CHAPTER 4
Establishing Your Living Trust OR NO BETTER WAY TO GET STARTED . . . THAN TO GET STARTED
The Living Trust, as a concept, is actually easily comprehensible. As I explained in Chapter 2, it is just like an after-death power of attorney in which you authorize a live person to sign your name to documents that transfer your assets to designated beneficiaries after your death.
Although the concept of a Living Trust sounds fairly simplistic, you have to prepare yourself for the process of establishing the actual document. Before you retain the services of an attorney to prepare it for you, you must do your homework.
Yes, I said “homework”—a word that may, for you, still ring with the negative connotation of sitting down at a desk and reading, writing, and researching while you would rather be doing something else that you consider more fun. At least, that’s the first thing that comes to mind when I hear that word. Even though being an adult means having to work for a living and being slave to a mortgage, you know what compensates for that? No school tomorrow—and no homework!
But now, your Living Trust advisor is telling you to do your homework. It’s part of your Living Trust training. It’s what you need to do before you set your Living Trust in stone. And this homework involves picking the right attorney and familiarizing yourself with certain basic words and concepts that your Living Trust must contain in order for it to be a valid and effective document.
Your First Homework Assignment: Selecting Your Living Trust Attorney
There are many fine Living Trust lawyers in the area in which you live. How do you find the one that you will hire? Certainly, you can randomly select one from Internet or yellow pages listings. I encounter such left-field reasoning almost daily, such as the lady who hired me because she liked the font I used in my yellow pages ad, or the gentleman who based his decision on the fact that my last name is the same as that of his favorite pub in Ireland.
But if you want an informed opinion, ask your friends who have Living Trusts whether they would recommend their attorneys. If you have no friends, or none who have Living Trusts, then contact the trust department of the bank at which you do business and ask to speak to one of the trust officers. The trust department has officers who deal with Living Trust attorneys on a daily basis, and they will be happy to share their opinions on whom they like to deal with and why they have arrived at those opinions.
But no matter how you reach your decision, there is one universal factor of which you must be certain before you book your appointment with the chosen attorney: The first consultation must be free. Why? Because it is only during that first meeting that the lawyer learns about you, your family, and your assets, and he or she needs that information in order to determine whether you need a Living Trust and, if so, what kinds of bells and whistles it should contain. Once so informed, the lawyer can assess the amount of work that will be involved and arrive at an opinion on the fee that will be charged.
In other words, the lawyer should not charge you a fee just to tell you what the fee will be.
Furthermore, the fee should be a flat fee, not an hourly rate. The flat fee should include all meetings and conferences with the attorney. The Living Trust is a process in which the lawyer gets to know you, understand your inheritance desires, and draft a carefully constructed plan to achieve those goals. The lawyer’s function is to review those drafts with you and spend as much time as it takes to make you comfortable with the documents. This is a time-consuming process for which the ticking billing clock should not apply.
You do not want to have to look at your watch every time you speak or meet with your Living Trust attorney.
Your Second Homework Assignment: Making Sure Your Living Trust Document Contains the Bare Minimum of Requirements
In order for your Living Trust to be what you would call legal—valid, operative, and effective—your lawyer is going to toss in a morass of terms, legal jargon, and provisions that will exponentially increase its length and complexity. You may look at its girth and run screaming from the room (which I have actually experienced). In my office, the minimum number of pages is 50. I wish I could charge by the word!
Your Living Trust will contain an entire new vocabulary that you may have never before heard or encountered. As your Living Trust coach, my function is to give you some tools that can help you decipher that foreign language. Yes, this is part of your homework!
Living Trusts are a creature of state law, meaning that each state has its own set of rules (trust law) that must be followed in order for a Living Trust to be legal. However, there are six declarations that are so basic and essential to the validity and effectiveness of a Living Trust that they must be incorporated into every Living Trust made in the United States.
These are the “Six Greatest Hits of the Living Trust.”
Declaration That the Living Trust Is Your Trust
The first section is the Declaration of Trust, often called the Introduction. This is the second most important part of the document, because this is where you declare that you are establishing your Living Trust. As obvious as that is, if you don’t declare your intention to establish your Living Trust, you have not established a trust, even if your Living Trust has all of the other components.
