Do you ever worry about how your beneficiaries will manage their portion of their inheritance when you pass away? We all love our children, but there's often one in the bunch who just can't manage his or her money, and leaving that person a large sum could be a disaster. One solution that allows you to still exert some control over your money (from the great beyond) is the revocable living trust (RLT). An RLT can be used as a substitute for a will by providing for the distribution of assets upon the grantor's death. This allows for a faster and less costly method of asset transfer than a will, which requires court supervision or probate. In this article, we explain RLTs and give you the information you need to decide whether this arrangement is right for you.

Understanding Trusts
The revocable living trust is an arrangement by which you transfer ownership of your property into a trust throughout the course of your lifetime. To fully understand how a trust operates, let's take a look at the four main components:

  1. Grantor - the creator of the trust
  2. Trustee - the person or entity that distributes and manages the trust property according to the trust documents
  3. Trust Assets - property transferred into the trust
  4. Beneficiaries - those who receive the benefits of the trust

Once you understand the primary mechanisms that make up a trust, you'll need to be aware of the different types of trusts. Trusts can be designed for many different financial and personal situations. The seven most common trusts are credit shelter trusts (CST), incentive trusts, living trusts, generation-skipping trusts, QTIP trusts, charitable remainder trusts and irrevocable life insurance trusts. However, because many of these trusts can be quite complicated, this article will only focus on RLTs.

Establishing the Living Trust
Unlike a will, which comes into play only after you die, the living trust can start benefiting you while you are still alive. The trust is revocable in nature, which allows you to make changes to fit your personal situation.

The revocable living trust is established by a written agreement or declaration that appoints a trustee to manage and administer the property of the grantor. As long as you're a competent adult, you can establish an RLT. In essence, the trust is like a rulebook for how your assets are to be handled when you die. As the grantor, or creator of the trust, you can name any competent adult as your trustee; some people prefer to choose a bank or a trust company to fill this role.

Advantages of the Living Trust
Let's look at some of the advantages of having a revocable living trust in place:

  • Avoidance of Probate - Probate is the legal process for transferring your property when you die. Establishing an RLT can be especially useful in avoiding expensive multiple probate proceedings when you own real estate or other property in several states. Assets named in trust avoid the costly courts and typically take precedence over the property designated in your will. (For more on this, see Skipping-Out On Probate Costs.)
  • Changeable or Revocable - The living trust allows you to make changes (or amendments) to the trust document while you are still alive.
  • Eliminate Challenges to the Estate - The standard will can create family disputes at your death and be challenged for alteration by any member of your family. By using a trust, you can specifically disinherit anyone who posts a challenge to your wishes upon your death. (To read more, see Who Is The Beneficiary Of Your Account?)
  • Segregation of Assets - This is useful for married couples with substantial separate property that was acquired prior to the marriage. The trust can help segregate those assets from their community property assets. (See The Benefits Of Having A Spouse.)
  • Assignment of Durable Power of Attorney/Guardianship - A living trust can be used to help control a guardian's spending habits for the benefit of your minor children. It can also authorize another person to act on your behalf if you become incapacitated and need someone else to make medical decisions for you. (For more, check out Three Documents You Shouldn't Do Without and The Importance Of Estate And Contingency Planning.)
  • Continuous Management - This allows the wealth that you've accumulated to continue to grow for multiple generations by using a professional trustee to manage your property. You can limit the amount of withdrawals to income only, with special emergency provisions if you wish.
  • Estate Tax Minimization - While the RLT is not a good tax minimization tool on its own, provisions can be included in the trust documentation to transfer wealth by establishing a credit shelter trust in the event of your death. The CST is a very effective tool to help reduce estate taxes for large estates that exceed the combined estate tax exclusion amounts. (To learn more, read Getting Started On Your Estate Plan and Shifting Life Insurance Ownership.)

While there are many advantages to establishing a revocable living trust, there also some drawbacks that should be addressed:

  • Maintaining Trust Books and Records - You should consider the added inconvenience of making sure that future assets are continuously registered to the trust and providing other professionals with access to the trust documents to review trustee powers and duties.
  • Re-titling of Property - Once the trust is established, property must be re-titled in the name of the trust. This requires additional time, and sometimes fees apply to processing title changes.
  • Expense of Planning - While the standard will document might cost you under $100, you should expect to pay significantly more to have a lawyer draft your trust. Costs can run as high as $2,000 or more, depending on the complexity of your situation.
  • Minimal Asset Protection - Contrary to popular belief, revocable living trusts offer very little asset protection if you retain an ownership interest such as naming yourself as trustee.
  • Administrative Expenses - Expect to contend with additional professional fees such as investment advisory and trustee fees if you appoint a bank or trust company as the trustee.
  • Unpredicted Problems - Hassles such as problems with title insurance, Subchapter S stock and real estate in other countries can create a whole host of new issues. More problems can crop up if you fail to adequately educate your spouse on the terms and purpose of the trust.

The Bottom Line
The revocable living trust is a strategy that may work for some, but it won't be the perfect tool for everyone. Many financial advisors recommend also drafting a will to ensure that any assets not captured by the RLT are transferred into the trust upon the grantor's death. This is commonly known as a pour-over will. While there is no perfect solution to every transfer or estate situation, your plan should outline your unique financial objectives and personal values. What works for someone else, even a close family member, may not be the most appropriate plan for you.

Investopedia makes you smarter.