The Benefits of Using a Trust in New York City

Here are the benefits of using a trust. Trusts are often used to avoid probate, protect assets from creditors, to protect children in blended families, to be eligible for Medicaid, or to minimize taxes.

Protect the Home From Medicaid Recovery

If your house is not in a trust, it is subject to Medicaid recovery. If you get homecare, residential facility or nursing home Medicaid, the government can come back and take your house from your children after you die. A trust helps avoid that.

Avoid Probate

One reason people enter trust arrangements is to avoid probate. Trust assets are non-probate assets. For this reason, the trust property does not pass through probate proceedings. The beneficiaries can immediately enjoy the property when the trustor dies.

For example, X establishes ABC Trust, where X is the trustee and the beneficiary. X transfers his bank account to the trust. Now, the bank account is in the name of X, Trustee of ABC Trust. Here, X is the trustor, trustee, and the beneficiary. By being the trustee and beneficiary, X retains control over the bank account and can do whatever he wants with it, including withdrawing all the money and closing the bank account.

Under the terms of ABC Trust, X designated his spouse, Y, as successor trustee, and his children, B and C, as successor beneficiaries. When X dies, the bank will not ask for letters testamentary from Y in order for Y to access the bank account. The bank will transfer the bank account to Y, Trustee of ABC Trust, upon proof of X’s death. Y, even if she is the legal owner of the bank account, cannot use the money in the bank account for her own personal expenses. She can only use it for the benefit of the successor beneficiaries, B and C. Y, however, is entitled to commission for managing the bank account for B and C.

What did X accomplish by transferring the bank account to ABC Trust? X allowed B and C to immediately access the bank account without going through probate proceedings. Generally, when a bank account owner dies, the bank will not allow any third person access to the bank account unless letters testamentary or letters of administration are shown. These letters are usually issued by the court after three months from filing a petition for probate or administration. By establishing ABC Trust, X ensured that he could control his bank account during his lifetime, and upon his death, B and C could benefit from the bank account immediately without going through probate proceedings.

In this case, however, since X retained control over the bank account during his lifetime by being the trustor, trustee, and beneficiary, the bank account did not enjoy protection from creditors. In case X had creditors and his assets were insufficient to pay the creditors, the money in his bank account can be used to satisfy X’s creditors. Trusts that enjoy creditor protection are usually irrevocable trusts.

Protect assets from creditors

Another reason people establish trusts is for their property to be protected from creditors. People from professions with risk of malpractice suits, such as doctors, use asset protection trusts to protect their property from creditors. In this case, however, the trustor generally cannot be the trustee or the beneficiary. Once the trustor transfers the property to the trust, the trustor cannot take it back anymore. The difference between trustor vs. trustee is more significant in an irrevocable trust than in a revocable trust where the trustor is the trustee and beneficiary.

Some people find it difficult to understand that once they transfer assets to an irrevocable trust, they are no longer owners of the asset. In an irrevocable trust with the primary objective of creditor protection, once assets are transferred to the trust, the trustor does not have ownership or control over the trust property anymore. The trustee manages the trust for the benefit of the beneficiaries.

Trustees may find that they are pressured by the trustor to act in a certain way, but in the case of an irrevocable trust, the difference between trustor vs. trustee is important because the trustor and trustee are two separate persons, and the trustee owes a fiduciary duty to the beneficiaries and not to the trustor.

For example, X, a doctor, is worried about the risk of malpractice suits, so he establishes ABC Trust and transfers his bank account with $300,000 to ABC Trust. He designates his friend, Y, as the trustee, who then manages the bank account for the benefit of X’s children, B and C. The bank account is now in the name of Y, Trustee of ABC Trust. The terms of ABC Trust allow Y to use the trust principal for the education, health, and maintenance needs of B and C. In this case, if X was suddenly a respondent in a malpractice suit and the complainant was awarded a sum of money, the money in Y’s name as trustee of ABC Trust cannot be used to satisfy the judgment award against X. The bank account is free from creditors.

