What is a trust fund?
In a nutshell, a trust fund is a third-party legal entity that is set up by a parent or grandparent to hold a child’s inheritance. The fund is created by signing a trust agreement document by the parent or grandparent and the child or other beneficiaries. It is not an account in a financial institution.
The purpose of a trust fund is to make sure that the child, who is the beneficiary, inherits the money at the age the parent or grandparent specified. The money is held in the trust fund until the child reaches that age. When the child reaches the age specified in the trust agreement, the money is released to the child.
Components Of A Trust Fund
A trust fund can be utilized for estate planning. It’s very essential to reduce taxes and prevent probate. The latter is a legal procedure that involves the distribution of assets of a dead individual.
Three elements play interconnectedly in a trust fund.
- Grantor – The grantor is the person who creates the trust or simply provides the assets that are held in the trust. That being also acts as the trustee, who oversees the management of the assets in the trust, and the beneficiary is the person who is entitled to benefits from the trust.
The assets held by the trust remain the property of the grantor. The grantor is not allowed to use the trust property for his/her personal gain. However, the grantor has the power to appoint another trustee and can even select a successor trustee in case he/she dies.
- Beneficiary – A beneficiary is a person that directly benefits from the trust fund. In the first place, the fund was created to cater to particular beneficiaries. As a beneficiary in a trust fund, you have several options. One way to be a beneficiary is to take an income stream from the trust fund. Trust fund income is taxed at the beneficiary’s own income tax rate. Another way to be a beneficiary is to take a share of the principal of the trust fund. A beneficiary may be able to take the principal outright or receive it over time.
- Trustee – The trustee can either be a person, an institution, or a number of different advisers. The role of a trustee is to guarantee that the trust fund is functioning the way it should be, as it has been stated in its stipulations. The trustees receive management fees as a form of compensation. Depending on the trust fund, some trustees are given the task of managing the assets directly. Other trust funds require the trustee to appoint qualified financial advisers in handling the assets.
How Does A Trust Fund Work?
A trust fund is a legal arrangement where a group of people, known as trustees, oversee a fund of money, which directly benefits a person or group (beneficiary). The money in the trust fund is usually invested, and the income generated is used to support the beneficiary. Some of the most common types of trust funds are for inheritances. Still, people can also set up trust funds for a specific purpose, such as providing education for a child or taking care of a family member with special needs.
The trust fund has rules as to how a beneficiary can receive the assets entrusted to him. For instance, your grandparent wants to leave an inheritance to you but is hesitant to do so because you don’t know how to manage your money yet. At this point, they can decide to put the assets in the trust fund and make a stipulation that would make the fund available once you turned 25 (or whenever they feel that you are mature enough).
Aside from the grantor, the mechanisms of a trust fund are under the control of state laws. There are states that provide more financial opportunities than other states when it comes to their trust funds. Of course, this matter is still relatively dependent on the desired outcome of the grantor. Hence, it is efficient on your part if you have a lawyer that specializes in this matter.
A common stipulation found in a trust fund is a spendthrift clause. It is usually used to protect an individual or organization from the financial decisions made by another. A spendthrift clause will usually be put into place by a trust or by a court. The main goal of creating these clauses is to protect an individual’s assets from being mismanaged or squandered.
Types Of Trust Fund
- Revocable – A revocable trust fund is a type of trust that allows you to grant control of the assets held within the trust to other individuals, with you retaining the right to disburse the principal and change the beneficiaries. Revocable trust funds are typically used to manage large amounts of property or money and are a useful tool for living trusts.
- Irrevocable – An irrevocable trust fund is an arrangement in which an individual (the grantor) gives assets, such as stocks, bonds, or real estate, to a trustee for the benefit of another person (the beneficiary). The beneficiary may be a minor, disabled, or a person with special needs.
An irrevocable trust fund is generally used to avoid probate, which can be an expensive and time-consuming process involving legal battles between family members or other heirs over the deceased person’s assets. Since an irrevocable trust fund is outside the reach of probate, the assets are owned by the trustee, not the grantor, so the grantor can’t dispute the terms of the agreement or the trustee’s decisions about how to manage the assets.