Why I am Not A Big Proponent of Revocable Living Trusts

As I have mentioned before that in addition to my day job, and this blog I operate a very small law practice. In both my law practice and day job Revocable Living Trusts come up often, however, I am not a particularly big proponent of using them for one specific reason discussed below.

What is a Revocable Living Trust?

A Revocable Living Trust is a trust with rules for distribution of assets it owns both during the life of the grantor (person creating the trust) and at death of the grantor.  It is usually accompanied by a “pour over will” which is merely a Last Will and Testament that directs all assets to the trust.

Why Use a Revocable Living Trust? The Benefits

Despite my distaste an RLT has a lot of benefits:

Private

A Last Will and Testament is a public document once it is filed for probate.  If properly prepared The Court and/or the County Clerk never sees the Revocable Living Trust and thus it is not public record.  This is the reason why there are some celebrity wills/distribution schedule that are released and some are not.

May Handle Long Term Care Issues without Court Interference

Well drafted RLTs have clauses which will actually boot the Grantor (person creating the trust) as Trustee (person who runs the show) and put in place a subsequent Trustee if that Grantor-Creator is deemed incompetent.

Sometimes this is done with everyone on the same side and dad knows he can handle the banking anymore…other times not so much and that is when The Court or a Doctor has to interfere.

May Avoid Probate

Almost 100% of the time the main reason these items are glorified by attorneys/financial professionals has to do with avoiding probate.  As defined by Wikipedia probate is,

the legal process of administering the estate of a deceased person by resolving all claims and distributing the deceased person’s property under the valid will. A surrogate court decides the validity of a testator’s will. A probate interprets the instructions of the deceased, decides the executor as the personal representative of the estate, and adjudicates the interests of heirs and other parties who may have claims against the estate.

Probate can be, but not always is, costly and time consuming, so avoiding it could be a fantastic goal.  Since the assets are supposed to be owned by the Trust then there is nothing in the decedent’s estate.

It should be noted that not all assets are probatable assets.  Assets owned with a payable on death beneficiary or owned joint with rights of survivorship are two types.  So if a couple owns a home Joint Tenets (or in some jurisdictions Tenancy by the Entirety for married couples) then upon the first death the home goes to the survivor automatically with no probate, but upon the second death there would be probate.

As stated earlier The Trust directs the assets after the decedent’s death.

Why I Dislike Using Revocable Living Trusts

There are two reasons why I dislike using RLTs, one major and one minor.  The very minor reason is that people assume that their estate plan is bullet proof after they have one drafted and executed.

A Revocable Living Trust does not automatically account for Federal or State Estate Taxes.  Read that again.  Your distribution schedule whether they are laid out in a Last Will and Testament or a Revocable Living Trust determine your estate taxes.   Anyone that tells you otherwise has no idea what they are talking about.

That may just be a misunderstanding so I can let that one go; the major problem I have is that Revocable Living Trusts are rarely “funded.”

Remember how I said may avoid probate…well not all Revocable Living Trusts will avoid probate.  Only those RLTs which are fully funded will avoid probate.  Fully funded means that the decedent has absolutely no assets that would pass through probate.

Who renames all their assets at the age of 45? Sure, maybe you do your house, but what about all your non-qualified investment accounts, your checking account, YOUR BUSINESS, etc.

Those assets not owned by the Revocable Living Trust will be subject to probate.  So when I see a RLT and nothing has been put INTO the RLT then it is the equivalent of having just a regular Last Will and Testament for death purposes.

Revocable Living Trusts often provide a false sense of security when most of the time they are just an empty dormant trust document waiting to be filled at death which means you receive almost none of the benefits.

Do You have a Revocable Living Trust? Is it Funded?

34 Responses to Why I am Not A Big Proponent of Revocable Living Trusts

  1. I like them, but I always make sure my clients fund them if they have one. And it’s exactly for the reason you stated – if you don’t fund an RLT, it’s essentially useless.

      • It seems to depend on the attorney they used to set them up and how good the clients are at following up on tasks.

        But you’re right – too many people who have them never take the time to properly transfer titles and ownership to the trust.

