by attorneys.

Every small town offers estate planning, but if you have a complex situation, I would suggest you seek out an attorney who is board certified in Estate Planning. They are often better up to date with all the trust pros and cons for your needs. You don’t see your family doctor for a hip replacement, you see a specialist. Do the same for your Estate Planning.

Avoid Probate

One of the most common reasons to establish a trust is to avoid having to go to Probate Court to distribute your assets upon your death. Probate can take a year or longer in some states and has a number of costs, including court fees and attorney expenses. A Revocable Living Trust (RLT) can sidestep the probate process, potentially saving some time and expense for your heirs.

These types of trusts are generally fairly harmless. But they are not always necessary. Remember that some assets already do not go through the probate process. Non-probate assets include:

  • Joint accounts with rights of survivorship
  • Retirement accounts (IRAs, 401k, 403b, etc.) with a named beneficiary
  • Life Insurance and Annuities
  • Transfer on Death or Payable on Death accounts

If you have a house, car, boat, etc., with a title or deed, those assets MUST be retitled so that the trust owns the asset. Otherwise, those assets will still have to go through Probate. So, unfortunately, what often happens is that someone has a RLT but has one or two items which were not titled correctly, so they still have to go to Probate for those items. Please note that real estate goes to probate in its home state. So if you have a home in Texas and one in Colorado, you would need to go through Probate in both states. That is also a good reason for a RLT.

Spendthrift Trust

Another reason to have a trust would be to have a Spendthrift provision. A “Spendthrift” is someone who spends in an irresponsible way. Sometimes that may mean a gambling, alcohol or drug problem, or a mental illness. If you are concerned that one of your heirs is going to waste the money and squander their inheritance, than you may want a trust. The trust can stipulate how much a beneficiary can withdraw or present them with an allowance rather than a lump sum. Or you can establish a trustee to oversee the distribution of money to ensure that the beneficiary is doing okay.

Family Considerations

There are other family reasons for establishing a trust. First, consider minors. If an minor is a beneficiary of an estate, they cannot receive the money. Instead, the probate court will appoint a trustee, based on their rules. Then when the child reaches the age of majority, 18 or 21 depending on the state, they will have access to 100% of the money. You might prefer a trust to hold this money and provide access at a later age or for specific reasons (such as education, medical, buying a first home, wedding, etc.).

Second, a trust may help keep money in the family in case of divorce. You may love your kids but not be certain about their spouses or future spouses. Some states, like Texas, can preserve inheritance money as a separate asset, not subject to division in a divorce. Other states do not. The risk is that the funds are commingled or squandered. So a trust may again be appropriate in these situations. Half of all marriages are ending in divorce and that may well include your kids.

Third, you may have future grandchildren or great-grandchildren. A trust could provide for a longer inter-generational transfer to unborn generations. It might also be helpful in preventing some heirs from deciding not to work and to spend the inheritance on lavish cars, houses, and vacations. Many successful entrepreneurs worry about how an inheritance could de-motivate their heirs from pursuing their own careers. Why go to Medical School if you are already a multi-millionaire at 18? A trust can set some rules.

Fourth are Special Needs Trusts. If you have an heir who has a physical or mental disability, you may want to establish a Special Needs Trust. Generally, these trusts are created to provide a supplemental benefit while still allowing the beneficiary to qualify for Medicaid or state funded care.

Fifth, What if you are remarried and have a blended family with children from previous marriages. You may want to leave income to your spouse but leave the remainder or principal to your children. Otherwise, there is potentially a possibility that your spouse could remarry after you are gone or decide to cut your children out later. One solution is a Qualified Terminal Interest Property Trust, called a QTIP.

Estate Tax and Asset Protection

We wrote extensively last week about the Estate Tax and how the exemption is set to be cut in half in 2026. A lot of families who are not thinking about the Estate Tax could be subject to a 40% tax in the future. And that risk is a very real reason to consider an Irrevocable Trust today – to lock in the very generous Estate and Gift exemption we have in 2023 through 2025. Today, a couple could put in almost $26 million into a Trust, without gift taxes, and avoid a future estate tax, even if Congress later lowers the Estate Tax Exemption.

