When you create an estate plan, one of the most important things to consider is how you want your property and assets distributed after your death. One option for distributing your property is through a trust. Trusts can be very helpful in ensuring that your loved ones receive what you want them to have. Let’s look at one particular type of trust: the beneficiary-controlled trust. This type of trust gives more trust beneficiary rights and control to the person you name as primary beneficiary. If you want to learn more about this type of trust, keep reading!
While trusts can help heirs avoid probate court upon a grantor’s death, all the beneficiaries also enjoy the distributions during the trust administration process. If you desire smooth beneficiary-trustee relationships, you may consider naming one of your beneficiaries as the successor trustee of your:
- Testamentary trusts: Trusts created upon your death
- Irrevocable trusts: With these types of trusts, beneficiaries may need to petition the court to change the trust’s terms.
- Revocable trust: Most living trusts automatically send assets directly to the heirs. Also called inter vivos trusts, a living trust isn’t subject to probate court.
While not all beneficiaries can handle a trust, some heirs are ready to act in their own and others’ best interests.
Trust Beneficiary Rights That Protect
Would you like to provide your children or loved ones with an inheritance but protect them from the risks that may accompany a large windfall?
If so, you can create a beneficiary-controlled trust instrument in which the person you name as the trust’s primary beneficiary has rights, benefits, and control over the property held by the trust, but with important protections.
In a beneficiary-controlled trust, you can name the primary beneficiary as the sole trustee. Or you can name a co-trustee whom the beneficiary can remove. The beneficiary may then select a successor co-trustee if they choose.
In addition, a beneficiary-controlled trust may include a broad, non-general power of appointment. This power enables the beneficiary/ trustee’s actions to limit other beneficiaries from enjoying the property held by the trust.
A trustee who is also a trust beneficiary must remain neutral in trust transactions and refrain from distributing assets in a way that jeopardizes distributions to other trust beneficiaries (if written as instructions in the trust document.)
North Carolina law provides that all current trust beneficiaries have a right to receive a copy of the trust document, and a right to financial accountings and trust management records at “reasonable intervals.” It is a good idea for a trustee to be proactive and responsive in providing these items to current trust beneficiaries. (1)
Advantages of Giving Trust Beneficiaries More Trust Asset Control
A beneficiary-controlled trust is a wise strategy for a family member or loved one who handles responsibilities well. Some beneficiaries need unrelated trustees to handle trust distribution. Without help, these beneficiaries could bring financial harm to themselves. For heirs who struggle with money or addictions, it’s wise to create contingent beneficiaries who receive a set amount of distributions at set periods of time.
However, you may desire to provide an inheritance to a mature child or loved one you trust to make prudent financial decisions. In that case, you can set up trust administration in their best interest by naming them trustee and beneficiary of a trust.
How Does a Beneficiary-Controlled Trust Work?
When the beneficiary of a trust is also the trustee, the terms of the trust allow them to handle the fiduciary duties as trustee but also receive timely distributions from the trust.
In the case of a responsible heir, you can still serve their best interests by setting up a trust. The reason is that even beneficiaries who handle money wisely could encounter situations in which their money and property face vulnerabilities to:
- Creditors’ claims
- Estate taxes
A beneficiary-controlled trust can protect the property held in the trust against the above claims or other agents.
Although you can include terms in the trust document that limit the degree of involvement and control you would like the beneficiary to have, a beneficiary-controlled trust can still enable the beneficiary to have considerable control over their inheritance and how they choose to use it.
Trustee beneficiaries have the right to handle trust accounting, trust distributions to current beneficiaries other than themselves, see bank statements and the trust’s records, take legal action, handle tax consequences, and name a successor trustee.
Beneficiary as Sole Trustee
Under most states’ laws, even if a beneficiary is a sole trustee, most creditors may not reach the beneficiary’s interest in the trust. They may not compel the trustee to make a distribution if the trust records do not require it. These trustee beneficiaries have the discretion to make distributions based on an ascertainable standard.