  2. Hi Evan,

    This caught my eye this morning. In one of my CPE books about the top 50 Estate planning mistakes, it is literally Number 1 !!

    -Joe

  3. Oh and I had never read your profile until now. Sounds identical to myself except I went CPA route you went JD. Pretty cool.

  4. I have one, and it’s partly funded. Like you said, we have the house, and the rental property in there, but not our bank accounts. thanks for the kick in the pants.

  5. Why set up a revocable living trust in the first place? Your assets will still be counted within your gross estate. So you may avoid probate but you will still pay in the end. Since you dislike revocable living trusts what do you recommend in their place?

    • There are many good reasons to use a revocable living trust. Evan mentioned how it makes it easier to deal with long term care, disability, and mental impairment issues (transfer of control to a new trustee is much easier than typical solutions). He also mentioned avoiding probate and the protection of privacy. Add to that the flexibility you can have in distributions and it’s a powerful tool.

      I think Evan’s point is that just like any tool a revocable living trust needs to be used properly – otherwise it’s useless or even dangerous (assuming your plan is in place when it is not).

      A testamentary trust is a possible alternative but you don’t get the privacy or avoidance of probate. I prefer to use revocable living trusts if they’re properly funded. (But listen to whatever Evan says because I’m not a lawyer…just a financial planner.)

      • Well, you hit the nail on the head.. RLTs work well when funded properly and do the same thing as the a testamentary trust (in relative comparison), but don’t do so without the will / probate. Don’t worry about the title, you know what you know :)

    • Standard Disclaimer: Nothing I am saying here is legal advice, just one man’s opinion.

      I have used them in 2 cases:
      1) To Avoid Ancillary Probate – Even if you have a 40 year old, you can avoid probate in a different state using a properly funded RLT. So you would have the out of state property owned by the RLT.

      2) A much older client who is willing to put most if not all of the assets into the Trust.

      I am not sure I understand what you mean in their place? I would use a properly drafted Last Will and Testament if I/the client wasn’t going to fund the RLT.

      • Let’s use your 40 year old as an example. Because the grantor retains an interest in a revocable trust, the full fair market value of the assets is included in his gross estate.

        The revocable trust will give probate avoidance, privacy, possibly discourage will contests but you still will get hammered on estate taxes. Meaning the revocable trusts is probate efficient but not tax efficient. why not recommend the Family limited Partnership and and take advantage of the various valuation discounts to transfer value at a lower gift tax cost? My question was to ask for a possible alternative to the revocable living trust since you specified that “you are not a big proponent of revocable living trusts”

        • Dom, there are some severe limitations to FLPs that RLTs don’t have. Plus, RLTs aren’t about avoiding estate taxes (beyond properly utilizing available exemption amounts). That’s not a problem for most people (at least right now).

          In working with over 200 clients, I’ve only seen situations where FLPs make sense once or twice (and over half of those clients were high net worth $2M-40M). FLPs aren’t the end all be all solution just as RLTs aren’t either.

        • Ah, that is clearer…kind of.

          As stated by you and I the Revocable Living Trust does absolutely nothing for Estate Taxes.

          I can’t just offer you an alternative without multiple meetings to really understand the client (not that you or I are looking to work together – Hell I am anonymous on here lol).

          Maybe he or she needs an:
          FLP
          IDIT
          GRAT
          QPRT
          QPRT with split interest
          ILIT
          ILIT with a SLAT
          SCIN
          GRAT-SCIN
          IDIT-ILIT (This was a fun case to work on)

          I can go on and on the worst thing someone can do as a financial planner or estate planner is have only a hammer because then everything starts to look like a nail.

          • Exactly, Evan – there are many options out there. The best approach is to be aware of all and use them as appropriate for the situation.

          • So basically the answer is it depends on the circumstance of the individual. Aside from the basic documents (Last will and testament, financial/medical power of attorney, living will) it simply comes down to the specifics of the situation and the amount of assets one has. I can live with that. Thanks for the replies

            • My Pleasure! The fact that I found ANYONE outside of my office to talk about Estate Planning with excites me.

              I will do more posts like these – I did a ton more when I first started but I didn’t get a good response.