Moving assets out of your name and into a trust could also protect those assets from creditors. If you are concerned about a lawsuit or bankruptcy, moving assets out of your name may be a good idea. For some professions and businesses, this is a very real risk.

Trust Taxation

Be sure to ask and understand how any proposed trust will be taxed in the present and future. Taxes can be misunderstood by families who thought a Trust was doing a great thing for heirs. Some trusts are pass-through entities, where the income taxes are payable by the grantor or the beneficiaries.

Other trusts are their own entity and have to file their own tax return. And this type, you need to be very careful. Trust and Estate tax rates are much worse than individual tax rates. Both trusts and individual have the same top rate of 37% in 2023. But the Trust reaches that 37% tax rate at only $14,451 of income versus $578,126 for an individual (2023).

Billionaires don’t care about trust tax rates because they and their heirs are always going to be in the top tax bracket. To them, the trust tax rate doesn’t matter. But for most beneficiaries, there will be a large increase in taxes if the trust is a taxable entity.

For example, consider $100,000 ordinary income to an individual versus a Trust (2023):

  • Individual taxpayer (after $13,850 standard deduction) = $14,261 tax
  • Trust with same income = $35,144 tax

It may be that the other goals: spendthrift, family, estate planning, etc., outweigh the additional tax costs. But you should fully understand what the taxes will look like while you are alive and also for your heirs.

Two other questions to ask about taxes before entering a trust:

  • Will my heirs receive a step-up in cost basis if the trust owns this asset when I pass away? In many cases, this answer alone may dissuade you from certain types of trusts.
  • What will happen if I name the trust as beneficiary of my retirement account or life insurance policy? In some cases, certain benefits may be lost if a trust is a beneficiary rather than a natural person.


Do I need a trust? To answer that question, we’ve outlined two areas of focus. First, be very clear about why you need a trust. Is it to avoid probate, for a spendthrift, for family reasons, to reduce estate taxes, or protect assets from creditors? These require different approaches. Second, be sure you understand how the trust will be taxed today and in the future. Some are simple and some are complex and can be costly for your heirs. There are no tax-free trusts, someone is always liable for taxes and you need to understand how this works.

Every family should have a Will and related estate planning documents: a Durable Power of Attorney, a Physicians’ Directive, and Health Care POA. Keep these up to date, especially if you have a change in your beneficiaries, executors, or trustees. If you don’t have a specific need for a trust, it’s quite possible that you don’t need one. I am not of the opinion that everyone must have a trust. In many cases, the majority of their assets can pass outside of probate, just through beneficiary designations or TOD accounts. There are pros and cons to that approach, too.

If you do establish a trust, please share it with your financial advisor. It may even be beneficial to set up a meeting or call with you, your attorney, and your financial planner to ask questions about account titles, beneficiary designations, and taxes. That way, we can work together to make sure your estate plan will work as intended. Our Wealth Management process is often planning for several generations and not just for this year or even for just your retirement. If you are thinking about how your money can benefit your family long-term, let’s chat.

What Is The Estate Tax?

What Is The Estate Tax?

Many investors are unclear about exactly what is the estate tax in the United States. Thankfully, very few people currently have exposure to the estate tax. However, for wealthy families, the estate tax can be significant. Even if you are not currently subject to the estate tax, you might be in the future, and you need to read this article. Here’s what you need to know about the estate tax and key planning strategies to reduce a future estate tax liability.

Estate Tax in 2023

Today, for 2023, the estate tax exemption is $12,920,000 per person. This is the amount that you can pass on to other people without paying any estate tax. If your estate is above this amount, your estate pays tax on the amount above the $12,920,000 threshold. The tax begins at 18% and increases to 40% once you reach $1 million above the threshold.

Spouses have separate exemptions, so a couple can effectively have an estate of $25,840,000 before owing any estate taxes. The exemption is indexed to inflation and is increasing each year. The tax must be paid by the estate before the assets are distributed to your heirs. There is no estate tax for leaving assets to your spouse, provided that your spouse is a US citizen.

Please note that the estate tax has nothing to do with “probate”. Items which are excluded from probate, such as retirement accounts, life insurance, TOD accounts, and revocable trusts, are still included in your assets for the calculation of the estate tax.

