Setting up a trust

[utrecht]

My wife and I are have 97 working days left. We are in the process of re-doing our wills. We are setting up a trust for our 15 year old son in the event that we both die together (we will be traveling extensively).

I'd love to hear some opinions on what instructions to give the trustee with regards to the actual logistics of consolidating accounts. We currently have 2 ROTHs, 2 457b accounts, and taxable accounts at Optionshouse, Vanguard and E-Trade. Consolidate down to as few accounts as possible and pay the considerable capital gains taxes? I want to make it as easy as possible on the trustee. Hes a very finance savvy person who has an MBA from Georgetown and works as a CFO, but I dont want him burdened for a very long time with this. I also dont want to be stupid and pay excess taxes.

Our son is only 15 now so hes obviously not ready to handle a large inheritance. I would prefer that he be paid a monthly "salary" for life (or at least until 30 or so). That might be way too much work for the trustee though. Hes a friend but is he really going to want be doing that 10+ years after we are gone?

How have people handled this? Give him a flat amount of money at 21, 25 and 30? No matter if he gets a flat amount of money or is paid monthly, what instructions did you give the trustee regarding how to invest the money in the meantime?

 

[Jay_Gatsby]

How have people handled this? Give him a flat amount of money at 21, 25 and 30? No matter if he gets a flat amount of money or is paid monthly, what instructions did you give the trustee regarding how to invest the money in the meantime?

We appointed a family member who is a lawyer as the trustee for our respective trusts. In the event something happens to both of us, our kids will receive a percentage of the trust assets at specific ages (can't remember what they are right now, but something along the lines of 30, 35, 40 & 45). The key is that the percentage increases as they get older (e.g., at 30 they get 10%), etc... They can petition the trustee for additional assets or an income stream, but for the most part they'll be on their own until they establish their own financial lives. Essentially, we designed our trusts to ensure that our kids would reach an age where it is somewhat safe to assume that they will be responsible with the money.

 

[GrayHare]

Rather than pay Uncle Sam tax, I'd pay the trustee a fee to manage what might be a bit more complex. It'll likely be less, then your son inherits at a stepped up basis. Having more investment accounts does not increase a trustee's work very much since most of the same work has to be done regardless of the number of accounts.

How you parcel out funds to a minor depends on the person. IMO pay for education but withhold most of the remainder until age 30 by which time a minor is more likely to have gotten a job and learned more how to manage money.

 

[GrayHare]

Note that you cannot postpone until age 30 or somesuch RMDs from inherited IRAs. For options, check Ed Slott's site, he's big on the "stretch IRA" concept.

 

[MooreBonds]

Not speaking from experience in setting up a trust like this, but have some experience in estate matters:

With current estate laws, your estate would still qualify for stepped-up basis. So I would suggest you instruct your estate executor to sell all stocks/mutual funds in your taxable accounts after death. If done within 9 months of death, you are allowed to pick either the date of death, or any date up to 9 months after death, for the 'official' date to value items.

If you sell all assets within 9 months, then pick that date as the valuation date. Voila - zero net capital gains/losses that your estate has to pay (still have to fill out Schedule D for every sale, though. Depending on the quantity of your positions, might be a pain, but would just be for one tax year to suffer through that).

Then, place all monies into a few Vanguard funds. Something simple, but also something to have a decent diversity level.

Each year, have the trustee send all accumulated dividends/capital gains to your son, along with the RMDs. And remember - even ROTHs have RMDs for inherited IRAs each year, even though it's not taxable.

 

[rodi]

We did the following:

Put our trust as beneficiaries on our tax defered accts (401k/IRAs). This causes a tax consequence, but our kids are minors and a significant portion of our net worth is in tax qualified accounts.

The trust names the kids as beneficiaries - but with strings. Trust funds can/shall be used to get them through college. It is up to the executor/trustee (my sister) as to whether they get support after high school if they don't go to college. But college costs should be covered.

There is a $10k "reward" to be granted upon getting their bachelors degree.

The remainder is divided evenly between the boys... to be distributed as follows:

1/3 of their inheritance is awarded at their 25th birthday.
1/3 is awarded at their 30th birthday.
1/3 is awarded at their 35th birthday.

We did that because we can't see the future. While we assume they will make good choices and be upstanding citizens, if they go down a bad path (drugs/addiction/destructive wives, etc) they don't get the money in one chunk... it gets dribbled out. My husband and I both have/had siblings that should not be trusted with a huge windfall because they'd be self destructive in what they spent it on. We hope our kids aren't like that - but you never know....