              • Who wouldn’t want to talk about estate planning. Estate planning is just as important as having goals and a spending plan in my opinion. People work so hard to make their money they forget to protect it. silly rabbits!

              • Haha, Dom most people find estate planning kind of morbid. I think the only people who enjoy talking about it are attorneys, financial planners, and tax professionals… :)

  6. good point. i do have one which owns all my properties and majority investment accounts. other accounts have a paid to on death arrangement.

    what do you recommend clients do as far as retirement accounts are concerned (401k, Roth IRA, etc?)

    i do not have my businesses under the trust other than the LLCs that own the properties. what do you recommend for folks with full or part time side businesses?

    • 401k, Roth, IRA and etc transfer at death by contract. The beneficiary receives theses funds upon the death of the principal. So the main thing to do here is to make sure your beneficiary’s are updated to reflect who you want to receive the funds.

  7. We don’t have one yet, we thought we would get into more rigorous estate planning after we buy a house. Because right now we don’t have much assets outside of retirement to pass down. We will make sure to fully fund it when we do form one.

  8. Mainly for avoiding the probate process and to have a bit of privacy. Probate’s are public, often time consuming and possibly costly.

  9. Evan,

    Your post has me thinking! Can you help me figure this out?

    If a grantor creates a revocable trusts I understand it becomes irrevocable upon death. But, what happens to the trust assets after that point if the trust beneficiary dies 2 years afterwards.

    Example. The 40 year old (bob) has a Son (Bob Jr) and 3 grandchildren (Bob Jr Kids). Bob creates a revocable trust and names Bob Jr as the beneficiary of the trust. Bob passes away. Bob Jr passes away 2 years later. Are the assets included in the gross estate of Bob Jr? Does Bob Jr’s children get trust benefits and access to the trust assets?

    • It is document dependent. Did Bob Jr., have a General Power of Appointment? or did the Revocable turned Irrevocable since the Grantor is dead actually distribute the assets to Bob Jr?

      So….a lot of these are written to say Everything to my children but if they are under 21 then in a trust for their benefit (some may substitute 35, 65 or never). Lets use the 21, is Bob Jr 22 when Dad dies? If so then his share is outright and in his estate.

      If the trust was written to say Bob Jr only gets income and never gets full use of principal (rare) then nothing other than that year’s income would be included in his estate and assets would continue on the otherside of the tax fence (GSTT might be owed but that is a whole other issue) until that state’s rule against perpetuities kicked in.

      Wow a mouthful huh? In the end the answer is – depends on the actual document lol

      • So what can be done to ensure the trust will last for multiple generations all while preventing any property from being included in the beneficiary’s gross estate? (if possible)

        • I think I got it. Ok so Bob needs to create a Trust with someone other than a beneficiary as the trustee (Evan). Since Evan holds legal title to the property. Bob Jr or Bob Jr’s kids will not have to include such property within their gross estate upon death. But, they get full use of the assets. What will be included in their gross estate is any income they took from the trust while alive. Am I right?????

        • Its called a Dynasty Trust. You don’t ever distribute principal nor do you provide for set principal distributions for the second generation (i.e. don’t use an age).

          I have only seen this used when the second generation (Bob) is already in that 20 to 30million dollar range of net worth. VERY RARE.

          If you are doing it for estate tax purposes – you need 2 or 3 generations that are alive and all wealthy. We are talking about 0.0001% of the population probably.

          The document will often say something along the lines of no principal distributions until the trust violates the rule against perpetuities of my particular state.

          Read: http://en.wikipedia.org/wiki/Rule_against_perpetuities

          Some states do not have a corresponding law – Delaware, Alaska, and a few in the midwest I think.

          Anything is possible it is whether it is a good idea. If you have a client worth 20mil but their son is worth zero…he will need some of that inheritance to live – why would you lock up the principal?

          • Dom,

            I can’t stress this enough…Seek competent Legal Counsel. You should not and CAN NOT draft ANYTHING FOR ANYONE.

            The situation you are talking about is not some shitty document from LegalZoom. We are talking about something with SEVERE implications at a tax rate and a tax amount that would make most people want to vomit.

            As my disclaimer says: I am not offering any legal advice here just talking about my feelings.

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