What Is A Trust In Estate Planning?

Trust is a powerful yet often overlooked tool in managing estates. Like corporations, trust is an artificial entity formed by legal documents. It consists of four essential components: a trustee, trust property, a trust document, and identifiable beneficiaries. 

The trust document outlines operational rules, trustee powers, beneficiary entitlements, and property distribution instructions. 

While trusts offer flexibility and control over assets, the creation process can be complex. ‘Estate lawyers near me’ can guide you through the trust setup process and ensure it aligns with your wishes. But first, let’s break down what exactly a trust is. 

History of Trust and Estate Planning 

Traditionally, land was the main source of wealth, and families could manage it themselves (through marriage or inheritance rules). Trusts came about when people needed a way to protect their land while they were away. A trusted person would hold the land legally, but the benefits would go to the family.

Trusts weren’t legally binding at first, but eventually, a court system emerged to enforce them. The need for professional trust and estate planning arose as wealth became more complex.  This happened when:

  • Businesses created a lot of cash that families couldn’t manage alone.
  • Wealth moved beyond land and became harder to handle (like stocks and investments).
  • Global finance allowed people to move their money around, requiring tax and legal guidance.

Nowadays, trust and estate planners help people manage their wealth in the best way possible, considering their assets and goals.

What’s a ‘Trust’ in Estate Management?  

A trust allows a person (the settlor) to give property to someone else (the trustee) for the benefit of another person (the beneficiary or beneficiaries), with specific restrictions. The trustee manages and administers the property. While not a legal entity, a trust is treated as an individual for tax purposes. 

For a trust to be valid, it must have three certainties: 

Certainty of Intention The settlor must have the intention to establish a trust.
Certainty of Subject Matter The property included in the trust must be clearly defined.
Certainty of Object The beneficial owners of the trust must be identifiable, either by specific naming or by class (such as a person’s children).

If any of these are missing, there’s no trust. Trust documents should specify the settlor, property, trustee, and beneficiary. Trusts are sometimes irrevocable. The property can’t go back to the settlor unless stated otherwise.

Testamentary vs. Inter Vivo Trusts 

Testamentary trusts are formed after the death of an individual who is the settlor. The trustee(s) oversee the assets based on the trust’s specific provisions. This type of trust includes:

  • Graduated rate estate (GRE)
  • Lifetime benefit trust
  • Qualified disability trust (QDT)
  • Spousal or common-law partner trust

On the other hand, inter vivos trusts are created while a person is alive. They’re meant to transfer asset ownership benefits to others (the beneficiaries) while imposing restrictions on the assets through the trust’s terms. Some types of this trust include:

  • Alter ego trust
  • Deemed resident trust
  • Employee trust
  • Land Settlement trust
  • Mutual fund trust
  • Personal trust
  • Specified investment flow-through (SIFT) trust
  • Specified trust
  • Spousal or common-law partner trust
  • Tax-free savings account (TFSA) trust
  • Unit trust

Revocable vs. Irrevocable Trusts 

Revocable trusts are flexible arrangements that grantors can modify or dissolve during their lifetime. The grantor serves as the trustee and maintains ownership of the trust assets for tax purposes. 

In contrast, irrevocable trusts relinquish the grantor’s ownership rights, as they cannot be altered or controlled once established. A trustee, separate from the grantor, manages irrevocable trusts.

 

Features Revocable Trusts  Irrevocable Trusts 
Control  Grantor retains control and can change the trust at any time Grantor gives up control and cannot change or cancel the trust
Grantor as Trustee Yes No
Assets in Probate No Yes
Taxes Assets included in the grantor’s taxable estate Assets generally not included in the grantor’s taxable estate
Creditor Protection No May protect assets from creditors (if properly structured)

How to Create a Trust 

Trust is established through a ‘trust agreement.’ The person creating the trust may be called a grantor, settlor, or trustor. This document outlines how the trust properties are managed and distributed (if the creator becomes incapacitated or passes away). Beneficiaries, such as the creator, spouse, relatives, friends, or charities, are named in the agreement. 

 

Consider the following steps in making your trust: 

  1. Consult legal professionals to decide between an inter-vivos or testamentary trust.
  2. Decide how to fund the trust by transferring assets like property, vehicles, art, bank accounts, shares, etc.
  3. If needed, open accounts for the trust’s assets and transfer them accordingly.
  4. Register the trust if required by your province, with guidance from your lawyer, accountant, or notary in Canada.
  5. Expect fees for setting up the trust, including those of legal and tax advisors. 

Funding a Trust 

When creating a trust, it’s essential to transfer ownership of each asset intended for the trust from your name to the trust’s name. This step is called funding the trust. Assets held jointly, like joint tenants with rights of survivorship or tenants in common, cannot belong to the trust unless joint ownership is ended. However, other types of property, such as cash, personal items, or real estate, can be transferred into the trust.

The Attribution Rules in Trusts

The Income Tax Act (Canada) has tax rules to prevent people from lowering their taxes by giving money or property to families in lower tax brackets. This applies to transfers to spouses, kids under 18, and some other close relatives.

 

How it works:

If you give someone money or property (directly or through a trust), and the income it makes is taxed at a lower rate than yours, the tax agency may tax that income on your behalf instead.

Exceptions:

  • Capital gains from investments given to a minor child are not attributed back to you.
  • Business income earned from the transferred property is not attributed back.
  • Income that’s reinvested is not attributed back (only the initial income).
  • Money in a child’s account from inheritance, child benefits, or non-relatives is generally not attributed.
  • Attribution stops when the child turns 18 (unless you still control the money).

 

Create a Trust That Suits You Best 

Understanding trusts empowers you to decide if they fit within your estate plan. Now that you have a foundation in trust basics, you can explore how trust can benefit your specific situation. It’s advisable to talk to qualified ‘estate lawyers near me’ to discuss your goals and assets and maximize the advantages for your beneficiaries. 

 

Effective estate planning requires professional guidance. So, don’t hesitate to connect with NG Sidhu Law to secure your assets. 

 

Frequently Asked Questions

 

Why do many people create trust?

  • Control over transfers: Trusts let you give property to someone (like a child) but set rules on how they use it. You can be in charge (trustee) or pick someone you trust.
  • Waiting periods: You can delay someone getting the property until a certain age or event (like graduating college).
  • Holding assets for minors: Trusts can hold onto money or property for young children until they’re mature enough to handle it.

What’s the 21-year deemed disposition rule in trusts? 

There’s a rule in Canada that affects trusts after 21 years. Basically, the government treats the trust as if it sold everything it owns at that point. This can trigger a tax bill if the trust’s assets have gone up in value. This rule is in place to prevent people from using trusts to avoid paying capital gains tax forever. Life insurance policies (except segregated funds) are exempt from this rule.

In what way a trust is taxed? 

For tax purposes, trusts require the filing of their own tax returns and income reporting. Testamentary and inter vivos trusts are taxed at the highest personal marginal rate on any retained income, which can exceed 50% in certain provinces. 

Additional tax-reporting and disclosure obligations aim to enhance the Canada Revenue Agency’s capacity to gather trust ownership data and determine tax responsibilities for trusts and their beneficiaries.

What’s the difference between trusts and wills?

Trusts are arrangements designed to safeguard assets and dictate their management and distribution according to the owners’ wishes. Unlike wills, which come into effect upon death, trusts can be utilized both during and after the creators’ lifetimes. Wills and trusts, either individually or in conjunction, contribute to effective estate planning.

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