When I became a financial advisor two decades ago, the estate tax exemption was only $1 million. A lot of people were getting hit by the tax and planners were much more focused on the estate tax. Over the past 20 years, we’ve seen the exemption expanded greatly. Today, there are relatively few families who are subject to the tax, but that is likely to change.

The Future of The Estate Tax

The estate tax exemption is set to be cut in half in 2026. The current exemption amount is scheduled for sunset as part of the Tax Cuts and Jobs Act of 2017. On January 1, 2026, the exemption will drop to around $6.5 million or so (depending on inflation over the next couple of years). And immediately, people with over $6.5 million will be subject to the estate tax.

For example, if you have $11 million as an individual, your estate tax would be $0 today. But in 2026, if the exemption is $6.5 million, your heirs would owe estate tax on $4.5 million. The tax bill would be $1,745,800.

Of course, Congress could act to extend the exemption amount or even increase it. We don’t know what will happen. Personally, I don’t think there is much appetite in Washington for continuing or expanding the estate tax limits. Given the increased perception (and reality) of wealth disparity in our country, it seems unlikely to me, especially with our growing debt and deficits. It is easier to raise taxes on the 1%. There were candidates in the previous presidential election who proposed lowering the threshold to $3.5 million and increasing the tax to 45%. So, it will definitely depend on who is in control in Washington in 2025-2026, but the writing is on the wall. I think the estate tax threshold is likely going lower, maybe a lot lower. It’s a real risk.

Wealthy Americans who have $3 million to $26 million as a couple presently don’t have to think about the estate tax. But that seems likely to change, and families in this range could have a different situation in the future. Also, make sure to consider a calculation of future growth. With a hypothetical 7% annual return, $5 million will become $20 million in 20 years. Just because you don’t have an estate tax liability today is no guarantee you will not in the future.

Thankfully, there are a number of planning opportunities to reduce your future estate tax exposure.

State Estate Taxes

Before we get to estate tax strategies, there’s more bad news. A number of US states impose their own estate tax or Inheritance tax, on top of the US estate tax. And all of these states have a MUCH lower exemption, ranging from $1 million in Massachusetts to $5.9 million in New York, meaning that even if you don’t pay a federal estate tax, you could end up owing estate tax to your home state. Residents of these states will pay both the state and the federal estate tax.

States with an estate tax include: CT, DE, DC, HI, IL, MA, MD, ME, MN, NE, NY, OR, and WA. The following states impose an inheritance tax, which is similar, but imposed on the beneficiary rather than on the Estate: IA, KY, MD, NE, NJ, and PA. State estate tax rates are up to 20%. This is in addition to the Federal estate tax, so the combined estate tax could be over 50% in certain states.

Planning for the state estate tax can be very simple. Move to another state without an estate tax or an inheritance tax.

Ways to Reduce the Estate Tax

Below are ways to reduce the estate tax and it is by no means a complete list. Each of these strategies below could be a full article. There are many planning strategies we could use, depending on your individual situation.

  • Charitable giving. Your gifts to charity reduce your estate and if done in advance can also provide income tax benefits. Don’t forget Qualified Charitable Distributions from your IRA if you are over age 70 1/2. Better to gift over time, rather than at death, to maximize income tax deductions, which are limited to 50% of Adjusted Gross Income annually.
  • Use your annual gift tax exclusion of $17,000 (2023) per person. You can also pay an unlimited amount for medical and educational expenses. Pay for your grandchildren’s college directly.
  • Give your heirs $12,920,000 now and use up your lifetime unified exemption today. Or establish an Irrevocable Trust with this amount. When you give away or fund the trust now, the IRS cannot later charge you gift or estate taxes if the future exemption drops. You have locked in your gift at $12,900,000. And next year, if the exemption does increase, say to $13,050,000, you could give away another $150,000. This strategy is essential to do before 2026.
  • Establish a family limited partnership (FLP) and gift shares to your heirs. They may receive a minority discount on the FLP shares, reducing the value of the gift. This is especially helpful if you have a closely held business which is growing in value.
  • Establish 529 College Savings Plans for children or grandchildren. 529s pass outside of your estate, even if you control them. You can fund five years in advance ($85,000 from a single donor or $170,000 from a married couple) per beneficiary, without touching your lifetime unified exemption.
  • Irrevocable Life Insurance Trust. Purchase a permanent life insurance policy through the trust and the trust owns the policy. Then there is no estate tax (or income tax!) on the death benefits paid to your heirs. (If the life insurance is owned by you directly, the death benefits will be included in your Estate.)
  • Roth Conversion. Pre-paying the taxes on your IRAs will reduce your Estate by the amount of taxes paid. And you will leave a tax-free account to your heirs. It’s better than your estate paying 40% and then your beneficiaries having to pay another 39.6% in income taxes on the distributions from your IRA.
  • Other trusts can reduce your taxable estate, including charitable trusts and intentionally defective grantor trusts.