For example, one standard is distributions for the beneficiary’s health, education, maintenance, and support (HEMS). Even if a beneficiary is a sole trustee, the trustee has a fiduciary duty to adhere to the trust’s requirement to make distributions only for the beneficiary’s HEMS and is not permitted to make distributions to the beneficiary’s creditors. However, once the trustee makes a distribution to themselves as a beneficiary, the creditor may then be able to reach the funds.
This type of provision provides two additional benefits. First, the HEMS standard provides a safe harbor under the Internal Revenue Code (I.R.C.). Its use will prevent the value of the money and property in the trust from being included in your beneficiary’s gross estate for estate tax purposes.
Naming a primary beneficiary as the sole trustee can help you save the expenses of hiring an independent trustee. Although doing so would depend on whether there is a low risk of creditors’ claims or lawsuits. Recommending the HEMS standard for distributions would also be wise for most inherited trusts.
Beneficiary as Co-Trustee
Another option that provides enhanced protection for the trust’s assets is to name the beneficiary as a trustee authorized to manage and invest the trust’s assets. However, you can also designate an independent co-trustee (sometimes called a distribution trustee) responsible for making discretionary trust distributions to the beneficiary.
Although it is more complicated and expensive to include an additional independent trustee empowered to make distributions in their sole discretion, it provides greater asset protection for property held by the trust.
No Need for HEMS with an Independent Co-Trustee
In addition, with an independent trustee involved, there is no need for distribution limitations according to the HEMS standard.
Instead, the independent trustee may distribute trust property to the beneficiary for any reason without reducing asset protection against creditors, etc. Typically, the trust’s terms still give the beneficiary a significant degree of control over who serves as the independent co-trustee.
The beneficiary is permitted to select the independent trustee as long as that trustee is truly independent (not a related party or a person subordinate to the beneficiary as defined by I.R.C. § 672(c). The beneficiary also still avoids having the trust property included in their estate for estate tax purposes.
In addition, the beneficiary may replace the independent trustee at any time and for any reason. If the beneficiary is facing a heightened risk of lawsuits, divorce, or creditors’ claims, they can resign as trustee. They would then appoint an independent trustee to serve in their place, providing additional protection for the trust’s assets.
Naming a beneficiary as a trustee means looking at all angles and seeing what will work best for your loved ones. Seek counsel with a knowledgeable North Carolina trust lawyer to consider your trust assets and the trust beneficiary rights at stake.
Disadvantages of Trust Document Naming a Beneficiary/ Trustee
May not protect against all creditors
Some states’ laws provide exceptions that preclude beneficiary-controlled trusts from being used to protect trust assets from claims by certain creditors, for example, a former spouse’s claim for alimony or a claim for child support.
In those states, the creditor may be able to reach the trust’s property to satisfy those claims or to compel a distribution that it can then use to satisfy the claims.
May provide too much control for some beneficiaries.
A beneficiary-controlled trust may not be the best estate planning strategy for beneficiaries who are not skilled at managing money or have poor judgment.
Although the trust document will specify the beneficiary’s responsibilities as a fiduciary, a beneficiary-controlled trust gives the beneficiary considerable control over their inheritance.
Even if a sole trustee beneficiary may only make HEMS distributions to themselves, they still determine if a particular distribution meets that standard. These determinations permit them substantial leeway in how to spend the trust assets.
Suppose you are concerned that a beneficiary will not be able to handle the responsibility of also being a trustee for a beneficiary-controlled trust. In that case, other estate planning solutions may give you more peace of mind. Talk with an experienced trust attorney to make the best decisions for you and your loved ones.
Our Experienced Estate Planning Attorneys Can Help
If you would like to learn more about whether a beneficiary-controlled trust is a strategy that will work for you and your family, call us to set up a consultation.
At Vail Gardner Law, our experienced trust attorneys can help you think through how to design your beneficiary-controlled trust to achieve your goals and protect the inheritance you want to leave for family members and loved ones.