What if X suddenly had a change of heart and wanted to use the money in the bank account in the name of Y, Trustee of ABC Trust, to invest in real estate? X talks to his friend, Y, to withdraw $200,000 from the account to give to him so he can buy a house. Should Y do it? No, Y has a fiduciary duty to B and C to use the money in that bank account only for B and C’s education, health, and maintenance needs, in accordance with the terms of the trust. If Y withdraws the $200,000 and gives it to X, B and C can file a suit to make Y personally liable for breaching his fiduciary duty to the beneficiaries.

In an asset protection trust, the difference between trustor vs. trustee is more remarkable because it is an irrevocable trust. In this case, X is the trustor and Y is the trustee. Y’s fiduciary duty is to the beneficiaries, B and C, and not to X, the trustor.

Protect children in blended families

Trusts have also been used to protect children in blended families. For example, if you and your spouse are both in your second marriages, with children from the previous marriage, you would probably want your property to go to your children, while still providing for your spouse while your spouse is still alive. This can be done using a trust.

Let’s assume that X is divorced in his late 50’s, with two children, B and C, from his previous marriage. He meets Y, who is also a divorcee with three children, D, E, and F, from the previous marriage. Prior to meeting Y, X already accumulated some wealth. He has a house in Brooklyn and $250,000 in his bank account. If X does not plan his estate, when he dies, his new wife, Y, will be entitled to 1/3 of his net estate as the spousal elective share. When Y subsequently dies, such property she inherited from X will not go to X’s children, but to her own children, D, E, and F.

If he plans his estate, X can establish ABC Trust, transferring his bank account and Brooklyn house to ABC Trust. Now that the bank account and Brooklyn house are trust assets, they do not pass through probate and are not included in the computation of the spousal elective share (for as long as the transfer was made more than one year prior to X’s death). X first designates himself as trustee and beneficiary so he has full control over the property. Under the terms of ABC Trust, when X dies, Y is the successor trustee and lifetime income beneficiary with no power to sell the house or use the trust principal. When Y dies, B and C are the remainder beneficiaries who will inherit all the assets of ABC Trust.

In this case, when X dies, Y can use the house and receive the rental proceeds from the house and the income from the $250,000 bank account. Y, however, cannot sell the house or use the trust principal of $250,000 as lifetime income beneficiary. When Y dies, instead of the property going to Y’s heirs, it will go to X’s children, B and C. X has accomplished his purpose of providing for his surviving second spouse, while leaving the trust assets intact for the children from his previous marriage.

Minimize taxes

Trusts have also been used to minimize estate taxes for high-net-worth individuals. The current federal estate tax exemption for 2021 is $11.7 million, and the state estate tax exemption is $5,930,000. For this reason, most estates do not have to pay estate tax since most estates have a value lower than the estate tax exemption. For high net worth individuals, however, trusts have been used to minimize and save millions in estate taxes.

Trusts have also been used to defer capital gains tax for low-basis, high market value assets. For example, if you have a house you purchased in the 1970s for $50,000 with a current market value of $1,000,000, trusts have been used to defer payment of capital gains tax by making an independent trust purchase the house from you on installment. This allows you to pay capital gains only on that portion of the installment payment received annually. In this case, however, the seller-taxpayer cannot be the trustor, trustee, or beneficiary of the trust or a related party.

The difference between trustor vs. trustee can be confusing in a trust agreement, especially when the trustor, trustee, and beneficiary are all one person, which is the case most of the time. However, trusts have been a useful legal tool to legally accomplish many different purposes (including to be eligible for Medicaid).

Unlike wills, however, trusts cannot be done by yourself. It can’t be DIY from the internet. You need expert legal opinion to guide you through the process. We have established many trusts with our clients to achieve their different objectives. Should you need assistance, we at the Law Offices of Albert Goodwin are here for you. We have offices in New York City, Brooklyn, NY and Queens, NY. You can call us at 212-233-1233 or send us an email at [email protected].