If your estate plan has been on your mind lately, you may have come across the term “revocable trust” and may have heard that a revocable trust will often help you avoid the lengthy and arduous probate process. What you may not fully understand yet is what a revocable trust is, why probate is something to be avoided, and how a revocable trust helps you accomplish this goal.
What Is a Revocable Trust?
At its very core, a revocable trust is a trust that can be amended or revoked by the trustor during their lifetime. Revocable trusts are staples of many estate plans because they are extremely versatile and because they can avoid the probate process.
What Does a Revocable Trust Do and Not Do?
Revocable trusts are most commonly used as an estate planning vehicle to avoid the probate process. It can be helpful to think of revocable trusts as contingent trusts; they do not provide a meaningful benefit during the grantor’s lifetime, but if the grantor is incapacitated or passes away, the revocable trust springs into action, becomes irrevocable, and provides the contingent planning that was anticipated by the grantor.
Revocable trusts provide springing protection against death or disability without inconveniencing the grantor. Because the trust is revocable, the grantor can revoke, amend, or terminate the trust at any time. Likewise, any assets that are placed in the revocable trust can be withdrawn at any time by the grantor with no tax consequences.
It is important, however, to note that because a revocable trust can be amended, revoked, or terminated at any time, assets held in a revocable trust are legally deemed to be held by the grantor of the trust. Therefore, a revocable trust does not provide asset protection benefits.
What Is Probate?
Probate is a state specific legal process that takes place after someone’s death, with the purpose of properly administering and disposing of their estate.
Generally speaking, the probate process consists of the following steps:
- Proving the validity of the deceased person’s will
- Identifying, inventorying, and appraising the deceased person’s assets
- Paying any debts and taxes owed by the deceased person’s estate
- Distributing the remaining property as the will (or state law if the deceased died without a will) directs
Generally, after someone dies, the executor named in their will, or a court appointed executor if intestate, must initiate probate proceedings at the local probate court. The executor then must prove the validity of the will, provide a list of all assets, debts, and beneficiaries to the court. Then, all beneficiaries and creditors are notified that the probate process has been initiated. Depending on the nature of your assets and the size of your debts, the executor may need to have your property professionally appraised, as well as decide which assets, if any, to sell to pay creditors.
Each step in the process contains significant waiting and notice periods. For example, notice of probate must be given to creditors. In some states, creditors then have 30 days to file a claim with the estate if they received direct notice, 90 days if notice was published but not directly delivered, and 2 years if they did not reasonably receive notice. It is these waiting periods that can drastically extend the length of probate.
Meanwhile, as the probate process is ongoing, all assets that are part of the estate cannot be used or enjoyed by the beneficiaries named in the will.
It is easy to see why avoiding probate is such a priority for many estates!
Are All Assets Subject to Probate?
Fortunately, there is good news: not all estates and not all types of assets are subject to probate. There are 3 broad asset categories that are not subject to probate, as well as a simplified probate process for small estates.
The first category of assets not subject to probate includes assets that transfer at death based on a beneficiary designation. Beneficiary designated assets commonly include bank or brokerage accounts that are designated “payable on death” or “transfer on death”, life insurance, and retirement plans. It is important to note that even though these types of assets can avoid probate, failing to designate a beneficiary under the account will cause it to be included in the probate process.
The next category of assets that avoid probate is assets that transfer automatically by process of law. This includes assets that are held in joint tenancy or community property. For example, a house owned in a joint tenancy by a married couple will automatically pass to the surviving spouse, entirely bypassing the probate process.
The last category of assets that avoid probate are assets held in trust. Assets that are held in trust generally are not subject to probate and will transfer according to the terms of the trust. This is exactly why a revocable trust is a key feature of so many estate plans!
How Does a Revocable Trust Avoid Probate?
Assets held in trust are one of the categories of assets that by law enjoy the benefit of avoiding probate. This means that if you create a revocable trust during your lifetime, any assets in that trust upon your death will automatically avoid the probate process. So far so good, but what happens if you don’t transfer all your assets to your revocable trust prior to your death?
Fortunately, there is a legal vehicle specifically designed for this purpose: a pour-over will. In the absence of a pour-over will, any assets that have not been transferred to your trust and qualify for probate would have to go through the probate process.
A pour-over will helps avoid this particular complication. A pour-over will is a will created at the same time as your revocable trust, which directs that any assets you own outside the trust move into the trust at the time of your death.
Establishing A Revocable Trust
To establish a revocable trust, you need to draft a revocable trust agreement and sign it in the presence of a notary and possibly two witnesses depending on which state you live in. In order to ensure your revocable trust provides you the protection from probate that you need, you will also need to draft and sign a pour-over will in the presence of two witnesses.
Once your revocable trust is established, you will need to fund your revocable trust. To fund your trust, you will need to draft legal documents transferring ownership of assets you’d like to fund your revocable trust with. Often this includes a beneficiary deed (known as a ladybird deed in Florida) and retitling of certain financial assets.
Because revocable trusts, pour-over wills, and deeds are complex legal documents, and mistakes can be costly, it is highly recommended to consult your attorney before you engage in this type of estate planning.
Settling a Revocable Trust
Settling a revocable trust is similar to the probate process in many ways. The trustee goes through substantially similar steps when settling the trust, but without the draconian restrictions imposed by the probate process. The trustee will have to take the following steps before terminating the trust:
- Inventory the Estate: The trustee will need to inventory all assets and liabilities of the decedent, as well as gather all relevant documents and papers, including but not limited to the revocable trust agreement, any amendments to the revocable trust, the decedent’s pour-over will, a personal property memorandum, and any written instructions left by decedent for last rites and burial.
- Determine Whether Probate is Required: In most cases, a well drafted estate plan will avoid probate. However, it is important to make a thorough determination whether this is the case each time. We advise that you consult an estate planning attorney for help with this step.
- Value the Estate: Next, the trustee will need to establish the death value of all assets. This entails establishing the value of assets passing through the trust, as well as assets that pass outside the trust, such as beneficiary designated assets.
- Pay Bills and Expenses: Once the estate has been appraised, the trustee will pay the decedent’s final bills and ongoing expenses related to administering the trust. At this stage, the trustee will also decide whether to sell any assets in the trust to pay bills, expenses, obligations, or taxes.
- Pay Taxes: Once final bills and expenses are paid, the trustee will file the decedent’s final income tax return, as well as taxes on any income earned by the trust during the administration process. If the decedent’s estate is taxable for federal or state estate tax purposes, the trustee shall also be responsible for preparing and filing an estate or inheritance tax return.
- Distribute and Terminate: The last step for the trustee is to distribute the assets remaining in trust to designated beneficiaries, and to terminate the trust.
What Revocable Trusts Will and Will Not Do For Your Estate
Revocable trusts are incredibly flexible and useful tools for your estate plan. However, they are not a tax planning or asset protection tool. The chart below gives you a broad summary of when a Revocable trust is and is not the right tool for your estate.