1. AN INTRODUCTION TO TRUSTS F. Hale Stewart, JD, LLM, CAM, CWM, CTEP Asset Protection, Estate Planning and Captive Insurance Attorney Author of the Book US Captive Insurance Law 832.330.4101

2. Overview of the Presentation The goal of this presentation is to give you a “30,000 view” of trusts, to enable you to speak about them with your clients and prospective clients in a competent manner. The information contained in this presentation is based in the Uniform Trust Code, last revised in 2005 and available online at the following link: http://www.law.upenn.edu/bll/archives/ulc/uta/2005final.ht m#TOC1_23 http://www.law.upenn.edu/bll/archives/ulc/uta/2005final.ht m#TOC1_23

3. What is a Trust? While we think of a trust as an entity – much like a partnership, corporation or LLC – a trust is in fact a series of relationships between the parties. The Settlor – the person who contributes property to the trust The Trustee – the person who manages the trust property The Beneficiary – people who receive benefits (income etc..) from the trust The Protector – a person who oversees the trustees job for the benefit of the beneficiary

4. How Do We Create a Trust? (1) transfer of property to another person as trustee during the settlor’s lifetime or by will or other disposition taking effect upon the settlor’s death; (2) declaration by the owner of property that the owner holds identifiable property as trustee; or (3) exercise of a power of appointment in favor of a trustee. Section 401 of the Uniform Trust Code

5. What are the Requirements of a Trust? (a) A trust is created only if: (1) the settlor has capacity to create a trust; (2) the settlor indicates an intention to create the trust; (3) the trust has a definite beneficiary or is: (A) a charitable trust; (B) a trust for the care of an animal, as provided in Section 408; or (C) a trust for a noncharitable purpose, as provided in Section 409; (4) the trustee has duties to perform; and (5) the same person is not the sole trustee and sole beneficiary

6. The Trustee The trustee must administer the trust “in good faith, in accordance with its terms and purposes and the interests of the beneficiaries and in accordance with the UTA.” (Section 801) “The Trustee shall administer the trust solely in the interests of the beneficiaries.” (Section 802) (The Duty of Loyalty) (“The trustee is a mere representative whose function is to attend to the safety of the trust property and to obtain its avails for the beneficiary in the manner provided by the trust instrument” Fletcher v. Fletcher, 253 Va. 30 (1997)) The trustee cannot engage in a transaction involving the trust and the trustees own account or for the trustees benefit unless the transaction is authorized by the trust document, a court, or a beneficiary. (Section 802) The trustee must act equitably between the beneficiaries (Section 803)

7. The Trustee The trustee holds and manages the property – but solely for the benefit of the beneficiary. As such, the trustee is given broad powers, such as The power to sell property The power to mortgage property The power to vote shares The power to lease property The ability to buy insurance The right/duty to pay taxes on the property The ability/right to delegate management of property

8. The Importance of a Professional Trustee There are two important duties placed on the trustee under the trust code A trustee shall keep adequate records of the administration of the trust (Section 810) A trustee shall keep the qualified beneficiaries of the trust reasonably informed about the administration of the trust and of the material facts necessary to protect their interests. (Section 813) The beneficiary has an enforceable equitable interest in the trust property. Upon a breach of trust, the court may compel a series of possible remedies

9. Trusts are NOT Tax Advantaged Once a trust has $7,500 in income, its tax rate is “$2,125, plus 39.6% of the excess over $7,500.” As such, we don’t use trusts for their tax advantages.

10. Revocable and Irrevocable Trusts “Unless the terms of the trust expressly provide otherwise, the settlor may revoke or amend the trust.” (Section 602(a)) “While a trust is revocable, rights of the beneficiaries are subject to the control of and the duties of the trustee are owed exclusively to, the settlor.” (Section 603(a)). Why is this important? Under federal tax law, a gift is not made until the person making the gift has parted with “dominion and control” of the item he is giving. So a revocable trust is not a completed gift and therefore does not implicate the gift tax. Finally, because revocable trusts are often used as will substitutes, the settlor must have the same capacity to make a will (Section 601).

11. Uses of Trusts The primary benefit of a trust is the ability to segregate assets under professional management for the benefit of a third party.

12. Let’s take a high level view of some common types of trusts and their general features.

13. Crummy Trusts Individual wants to use the 2503(b) annual exclusion amount for gifting to his children. But this exclusion applies to a present interest. However, he really does not want to allow his children to have complete and total access to the money. Solution: grant the children the ability to withdraw funds for a limited period of time (30 days). Use this as an opportunity to start educating children on money and tax matters.

14. Marital Planning With QTIP Trusts In planning the marital deduction, Congress wanted to tax the second spouse to die. However, they wanted to prevent a massive bleeding of assets from the estate of the second to die which would prevent the government getting its tax revenue. So they disallowed deductions for “terminable interest property” where “on the occurrence of an event or contingency, or on the failure of an event or contingency to occur, an interest passing to the surviving spouse will terminate or fail.” For example, the first spouse to die creates a trust that pays income to the surviving spouse for 5 years, then pays income to the children. If the spouse lives more than five years, it wouldn’t be included in the spouse’s gross estate. This bequest will fail after 5 years, meaning it wouldn’t be deductible

15. Marital Planning With QTIP Trusts A QTIP trust is part of marital deduction planning and an exception to the terminable interest property rule. This trust is used most often when there are children from a previous marriage. The QTIP trust is funded from the gross estate, provides the surviving spouse with income for life (distributed not less than annually) but then gives the remainder to a third party – here, usually the children from the previous marriage.

16. Marital Planning With By-Pass Trusts These are used as part of estate planning and take advantage of the unified credit amount. The first spouse to die will fund a trust with an amount of funds determined by the estate tax credit amount. If this trust is structured properly, the property in this trust will not be included in the estate of the second spouse to die.

17. Spendthrift Trusts A spendthrift clause prevents the beneficiary from transferring his interest to a creditor or assignee until a distribution is made from the trust. (Section 502) These provisions are not enforceable against Child support claims Spousal support claims A judgment creditor who has provided services for the protection of a beneficiary’s interest in the trust A claim of the state or US to the extent a statute of the state or federal law implies.

18. DAPTs – Domestic Asset Protection Trusts Don’t There is an incredibly strong presumption in the law against self-settled, spendthrift trusts. With respect to an irrevocable trust, a creditor or assignee of the settlor may reach the maximum amount that can be distributed to or for the settlor’s benefit. (Section 505) We have no idea how a state without a DAPT statute will rule on an out of state DAPT case.

19. The Law Offices of Hale Stewart I work with accountants, lawyers and financial advisors to develop estate, asset protection and captive insurance plans for high net worth individuals. Unique blend of practical Wall Street experience and legal know-how