Hopefully now you have a better idea “What is the estate tax”. Unfortunately, there is uncertainty about what the future estate tax will be. And that is a big risk for families who are thinking that they are safe because today they are below the estate tax thresholds. It’s not too early for families to start planning for 2024 and 2025 before the estate tax exclusion is cut in half in 2026. If you have concerns about how the estate tax might impact your family, contact me to discuss.

Stretch IRA Rules

Stretch IRA Rules

What are the Stretch IRA Rules? The SECURE Act changed the Stretch IRA rules as of January 1, 2020. While this was a proposal, I wrote 7 Strategies If The Stretch IRA Is Eliminated, which continues to get read numerous times every month. Today, we are going to dive into the new rules for IRA Beneficiaries. This is important because if you are leaving a large retirement account to your heirs, there could be a large tax bill! And if you don’t know these rules, you could make it even worse.

First, old Stretch IRAs are unchanged and are grandfathered under the old rules. So, for anyone who passed away by December 31, 2019, their beneficiaries could still inherit the account into a Stretch IRA. That means that they only have to take Required Minimum Distributions each year. They can leave the money invested in a tax-deferred account. For many of my clients with inherited IRAs, their Stretch IRAs have grown even though they are taking annual withdrawals!

Under the new rules, there are three classes of IRA Beneficiaries. First, there are Eligible Designated Beneficiaries (EDBs) who will still be able to use the Stretch IRA Rules. Second, there are non-Eligible Designated Beneficiaries (non-EDBs), who are now going to have to withdraw all the money within 10 years. This is called the “10 Year Rule”. Third, there could be a Non-Designated Beneficiary.

Eligible Designated Beneficiaries

There are six situations where an IRA Beneficiary today could use the old Stretch IRA rules.

  1. A Spouse
  2. Minor Children (see below)
  3. Disabled Persons
  4. Chronically Ill Individuals
  5. Persons Not more than 10 years younger than the IRA owner
  6. Certain See-Through Trusts

These individuals could inherit an IRA and use the old Stretch IRA rules. For example, if you left money to your sister who is 8 years younger than you, she could do a Stretch. Or to a friend who was disabled. The old rules and benefits will still apply in these cases!

Spouses and Children

Minor Children are not given an unlimited Stretch IRA, unlike in the past. Today, Minor Children can stretch the IRA until the age of majority, 18 or 21, depending on the state. If they are a full-time college student they can stretch until age 26. When they reach that age, then the 10 Year Rule kicks in and they must withdraw the remainder of the IRA within 10 years.

Spousal beneficiaries have a choice in how they treat the inherited IRA. They can roll it into their own IRA and treat it as their own. This is helpful if they are younger than the decedent and want to have smaller RMDs. However, if they are younger than 59 1/2, they might prefer to put it into a Stretch IRA. That way they can take withdrawals now and avoid the 10% pre-mature distribution penalty. If a surviving spouse is older than the decedent, they could use the Stretch IRA so they can put off RMDs until the decedent would have been 72.

Non-Eligible Designated Beneficiaries

Any person who is not one of the six EDBs is a non-Eligible Designated Beneficiary. Non-EDBs are must withdraw their entire IRA within 10 years. This would include adult children, grandchildren, or any other relative or friend who is more than 10 years younger than the IRA owner. Most non-spouse beneficiaries will be non-EDBs.

