A new trend in trusts places the inheritor in charge of where his inheritance goes - as long as he is willing to talk to his parents or grandparents about it before they die.
The method - labeled the "inheritor's trust" - is a wayfor a client to use a trust not only to control the investment of his own inheritance, but also to protect the assets from estate and generation-skipping taxes, divorce settlements and creditors over the course of many future generations.
"Essentially, it's just like any other beneficiary-controlled dynasty trust, except that it is a stand-alone trust that is often not funded until the parent or grandparent dies," said Steven J. Oshins of Oshins & Associates in Las Vegas, Nev.
Oshins copyrighted the term "inheritor's trust" along with his father, Richard Oshins, and Noel C. Ice of Fort Worth, Texas.
As more and more people catch on to the idea, estate planners tell Lawyers Weekly USA that this technique is a good approach for long-term multi-generational planning - in part because it can allow the inheritor to take advantage of business opportunities even before the parent or grandparent's death.
Alexis Neely, an estate planning attorney in Redondo Beach, Calif., said, "Any parent or grandparent who is gifting to their child annually should be gifting to one of these trusts.Peoplehave a huge opportunity right now and should take advantage this."
Ice agreed. "It's a no-brainer," he said.
An inheritor's trust is created using a dynasty trust - which generally last forever or for hundreds of years. This way, the trust can provide benefits to many future generations.
The big difference is that for a client to direct his own inheritance, he has to be willing to speak to his parent or grandparent about it.
An attorney can assist in this process by speaking to the client, as well as his parents or grandparents and their attorneys, about the estate plan and the options.
"I really work with my clients on a case-by-case basis and talk about family dynamics," Neely said.
Setting It Up
The first thing that must be done in setting up an inheritor's trust is an "empty," irrevocable dynasty trust must be established in the inheritor's name.
In order to retain control over the trust, the inheritor is typically the trustee in control of investments. The inheritor then chooses an independent party unrelated to him - such as a close friend - as the distribution trustee, who has "absolute discretion over the distribution of principal and income," said Steve Oshins. "That is what makes the trust 100 percent asset and creditor protected.
"This is because the distribution trustee has discretion over distributions. Beneficiaries don't have any legal right to force a distribution, and thus creditors that stand in their shoes don't have a right to force a distribution," he said.
Neely, who is a partner in Martin, Neely & Associates, said it's essential to include a provision that gives the inheritor broad ability to remove and change the distribution trustee.
Estate planning attorneys must also take care to draft the trust instrument as a discretionary trust, Steve Oshins said.
"Certain creditors can pierce a support trust, whereas a discretionary trust with a non- beneficiary as the distribution trustee cannot be pierced by creditors," he said. The usual health, education, maintenance and support trust, on the other hand, could be vulnerable to some creditors, depending on the applicable state law.
Here's a look at some of the other issues involved in creating an inheritor's trust:
· Choosing the right state.
Choosing where to create the trust is important because the issue of how long a dynasty trust will exist depends on state law.
According to Steve Oshins, dynasty trusts that last forever are allowed in the following states: Alaska, Arizona, Colorado, Delaware, Idaho, Illinois, Maine, Maryland, Missouri, Nebraska, New Hampshire, New Jersey, Ohio, Rhode Island, South Dakota, Virginia and Wisconsin.
In addition, Washington, D.C. allows a similar entity called a perpetual trust, Wyoming and Utah both allow a dynasty trust to last for 1,000 years, Florida allows a dynasty trust to last for 360 years and Washington allows a dynasty trust to last for 150 years. Beginning in October, Nevada will allow a dynasty trust to last for 365 years.
These laws allow the trust to be protected for infinite numbers of future beneficiaries.
Neely said, "We establish inheritor's trusts for clients in California to start off, but we always put in a provision that says the trustee can move the trust to a different state. Whoever is the attorney at that point can make the decision to move the site of the trust to Delaware" or somewhere else that has favorable perpetuities laws.
She said this avoids paying out-of-state trustee fees when the trust is first created.
Al King of the South Dakota Trust Co. in Sioux Falls, S.D., said it's important to look at a number of different state laws when determining the venue for an inheritor's trust.