Declaration That You Have Transferred Your Assets to the Living Trust
A Living Trust is not valid unless you transfer assets to it—even though those assets can be as little as a single dollar. Therefore, there has to be a provision that says that you “hereby transfer” your assets to it. Think of your Living Trust as a bucket in which you deposit your house, bank and brokerage accounts, personal property, and all else that you own.
Does your Living Trust have to describe every asset that you are delivering to the bucket? No. There should be a provision that states, in effect, that all assets described in an attachment to the Living Trust, which I call Exhibit A, are transferred to the Living Trust. This attachment (Exhibit A) is a catchall that functions as a general assignment of everything you own, and assets that you accumulate in the future, into the bucket.
But this Exhibit A is not the be-all and end-all. You still need to physically retitle all of your substantial assets to the bucket. This requires a deed to your house, a visit to your bank and brokerage representatives to open new accounts, and preparation of assignments of your shares and interests in your partnerships, corporations, and limited liability companies. You are required to make these efforts to ensure that your substantial assets are in the bucket, because the Living Trust is operative only to the extent of its assets.
What happens if you forget to put a bank or brokerage account into the bucket and then you die? If the account is held jointly between you and another person who outlives you, that person will receive the entire account. That would not be a problem—unless the surviving joint tenant is someone you do not want to receive the entire asset.
If the account has an already-designated beneficiary who takes that account automatically on your death, such as an individual retirement account (IRA), a 401(k), or a “pay over on death” account, that beneficiary automatically becomes the owner of that account.
However, if the account is in your individual name, and you forgot to put that account into the bucket, then you, or actually your heirs, have a bit of a dilemma. That account needs to be part of the bucket in order for it to be subject to your Living Trust’s inheritance instructions. But it is not in the bucket, and it is left swinging in the breeze . . . directionless and alone.
But wait! We lawyers have already anticipated the possibility that you could die with an asset that is not in your Living Trust. When you sign your Living Trust, you will also sign a will. It is not the typical will that contains your inheritance instructions—those are already in your Living Trust. Rather, your will has only one inheritance instruction, which is this: Any asset in your individual name at your death that is not part of your Living Trust shall be added to your Living Trust.
In legal parlance, this document is called a pour-over will, because it pours assets that are out of the bucket . . . into the bucket. Personally, I prefer the moniker my father bestowed on this document: the “I forgot will”—as in “I forgot to put this asset into my bucket during my lifetime, so I leave it to my bucket after my death.”
If you and I do our jobs correctly and place all of your individual assets into the bucket, your “I forgot will” will never be used. In my 20 years of practice, I have had to resort to the “I forgot will” only three times. On each of those occasions, a client transferred real estate out of the bucket as required by a lender for refinancing purposes, but forgot to put it back. When each of those clients died, the “I forgot will” put the properties back into the Living Trust. But, as with any after-death transfer of property with a will, the properties had to go through probate.
Very ironic. The clients paid me large amounts to set up Living Trusts so their houses could avoid probate, but their houses wound up in probate anyway because of the inadvertent failure to put the houses back into the bucket.
Don’t let this happen to you. If you refinance your property and your lender forces you to take it out of the bucket as a loan requirement, make a mental note that it needs to be put back into the bucket after the property has been successfully refinanced. As incongruous as it may seem, you are perfectly within your rights as a property owner to transfer your property back to your Living Trust after you have refinanced it.
With regard to the transfer of your personal property to the bucket, you don’t have to be so concerned. In Exhibit A, there will be a provision that states, in essence, that all of your personal property, such as your furniture, clothes, jewelry, antiques, coin and stamp collections, safes, automobiles, silverware, pictures, and photographs, are declared to be in your Living Trust. You do not have to face the arduous and difficult task of affixing “Living Trust” labels on everything inside your house. Exhibit A does that for you. You may now breathe a sigh of relief.
Declaration That You Are the Owner and Manager of the Living Trust Assets
Your Living Trust will refer to you as the “settlor” or “trustor” or “grantor.” You will see a thousand repetitions of the chosen word throughout the document. Whenever you see that word, substitute the word owner in your mind. Why? Because you are the owner of all the assets in the Living Trust. The assets in the bucket belong to you.
You own them. You receive the income from them. You get to spend them on anything you want. You get to dip into the principal for any purpose you desire. Enjoy!
