DYNASTY TRUST
A dynasty trust is a trust which is used to pass money on to multiple generations of descendants while paying as little taxes as possible and providing protection against creditors claim.
Depending on where you set it up, a dynasty trust can last forever. California law allows trusts to last about 90 years. However, there are some states –Alaska, Delaware, South Dakota, etc. where there is no limit on how long the trust can be set up for. Assets in these trusts can grow for an unlimited number of future generations, and be protected from your descendants’ creditors, their former spouses in future divorce proceedings, and their own wasteful spending.
A typical “living” trust estate plan would say that, upon the death of you and your spouse, the trustee would manage the assets for your children until they reach, say, the age of 30, at which time the trust shall end and each child daughter shall receive her/her inheritance outright. But let’s suppose that one of your children has a habit of dating “bad” guys, while your son has showing disturbing signs of not being able to control his spending. You are worried that, in one way or another, either or both of them might squander his/her inheritance.
A dynasty trust solves this problem by saying in the trust that, instead to giving everything to each child outright when s/he reaches 30, the trust assets shall remain in the trust past the age of 30 under the control of a trustee who is an independent third party (corporate trustees are usually a good choice to ensure that a trustee is always in place, or the trust can allow the beneficiaries or trustee to nominate a successor). The trust will also allow the trustee(s) to spend money for the health, education, and support of any of your children’s children (your as yet unborn grandchildren).
You will have a lot of control over a dynasty trust—your descendants have little. This offers both benefits and disadvantages. You get to decide who your beneficiaries are and what rights they have. Typically, children are the first beneficiaries; after their deaths, the grandchildren are next in line. You can direct how the trustee will manage the money and spend it on beneficiaries’ needs. Those rules can be as vague or as detailed as you wish. You can also give the beneficiaries power to give away some of the trust assets or leave them to others at their own deaths.
The advantages of the trust are as follows:
- If your child (or her husband) is sued for any reason, the assets in the Trust do not belong to your child (since she only has a right to income at the discretion of the trustee), and cannot be seized by her creditors.
- If your child gets divorced, her husband cannot claim community property rights over the Trust.
- When your child dies (remember, the Trust goes on for a long time, unless the trustee spends it all), anything remaining goes to your grandchildren, NOT to your child's husband.
- When your daughter dies, there is no death tax, regardless of how much she and her husband own. This is because once the original transfer of assets into the trust is made, the trust assets, as well as their appreciation and accumulated income, remain free from federal gift and estate taxes for the entire term of the trust. the money in the trust was set up using the generation-skipping tax exemption, and is not subject to any further death tax upon the death of any future member of your descendants.
- If your child and his/her future spouse wish to buy a house, the Trust is authorized to invest in real estate, or loan them a downpayment. Once again, that house will not be vulnerable to creditor’s claims because your child will not own the house, the trust will.
- If you like, you can include “incentive” distribution provisions in the trust to encourage a child or beneficiary to become a productive member of society and not become dependent on the trust for his/her support.
The disadvantages are:
1. Since they are irrevocable, you can’t change your mind later, and your descendants can’t alter the terms of the trust when family or financial circumstances change. You’re guessing about what will be good for your distant relatives, decades in the future.
2. An extra income tax return and minor bookkeeping chores are required every year;
3. If a child is sued and a creditor gets a court order, although the creditor cannot reach into the trust and take our assets, the creditor can intercept any payments out of the trust to that child (but not to other beneficiaries).
The trust can be set up during your lifetime(s) or a portion can be carved out of your living trust to fund the dynasty trust upon your death(s). A dynasty trust can also be made to do double duty as an irrevocable life insurance trust (an irrevocable trust funded with insurance on the life of the settlor, the proceeds of which are available on a tax-free basis to pay estate taxes on other assets passing at the settlor's death) or as a qualified personal residence trust.
Whether large or small, estate size really is not critical when deciding whether to implement a Dynasty Trust. The key questions to ask are 1) Do you want your assets, no matter what the size, to be protected from future divorces and lawsuits your children may face? 2) Do you you’re your assets to grow and pass federal estate tax free through generations? If the answer to either one or both of these questions is "yes", then you should seriously consider a Dynasty Trust as part of your estate plan.