Wills vs Trusts: Which is best for your estate plan?

A will is a legal document that provides instructions on transferring property to beneficiaries after the death of the person that made the will (“testator”). Trusts are legal entities that can protect assets and direct their use both before and after death, and are managed by a trustee, which may also be the person that made the trust (“grantor”). Though they serve similar purposes, they function differently and can offer distinct advantages and disadvantages.

A will becomes active when a person passes away, but trusts can be active both during life and after the death of the grantor. Both wills and trusts can be part of a comprehensive estate plan, and they can be used both separately and together, depending on the needs of the grantor.

What is a Will?

A will directs how assets are transferred to beneficiaries after death. It provides survivors with general instruction on closing the estate and decreases the possibility of disputes among heirs. A will may also direct the appointment of an executor of the will, guardians for children under 18, or funeral arrangement wishes. Wills can include specific bequests, such as leaving a family heirloom or gift to a particular individual.

A will must be signed and witnessed as required by state law. After the testator is deceased, the will is filed with a local probate court, and the instructions carried out by the designated executor. Wills are private while the testator is alive but become publicly available in the records of the probate court that oversees its execution.

If a person were to pass away without a will, they become subject to their state’s intestacy laws. Intestacy increases probate court processing time and legal fees that could be avoided with a comprehensive estate plan. A probate court will typically appoint an administrator to manage the estate and distribution of assets.

Wills also commonly direct the executor to create a testamentary trust to hold assets until for the benefit of certain people, typically minors or disabled individuals that might have restrictions on the distribution of assets.

What is a Trust?

Trusts are legal structures that provide instruction for the transfer of assets from their owner (“grantor”) to beneficiaries as facilitated by a future trustee that becomes in charge of implementing the wishes of the grantor. Trusts define how the assets are managed, transfers and restrictions for designated beneficiaries, and the ultimate disposition of the assets. The trustee has a fiduciary obligation to implement the wishes of the grantor and make sure the trust assets are managed in the best interests of the beneficiaries.

Unlike wills, trusts can become active during the grantor’s lifetime (living trusts) or after their death (testamentary trusts). Living trusts created during the grantor's lifetime allow for the transfer of assets to beneficiaries without the cost of probate. In addition, trusts are private and allow for the transfer of assets without publicly filed documents in probate court. Trust transfers enable grantors to keep their privacy concerning the nature and value of their assets, which is particularly important for family businesses and real estate not associated with their owners.

Types of Trusts

Revocable Living Trust: Revocable trusts can be changed or terminated during the grantor’s lifetime. The trust document can also name a successor trustee to take over upon the grantor’s death or disability. Assets in a revocable trust pass outside of probate but are included in the grantor’s taxable estate. Assets in a living trust are effectively owned by the grantors until they are deceased.

Irrevocable Trust: Grantors give up their ownership rights to assets when they transfer them to an irrevocable trust, which may provide them with substantial tax savings. Irrevocable trusts are managed by a successor trustee, and the income from the trust is outside the grantor’s estate. An irrevocable trust can protect assets from creditors, but they are essentially “lost” by the grantor as they given to another entity.

Testamentary Trust: Testators provide instruction to create a testamentary trust in their will and it takes effect upon their death. It is often used to manage assets for minor beneficiaries.

Special Needs Trust: A special needs trust is a structure that allows individuals with disabilities to receive financial support from the trust for certain purposes without losing their eligibility for federal and state public assistance programs.

Charitable Trust: Charitable trusts are irrevocable and established to benefit a charitable organization while potentially providing some income back to the grantor or beneficiaries. For example, a charitable remainder trust is an irrevocable trust that provides income to the grantor or beneficiaries for a certain term (or for life), with the remainder going to the charity at the end of the term. This also provides a tax deduction based on the valuation of the contributed assets.

Do you need both a will and trust?

Creating a trust to avoid probate may not be beneficial and could be more expensive than it's worth if the value of an estate is limited. Many retirement accounts (IRA’s, 401k’s etc.) and “payable on death” bank accounts will transfer assets directly to heirs and bypass probate automatically. Married couples that own property jointly have rights of survivorship that will facilitate easy transfer if one spouse were to pass away. However, trusts provide substantial privacy, allow physical property to bypass probate in the event spouses were to pass away at the same time, and allow cash and other property to “pour over” into the trust so those assets also bypass probate. At Arrow, we generally recommend a trust for clients that own property, feel strongly about limiting probate costs for heirs, and have substantial cash outside payable on death accounts. It’s important to note that assets in a trust do not avoid creditors unless the grantor has given up control and placed them outside the estate in an irrevocable trust. I’ve often found that people want to use revocable living trusts to “hide” assets, which is not a viable option for most estate plans.