Your Living Trust will also contain thousands of references to the word trustee. This is also you, but in a different capacity.
The word trustee means manager. This means you are the manager of the assets in the Living Trust. You manage them. You wheel and deal with them. You can invest however you desire. You can choose not to invest at all. You do as you please with the assets, just as if you did not have a Living Trust at all. Sell them. Refinance them. Exchange them. Insure them. Give them away to whomever you want. Burn them. Throw them into the street.
Of course, you are not going to treat your assets so randomly and wastefully, but I wanted to make sure you got the point. With you as the owner and manager of the Living Trust assets, do you have any less right to the assets than if they were out of the Living Trust? Is there any diminishment to your ownership interest in the assets now that they are in your Living Trust? To both questions, the answer is . . . nope! Think of it this way: You are the Living Trust, and the Living Trust is you.
Declaration of Your Powers as Manager
As the trustee, or the manager, of your Living Trust, you have the complete and absolute power and authority to wheel and deal with the Living Trust assets as you please with no restrictions. But in order to have that freedom, you have to include a recitation of all of those powers. As a result, your Living Trust will contain many pages that dutifully list and describe every power that an owner and manager of assets—any assets—could exercise over those assets.
Most likely, you will not engage in 90 percent of the powers enumerated. For example, are you really going to exercise your power to “redeem at less than par obligations of the United States of America that are redeemable at par in payment of any estate tax liability”? Do you even own any of these types of obligations (called “flower bonds”)? For all practical purposes, you are mainly focused on the one paragraph that gives you the power to “manage, control, grant options on, sell, convey, exchange, partition, divide, improve, and repair assets of the trust estate,” which about covers all you probably are ever going to do. However, since none of us wants to accidentally foreclose you from performing or engaging in any activity with your Living Trust assets, no matter how obscure or unlikely it is, your Living Trust lists every power under the sun.
Therefore, your Living Trust will include many pages that empower you to engage in activities with your Living Trust assets that you probably will never consider, because of the infinitesimal chance that someday you might need that authorization. We lawyers call this “covering our rear ends.”
Declaration of Who Takes Over as Your Successor Trustee If You Die or Become Incapacitated
The probate-avoidance aspect of the Living Trust is predicated upon appointment of the person who will take charge of the Living Trust assets after your death and distribute them to your beneficiaries. As mentioned earlier, this person is your after-death agent, who is referred to in the Living Trust document as your successor trustee.
Your successor trustee is called a successor trustee because that person succeeds you as trustee when you are no longer able to serve as trustee. Death is the most common trigger of the successor trustee provisions.
However, you may also become incapable of serving if you become incapacitated—whether mentally, physically, or both—to the extent that you can no longer manage your financial affairs. The determination of whether you are incapacitated to that point is governed by the successor trustee provisions in the Living Trust. For example, if I drafted your Living Trust, I would provide that you are capable of managing the Living Trust assets unless two licensed physicians who are not related to each other or to any of member of your family prepare written opinions on their letterheads stating that you are not capable of managing your Living Trust assets—not exactly a casually made decision.
If you are deemed to be incapacitated, the successor trustee takes over during your life to manage the Living Trust assets for your benefit, and only for your benefit. This does not mean your successor trustee can take your assets for a great time in Las Vegas. It does not mean that your successor trustee can distribute the assets to the persons who are named in the Living Trust as your beneficiaries. Quite the contrary—your successor trustee cannot do anything with the Living Trust assets unless the activities are for your benefit.
Who determines what activities are for your benefit? The successor trustee—the same person who is in charge of your Living Trust assets if you become incapacitated. Thus, the selection of the person you appoint as successor trustee who takes over upon your incapacity is critical. If you choose wisely, that person will take all steps necessary to ensure that your Living Trust assets are used for your benefit—your food, medical bills, health care, house payments, utilities, transportation, and all other matters that are necessary to tend to your day-to-day needs. However, if you make the wrong selection, it is fox-in-the-henhouse time, with your successor trustee taking the position that it benefits you that your Living Trust assets are used to furnish him or her with lovely meals at the most fabulous restaurants in town.
In any event, using your Living Trust assets for your benefit will require the successor trustee to collect income generated by your Living Trust assets, deposit the income in your Living Trust bank accounts, and write checks against those accounts for your health, support, care, comfort, welfare, and maintenance. If the bucket consists of more complex assets (e.g., partnerships, businesses, shares of closely held corporations), the management tasks attended to by the successor trustee will be more intricate and involved.
