A living trust is a legal arrangement whereby a trustor or settlor transfers property to a trust, which is managed by a trustee, for the benefit of the beneficiaries.
This is a definition that gives us a glimpse into what comprises a living trust, but it doesn’t really give us a simple, coherent answer to what a living trust is.
If you are currently looking at the process of creating a living trust in California, then you must already be familiar with its definition. The question of what it is for is actually best answered in the process of how it is created. This is because one of the first things you have to do when creating a living trust is to define what it is for.
Defining Objectives
Why do you want to create a living trust?
The reasons people create a trust are varied, and really depends on your personal and financial circumstances. Some of the most common reasons people create a living trust include:
- Avoiding probate
- Planning for incapacity
- Tax planning strategies
- Protecting the interests of beneficiaries who are minors or who are financially inexperienced
- Simplifying real estate transfers
- Continuity in business management
Choosing the Trustee
Closely aligned with the objectives for the trust is the selection of your fiduciary. Who do you trust to carry out your defined objectives?
Typically, the settlor also serves as the trustee of the trust, at least initially. But part of the terms of the trust usually involves a selection of the successor trustee or trustees. These are the persons who will be taking over the management of the trust if the original trustee (in this case, the settlor or grantor) either steps down as trustee or becomes unable to do so. And since we are talking about incapacity planning and avoidance of probate, the objective is to have someone take over the management of the trust should the settlor become incapacitated or later on passes away.
Being a fiduciary, the trustee occupies a position of trust, so the reliability and trustworthiness of the successor trustee is an important factor. But it is by no means the only factor.
Most people select family members simply because they are family. But consider, for a moment, the goal or the objective for which the trust was created. If you want someone to manage properties or a business, to take responsibility for the care of a minor beneficiary, or to distribute properties to selected beneficiaries after you pass away, the trustee’s skills and experience must also be factored in.
Are they organized? Are they financially savvy? Are they familiar with legal jargon and can handle complicated transactions? Can they take care of financial accounts and reporting?
But perhaps most importantly, is this a responsibility they are willing and able to perform? Most grantors do have a sit down with the nominated successor trustee beforehand to ascertain their capability and willingness to serve as trustee. If they are, wonderful. If they are not, even if they are capable, it is probably best to select another person willing and able to serve as trustee.
Funding the Trust
This is where a lot of people commonly make a mistake when it comes to the creation of a living trust.
A trust is created upon the preparation and execution of the trust documents. But most grantors often neglect to later on fund the trust. That is, they fail to transfer their properties to the trust.
So even during the planning stages, it is a good idea to take stock of your properties and determine which ones are free and clear for transfer to the trust.
Are the documentation for these properties complete? Are you the sole owner of these properties? Or are they commingled with the interests of other persons – are they community property or owned jointly with another? Make sure you have consulted with an estate planning attorney regarding the characterization of assets to ensure you are not transferring properties to the trust that others also have an interest in. Doing so might spark disputes later on between family members, which can adversely affect the trust itself.
Drafting the Trust Instrument
At this point, it is important that you consult with an estate planning lawyer.
Since the trust is essentially a contract that captures your intentions as trustor, who the trustee and the beneficiaries are, the properties intended to fund the trust, and the purpose of the trust, enlisting the services of an estate planning lawyer is essential.
You will need someone to prepare and draft the trust instrument according to your specifications, while ensuring that the same is valid under California law.
Clarity also matters, as with most contracts. If there is any ambiguity, this can lead to confusion for both the trustee and the beneficiaries, and may even lead to court disputes among other family members.
The salient parts of the trust document that should be carefully reviewed include:
- The powers of the trustee
- The identities of the beneficiaries and the nominated trustees
- The intended disposition of the assets
- The terms of the trust, or the dispositive portions indicating who receives what assets and under what conditions
It is also standard practice for many to prepare a pour-over will alongside the primary trust instrument. The pour-over will is a sort of catch-all document that “pours” any assets that may still be left in your name at the time of your death, into the trust.
Capacity to Create a Trust
As with most contracts, one must have legal capacity to enter into a contract (in this case, the trust), in order to create a trust.
Legal capacity is indispensable. The person creating the trust, or the settlor, must be of legal age, with full understanding of the terms of the trust document, fully aware of the identities of the beneficiaries and the trustees, and also fully aware of the properties to be transferred to the trust, and the implications of such a transfer.
Additionally, they must be executing the trust instrument freely and voluntarily, under no circumstances of fraud or duress.
Disputes do arise later on where persons may question the capacity of the trustor to create the trust and execute the trust documents. Most estate planning attorneys conduct their own interviews to determine capacity, and ensure that they are able to capture proof or evidence of such capacity should the same be disputed later on.
California Formalities Regarding Trusts
Finally, we come to the legal requirements for the creation of a valid trust.
In California, the rules are simple enough:
- The trust must be in writing
- It must be signed by the settlor
- Although not legally required, it is highly recommended that the trust document be notarized
Notarization ensures that the trust document is valid and binding as to third parties; for instance, banks and other financial institutions. Notarized trust documents are also important when the trust involves the transfer of real properties, to ensure compliance with recording requirements.
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The creation of a trust may seem complicated, but broken down to its basic essentials, it becomes quite doable. We do not recommend embarking on creating a trust unless you have the assistance of an estate planning attorney, however, who can help you evaluate your objectives, identify potential issues, and assist you in constructing a living trust that is specifically suited for your circumstances.