For example, "South Dakota trust law allows for a trustee to work with outside investment advisors and business interests very flexibly. You can run a business almost like one would outside of a trust," he said. In addition, under South Dakota privacy law, details about the business would be "sealed," he noted.
· Modifying the donor's will.
In addition to the creation of the empty trust to accept the inheritance, the parents' or grandparents' will or revocable trust has to be "tweaked" to indicate that the inheritor's inheritance will be directed to the trust already created on his behalf, Steve Oshins said.
"It will say, 'Not withstanding the foregoing, any assets that would be passed for the benefit of my child, John Doe, or his descendents should not be distributed as set forth above. Instead it should be distributed to the John Doe 2005 irrevocable trust to be distributed as stated therein,'" he said.
· Funding early.
A key benefit of the inheritor's trust comes from the option for a parent or grandparent to fund it before death, thus allowing the client to utilize the money to start a business.
Richard Oshins said he has several clients that have used an inheritor's trust in this way.
For example, "I have a car dealer client, whose mother set up the trust which owns the leasing company and the warranty company," he said. "I have another client who cleans carpets and drapes and he needed supplies, and he started a supply company with seed money from his parent in an inheritor's trust."
Like all inheritor's trusts, Steve Oshins said this method protects the business - and its income - from estate and generation-skipping transfer taxes, divorce settlements and creditors.
In addition to starting a business, a pre-funded inheritor's trust might own the general partnership interest in a limited partnership or the voting interest in an LLC or corporation. Steve Oshins said this could be a newly formed entity or the inheritor can recapitalize an existing business or investment.
He said an inheritor's trust could also be used as a "pseudo-marital agreement," allowing a wealthy partner to protect his assets - which never become community property and never become separate property subject to division at divorce - from a spouse.
Steve Oshins made clear that an inheritor's trust doesn't have to start with a lot of money to make it worthwhile.
"With an entrepreneurial inheritor, even a gift of $1,000 should be [placed] into an inheritor's trust," he said.
Deciding whether it's worth doing at all really involves considering the size of the inheritor's estate, whether he or she has outstanding creditor issues, the status of his or her marriage and the amount of the inheritance to justify whether it's worth paying a lawyer to set up the trust and an accountant to complete a tax return for it each year, he said.
Talking About It
At first, some clients express concerns about speaking to their parents or grandparents about how they want their inheritances directed.
However, the awkwardness of speaking about inheritance can be minimized when it's clear a parent or grandparent intends to give the client an inheritance any way.
"In my actual practice, I have rarely had any clients have any problem with this," said Steve Oshins. "This type of client generally has a lot of money, is responsible, and has a good relationship with his parents."
For these types of clients, it's especially important to have their inheritance protected from estate taxes.
"The last thing they need is the parent to leave them money outright," said Ice, who practices with Cantey & Hanger.
In cases where a client is interested in exploring the inheritor's trust but doesn't know the extent of the inheritance he or she is likely to receive, Neely said she assists in working with the family to create the most optimal multi-generational estate plan. This often means speaking with the parents or their attorneys to work out a plan together.
"We can create an inheritor's trust for the client and then send a letter to the parents asking them to leave any gift they are planning to make to that trust," she suggested. "The ideal scenario is working with clients on a multi-generational basis."
If the parents are apprehensive, talking to their attorney can often be effective, Neely said.
"You can often have a more candid conversation with the attorney, make suggestions, and find out what the parents' estate plan is," she said. "This takes a lot of the emotions out of it."
The discussion process is also easier, said Steve Oshins, if the future inheritor makes clear that he is "not asking [the parents or grandparents] to give anything extra. It's simply, 'If you are going to give me something, can you give it to me in the trust?'"
For a business or investment opportunity, "I would have no trouble asking for $5000 less inheritance to get a trust in advance," he said.
Steve Oshins noted that parents will often leave the bulk if not all of their assets to the child that has the least to begin with. However, he recommended leaving at least $5,000 or $10,000 in an inheritor's trust for the wealthier of the children to use for new business opportunities.