As you can see, the office of the successor trustee is filled with importance and responsibility. During your incapacity, that person is legally responsible for your financial well-being and ensuring that your most basic needs are met and paid for. After your death, that person is legally obligated to faithfully carry out your inheritance instructions as you set them forth in your Living Trust, and to make sure the assets are preserved and productive from the date of your death to the time they are distributed to the beneficiaries.
Notice I mentioned, and italicized, the word legally twice, before the words responsible and obligated. I do so because I want to impress upon you that your successor trustee has a legally charged duty to manage and distribute the Living Trust in accordance with its instructions. Perhaps that gives you a sense of confidence that your successor trustee will—in fact, must—do a good job . . . until I remind you that people break laws all the time.
During your incapacity, will your successor trustee skip town with your Living Trust assets? Perhaps she believes that a lovely trip on a Disney cruise ship with the children on your dime is just the pause that refreshes and reenergizes her efforts as your successor trustee.
During your incapacity, will your successor trustee manage the assets more for his benefit than yours? Perhaps your Successor Trustee believes that a brand-new car—paid for with your money—is just what is needed to schlep you to your doctors. After all, he thinks, he will not allow you to be seen being driven around town in your old junk heap.
Does your Living Trust leave a percentage of assets to your successor trustee after your death? If so, then your successor trustee realizes that the less spent on you leaves more for her. With that in mind, will your successor trustee spend any amount necessary to get you the best health care around, or will she dump you into that nursing home that was profiled on 60 Minutes?
Does your successor trustee have any asset investment or management experience? If not, will your well-intentioned successor trustee inadvertently mismanage your Living Trust assets into the ground?
After your death, will your successor trustee distribute the Living Trust assets in accordance with your inheritance instructions? Perhaps you left some money to your favorite charity. But, he thinks, your wish is not his wish.
These are not just what-if scenarios that exist only in conjecture. I have seen variations of these abuses throughout my practice, and I impart them to you as cautionary tales. Indeed, you can have the most expensive Living Trust in the world or a supercheap one written on a cocktail napkin. However, they are both created equal in that their success or failure is dependent on the fidelity and skill of the person you appoint as your successor trustee.
I discuss this issue in more depth in the upcoming chapters.
Declaration of Your Inheritance Instructions
This is the most important aspect of your Living Trust. I describe this part to my clients as the “meat and potatoes” section. These are your last words to those who survive you. These are your inheritance instructions, and the last lesson you will ever give to your children. But, if that lesson goes sour, so too will your children’s memory of you.
Are these the words of a cynical and jaded attorney who needs a vacation? Yes, they are. But they are true nevertheless. The subject of preserving family relationships in the inheritance arena is extraordinarily broad and covers every conceivable family inheritance problem that may arise when people die and the family wealth is divided.
The declaration of your inheritance instructions—when your beneficiaries get their inheritance, where they get it, and how they get it—and the innumerable factors, circumstances, and considerations you must take into account before deciding upon that declaration are discussed at length in the Fourth Quarter of this book, which covers the distribution of your Living Trust assets after the deaths of both you and your spouse.
But for now, it is sufficient to point out that it is a major part of your homework—and the function of your Living Trust attorney—to recognize potential inheritance problems and conflicts that could befall your family, and arrive at solutions so that your plan does no harm to your survivors, and does not result in mismanagement and the diversion of your Living Trust assets from your bloodline. The cautionary tales of Living Trusts gone bad because of ill-conceived and uninformed inheritance declarations and instructions are beyond commonplace, and the training you receive and the lessons you learn in the Fourth Quarter of this book will help you prevent your Living Trust from becoming yet another tale of woe.
After You Have Finished Your Homework
Okay. In this chapter, you learned how to select your Living Trust attorney, and you have become cognizant of the basic requirement that your Living Trust has to possess the six declarations in order to be valid and effective.
Great. Your next assignment is to select the person who can make or break the success of your Living Trust. This is the successor trustee who will serve as your Living Trust’s lifetime agent if you become incapacitated, and who becomes your Living Trust’s after-death agent who will carry out your Living Trust’s inheritance instructions.
These topics are covered in the next two chapters.