We'll probably change the beneficiary stuff on the 401k/IRA stuff once they've shown themselves to be on a good path. Why have the money get taxed heavily when cashed out and moved to the trust.... But at age 11 and 13 - we're not ready to do that yet.

 

[MooreBonds]

We did the following:

Put our trust as beneficiaries on our tax defered accts (401k/IRAs). This causes a tax consequence, but our kids are minors and a significant portion of our net worth is in tax qualified accounts.

Just to compare, did you actually look at what that year of death tax return would look like for your estate by cashing out all 401ks/IRAs in one fell swoop?

Also, are you aware that the tax rates for "trusts" are vastly different from individuals? (i.e. the tax rates climb very quickly)

Granted, with your set-up, you have all control with your sister to dole out the money which is an advantage.....but don't forget to compare what that after-tax pile of money would be (and what each year's taxes would be in the trust) compared to keeping the bulk of it in a beneficiary IRA, along with the trust tax rates each year...

Even at age 11/13, there can be tell-tale signs of how your sons might handle finances later in life. Do they squirrel away most/all money from any allowances/gifts/small jobs? Do they gobble up dessert as soon as it's in front of them, or do they take their time savoring it, saving the sweetest part for last? you can also help influence them a little bit at a time with little comments here and there about buying things, or comparison shopping, or how you save money doing this or that.

 

[gcgang]

There are such things as Trusteed IRAs, where you can use the "stretch IRA" concept. I wouldn't be surprised if Vanguard or Fidelity offered now.


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[pb4uski]

A couple thoughts for you. I like the idea of reducing accounts. You may be able to transfer the assets in kind (ie; the actual shares if stock or certificates if bonds) to the place you are consolidating to and avoid capital gain taxes because there has not been a sale.

I have an 'investment policy" document that I have given to DD (she's a CPA) to help DW manage our funds if something should happen to me. You could do something similar to provide guidance to your CFO friend as to how to invest/manage the money.

Then the payments to DS could be automatic monthly withdrawals or redemptions (as the case may be).

 

[gcgang]

There are such things as Trusteed IRAs, where you can use the "stretch IRA" concept. I wouldn't be surprised if Vanguard or Fidelity offered now.
http://www.marketwatch.com/story/trusteed-iras-can-help-heirs-manage-inheritance-2013-12-19

Above article on Trusteed IRA.

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[45th Birthday]

We set up the main trusts that would distribute assets to our children when they were three and one years old, respectively. If we both died, they would be provided for until they graduated from high school. Beyond that, they would receive support for college and graduate school so long as they were making satisfactory progress. If one or both needed medical or any other special care, that would be provided. Otherwise, nothing until age 30, when they would get 1/3. Then 1/3 at age 35 and the balance at age 40. They are now 22 and 20, and in college and doing fine. We are also still alive and kicking!

We are soon going to revise the estate plan except for what cannot be changed. I think we will probably lower any early age payment and perhaps stretch it out. The only reason I wouldn't do that is the cost of managing the trust, which can be significant.

 

[MooreBonds]

Just to follow-up to my earlier comment about trust tax rates...make sure you are aware of the penalty for keeping income inside the trust and not distributing it to the beneficiaries:

Federal tax rate for estates and trusts:
15% $0-$2,500
25% $2,500-$5,800
28% $5,800 - $8,900
33% $8,900 - $12,150
39.6% $12,150 and higher

Those are insanely high rates for just a small amount of income!

 

[luckydude]

Just to follow-up to my earlier comment about trust tax rates...make sure you are aware of the penalty for keeping income inside the trust and not distributing it to the beneficiaries:

Federal tax rate for estates and trusts:
15% $0-$2,500
25% $2,500-$5,800
28% $5,800 - $8,900
33% $8,900 - $12,150
39.6% $12,150 and higher

Those are insanely high rates for just a small amount of income!

Thanks MororeBonds for posting those rates. I wasn't aware that income tax rates for trusts are so high.

Does anyone know what is the typical mgmt costs if I engage a financial institution to manage a trust? 1%? 2%?

 

[GrayHare]

The institutional management fee % typically varies based on the value of the trust. I've seen numbers start at 2% and drop to 0.5% as the value of the trust increases.

BTW, this is easy money for an institution so shop around and anticipate being wooed.

 

[luckydude]

The institutional management fee % typically varies based on the value of the trust. I've seen numbers start at 2% and drop to 0.5% as the value of the trust increases.

BTW, this is easy money for an institution so shop around and anticipate being wooed.

Thanks GrayHare. For that kind of rate, would an institution handle all aspects of trust mgmt, including investment, carrying out terms of the trust, tax filing and legal advice?

