An alternative to passing assets outright gains popularity.
When a high-net-worth client came in to discuss his
estate plans with Gail Cohen recently, he had in mind leaving his
wealth to his adult children with no strings attached. All were quite
capable of managing their inheritances, he reasoned, and Cohen quickly
agreed. Nevertheless, the general trust counsel of Fiduciary Trust Co.
International in New York suggested that the client consider the merits
of bequeathing his money in trust instead-specifically, in a
beneficiary-controlled trust for each child.
She explained that this trust could provide the heir with extraordinary controls (hence its moniker), such as the power to manage trust assets and choose a successor beneficiary at death. In fact, the beneficiary typically is made co-trustee, with the right to dismiss the other trustee(s).
Unlike the classic trust format, which usually pays the beneficiary a portion of assets at specified ages until the trust is depleted, this trust generally doesn't terminate during the beneficiary's lifetime. That can help keep the assets segregated from the heir's personal assets and thus beyond the reach of creditors, divorcing spouses and federal estate tax, when drafted properly. (Most legal experts believe that a co-trustee is essential for securing these benefits.) Assets passed outright enjoy no such protections, Cohen pointed out to her client, all of whose children are married.
The gentleman had already used his generation-skipping tax-free amount ($1.5 million for 2005, rising to $2 million next year), so he couldn't set up his children's trusts as dynasty trusts, which many grantors do to make the benefits available to later generations. "We discussed the pros and cons of the trust," Cohen says, "and I suggested he talk to his children about providing their inheritances outright versus in trust. He did, and they went for the trust."
For financial advisors, presenting beneficiary-controlled trusts to clients as an alternative to outright inheritances is only one way to add value to relationships. You may also be able to help beneficiaries of terminating trusts. Depending on state law, it may be possible to morph a trust that's terminating into a beneficiary-controlled trust and perpetuate the protections.
Practitioners say this trust type is currently popular for several reasons. One is a mounting dislike of institutions (the traditional trustee) among high-net-worth individuals. Another is heightened concern about asset protection in our litigious, divorce-prone society. "Increasingly, people who are leaving wealth have been through a messy divorce themselves," says Cohen. "A beneficiary-controlled trust can keep their kids from having to deal with that."
Observers also attribute the surge in use to a high-profile, marketing-savvy attorney. In recent years, Steven J. Oshins, CEO of Oshins & Associates LLC in Las Vegas, has been writing about the beneficiary-controlled trust in legal journals-he claims to have coined the term in a 1998 Trusts & Estates article co-authored with his father Richard-and talking them up at conferences around the country. Oshins' view (extreme, arguably) is that every dollar of inheritance should be left in the trust for the beneficiary's lifetime, with nothing passing outright. To him, it's a no-brainer: The heir gets asset protection plus functional control over the property.
But Oshins' real genius is recognizing that significant wealth is, and will be, transferred to heirs who have asset-protection concerns of their own. If given a choice, might they prefer to receive their inheritances in trust, rather than outright? Yes they would, Oshins concluded.
So he and some colleagues created and trademarked the Inheritor's Trust, a beneficiary-controlled trust they unabashedly market to inheritors-expanding the market for trust services beyond grantors, who have been the traditional buyers. "A high percentage of my clients are adults who are expecting inheritances and who are setting up a new business [with potential liability], or are afraid of divorce or creditors," Oshins says.
If you buy that line of reasoning, it's an easy step to wanting a beneficiary-controlled trust for receiving lifetime gifts, not just transfers at death. Suppose an entrepreneur could convince a parent or grandparent to create and fund a beneficiary-controlled trust with money for him to start a business. Then all the wealth created by the venture could stay in trust, shielded from predators and estate tax, Oshins says. "It adds a dimension to business planning that few practitioners consider," he says.
Because the heir serves as trustee, a beneficiary-controlled trust should only be used with highly responsible heirs who won't withdraw the assets the instant they can. "You wouldn't want to do this with young heirs or ones who don't have a sophistication about financial matters," says planner Jim Sprout, chairman of Northern Colorado for Denver-based First Western Trust Bank, a private bank. "And capable beneficiaries don't have to be given carte blanche control," he adds. The trust can be drafted in an almost infinite number of ways, offering customizability.
An important job for the advisor is to help the client determine when the beneficiary should assume control of the trust and the extent of that control, says Stephen Fox, a partner in the Phoenix office of Los Angeles-based law firm Buchalter Nemer. Even clients who prefer to impose few restrictions often set an age requirement for the heir to become trustee. Some add incentive clauses as well, notes Sprout, such as requiring completion of college.
Another approach is to limit control to certain assets or decisions. Imagine a client planning to pass two assets: a family business in which the heir is involved, and a significant securities portfolio. "The trust could have two subtrusts," Sprout says. One could hold the business and allow the beneficiary to run it, while the one housing the financial assets might require the heir to engage a professional manager, he says.
Other structures can be used to meet different objectives. To ensure access to the trust assets as needed, give the beneficiary the power to name, remove and replace a discretionary distribution trustee-someone empowered to authorize distributions from the trust at their sole and absolute discretion. (It could even be a friend.) "That gives the beneficiary indirect control over the trust," Oshins says.
Yet control can be curtailed here, too. "One client wanted to allow the beneficiaries to change trustee only once every five years," says attorney Nancy Crow, a shareholder at Pendleton Friedberg Wilson & Hennessey, in Denver. "He didn't want the kids to be capricious."
For maximum flexibility in the event of changes in the law or the family's circumstances, Oshins recommends giving the beneficiary an extremely broad power of appointment. That allows the original heir to pass the trust on to whomever he chooses (except himself, his estate, his creditors or the creditors of his estate, because that would cause estate inclusion) and to dictate the degree of control the successor beneficiary enjoys. Oshins says, "We give each generation that power so they can take into account how their children are growing up."
Advisors with clients for whom a beneficiary-controlled trust is appropriate may wish to encourage them to speak with their children before establishing the trust. Otherwise, says Cohen, the heirs could come to resent their parents "if the children thought they were going to get their inheritances outright and then don't, even though there are some great reasons why. Parents should explain why they're doing what they're doing, so that the children understand (the benefits)," she says. After all, the goal is for the heirs and their trusts to live happily ever after.