The IRS created some confusion this year as to what the 10 Year Rule Means. One document suggested that beneficiaries would still be required to take out some of the inherited IRA annually. That turns out not to be the case, as the IRS clarified in publication 590-B, Distributions from IRAs. Under the 10 year rule, there is no RMD or annual requirement. Beneficiaries have complete choice in when they withdraw from the IRA. The only requirement is that the whole account is withdrawn in 10 years.

For most beneficiaries, you will still want to draw down a large account gradually. Taking small withdrawals each year is likely to result in lower taxes than if you wait until the 10th year. For example, it would be better to take $100,000 a year for 10 years than $1 million all at once. This does give us some room for customization. If you have a low earning year, that could be a better year to take out a larger amount. If your tax rate will go up in 2022 or 2026, you might want to accelerate withdrawals while under a lower rate.

Non-Designated Beneficiaries

The third category is Non-Designated Beneficiaries. An NDB could occur if you don’t name a beneficiary, if you name your Estate as the beneficiary, or a charity or certain trusts. NDBs have the worst outcome, the old 5-year Rule. NDBs must withdraw the entire IRA within 5 years. Many people who established Trusts prior to 2020 named their trusts as the beneficiary of their retirement accounts. This will backfire now because the Trust cannot Stretch the distributions. And with Trust tax rates higher than for individual beneficiaries, this could hurt your beneficiaries quite a bit. If you have a Trust from before 2020, it should be revisited.

It is important that we review your beneficiaries from time to time to make sure they are up to date. It is also a good idea to have contingent beneficiaries in case your primary beneficiary pre-deceases you. IRAs do not have to go through probate. But if there are no beneficiaries, then this money could be tied up from months to more than a year as the Probate Court decides how to distribute your money.

Roth IRA Stretch Rules

Roth IRAs are inherited tax-free. So, on day one, any beneficiary can withdraw the entire Roth IRA balance and owe zero taxes. However, there are some options available for Roth Beneficiaries, too. And these also changed under the SECURE Act.

First, for spouses. A spousal beneficiary of a Roth IRA could take a lump sum distribution. Or they could roll the inherited Roth into their own Roth. Third, they could roll the Roth into an Inherited Roth account. In an Inherited Roth, they have two options for distributions. They can take annual Required Minimum Distributions based on their own age. Or, they can use the 5-year rule and withdraw the entire amount in 5 years. For most spouses, rolling the inherited Roth into their own will be a good course of action.

Non spouse beneficiaries also have an option to continue tax-free growth of a Roth. For Roth owners who passed away before 2020, beneficiaries could have elected to take RMDs. Under the new rules (owners who passed away after January 1, 2020), Roth Beneficiaries can use the 10 year rule. They have up to 10 years to take money out of their inherited Roth IRA.

Other Considerations

An inherited IRA also has a beneficiary. What happens then? Let say Mom left her IRA to her son years ago. Son has a Stretch IRA. Son passes away and leaves the inherited IRA to his wife. What now? You don’t get to Stretch twice. So the wife, in this case, is going to be under the 10-Year Rule. This is called a Successor Beneficiary.

A second example: Mom passes away in 2020 and leaves her IRA to her son. Son is under the 10-Year Rule. Son passes away in 2025 and names his wife as Successor Beneficiary. Does she get to restart the 10-Year Rule? No, the old rule applies, and she must withdraw the full account by 2030.

If you have a Beneficiary IRA, and are over age 70 1/2, you can also do Qualified Charitable Distributions. Most people don’t realize that QCDs could count towards their RMDs from an inherited IRA, too.

While I often only have one or two clients who inherit an IRA each year, every IRA owner should understand what will happen when they pass away. That’s why I am writing this somewhat technical article on the new Stretch IRA rules. By planning ahead, we can determine the best course of action for your situation. It could involve leaving a your IRA to charity, to a spouse, to children, grandchildren, or a trust. It may make sense to convert your IRA to a Roth.

For many of my clients, their largest accounts are IRAs. And there is a significant tax liability attached to those IRAs, for the owners, spouses, and heirs. If we plan well, we can help reduce those taxes!