 

[utrecht]

Thanks for all the responses so far. After reading all of them and doing more research, I think I'm leaning towards foregoing using my friend and using Vanguard Trust Management. The fees seem pretty reasonable. I'll call them today and get more details.

 

[gcgang]

Thanks GrayHare. For that kind of rate, would an institution handle all aspects of trust mgmt, including investment, carrying out terms of the trust, tax filing and legal advice?

Yes. An institutional trustee will handle ALL aspects. With all the duties and potential liability, I no longer feel it is fair to ask a "friend" or "the smartest kid" to handle all these responsibilities, and will be meeting with our attorney to amend our testamentary trusts.


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[prudent_one]

FWIW, the trust I am a trustee of is handled by a local "wealth management" firm that does very little with the investments other than rebalancing that I direct. We have to pay on top of that for the trust-related taxes (about $2000/year - there are 6 beneficiaries).

The firm charges 0.8% on $2m for doing almost nothing besides having two in-person meetings a year with me and the beneficiaries to review glossy performance reports and ramble on about what they expect the markets to do.

If I didn't need the legal protection of having "professionals" manage the investments, I'd do it myself and save the 0.8%.

 

[utrecht]

prudent one,

I was planning on paying my friend 1% for his time and what I assume will be significant stress and headaches. Vanguard charges a little less than that so Im OK with the cost.

If I use Vanguard as the sole trustee, what instructions should I give them? Since there will be nobody directing them on a regular basis, should the will indicate my wishes for what I want for the future (eg: all funds should be invested in Total Stock Market index fund....or....funds should remain invested in an age appropriate blend of index funds)?

You say the wealth management company does next to nothing. If I want my son to receive a monthly check equal to 1/12th of 4% of the fund until he turns 35, will they sell the appropriate funds and issue him a monthly check?

 

[Fishingmn]

prudent one,

I was planning on paying my friend 1% for his time and what I assume will be significant stress and headaches. Vanguard charges a little less than that so Im OK with the cost.

If I use Vanguard as the sole trustee, what instructions should I give them? Since there will be nobody directing them on a regular basis, should the will indicate my wishes for what I want for the future (eg: all funds should be invested in Total Stock Market index fund....or....funds should remain invested in an age appropriate blend of index funds)?

You say the wealth management company does next to nothing. If I want my son to receive a monthly check equal to 1/12th of 4% of the fund until he turns 35, will they sell the appropriate funds and issue him a monthly check?

Call Vanguard - they can give you complete details on how their trust program works and a detailed document showing terminology that your estate lawyer needs to include in the trust documents that Vanguard requires.

 

[prudent_one]

Yeah, if you want to use Vanguard you will need to use the language they require.

I'm sure they would issue monthly checks if that is what you want - but you'd have to ask if they compute the amount based on your desired formula.

 

[meierlde]

Just to follow-up to my earlier comment about trust tax rates...make sure you are aware of the penalty for keeping income inside the trust and not distributing it to the beneficiaries:

Federal tax rate for estates and trusts:
15% $0-$2,500
25% $2,500-$5,800
28% $5,800 - $8,900
33% $8,900 - $12,150
39.6% $12,150 and higher

Those are insanely high rates for just a small amount of income!

Note that if you distribute the income to the beneficiaries, it goes on a schedule k-1 and is taxed at the recipients tax rate. So the rates are really on retained income in a trust, not on distributions to the beneficiary. Might make sense to say that all current income be distributed for tax rate purposes. Further up to 12,150 the 15% rate on cap gains and qualified dividends is maintained, above this it is 20%. So the trustee should be instructed to invest in tax free munis and dividend paying equities.

 

[prudent_one]

Note that if you distribute the income to the beneficiaries, it goes on a schedule k-1 and is taxed at the recipients tax rate. So the rates are really on retained income in a trust, not on distributions to the beneficiary. Might make sense to say that all current income be distributed for tax rate purposes.

Agree with this - income should be distributed to avoid very high taxes if retained in the trust.

 

[utrecht]

When you say income should be distributed to beneficiaries and not kept within the trust to avoid high taxes, what income are you talking about? Dividends?

 

[meierlde]

When you say income should be distributed to beneficiaries and not kept within the trust to avoid high taxes, what income are you talking about? Dividends?

Assuming the trust has income that lands on the 1041, then this income is distributed to the beneficiaries, and is then deducted from the income used in figuring the tax to the trust. It can be whatever income a trust may have, dividends, interest, rental returns, capital gains, royalties etc.