A grantor trust is a type of trust in which the grantor – also known as the settlor or trustor – retains certain powers over the assets being transferred to the trust.
The grantor must sign his property into the ownership of the grantor trust. He then has certain rights that allow him to maintain control over when distributions are made to beneficiaries, who can be the grantor’s family members or other individuals.
Why Use a Grantor Trust?
There are several reasons why grantor trusts are used. For one, grantor trusts help protect assets from creditors.
The grantor has certain rights that allow him to maintain control over the trust and its members. He can choose to grant different family members different rights of ownership, all according to the grantor trust agreement.
Above all else, grantor trusts protect grantors from potential future tax liabilities and help individuals plan for their estates. They also give grantors flexibility and control over how and when distributions are made to beneficiaries.
How to Set Up a Grantor Trust
Grantor trusts are generally set up by grantors in conjunction with estate planning attorneys. A grantor trust can be put in place either when an individual creates their will or during lifetime using a living trust agreement.
There are several forms that the grantor must sign, including grant deed and grant deed substitute. Once signed and executed, the grantor must transfer assets into the grantor trust using a transfer on death deed or beneficiary deed.
Types of Trusts
There are several types of grantor trusts to choose from when designing your estate plan. The sort of grantor trust you pick might be determined by your financial needs and objectives. Here are some of the trusts you could consider.
Revocable Living Trust
The revocable living trust is one of the most popular grantor trusts in use today.
A revocable living trust is basically an agreement between you and your grantor trust co-trustee, whose name may or may not be that of a family member or friend. You will need to include language that gives up your right to revoke the trust during its lifetime.
The grantor retains control over the trust until his or her death. At that time, the grantee takes control of the grantor trust. The grantor still has important rights to control the distribution of assets during life and after death. Revocable living trusts can also be called inter vivos (which means “between the living”) grantor trusts.
Irrevocable Living Trust
An irrevocable living trust is also referred to as a grantor-retained annuity trust (GRAT).
Like the revocable living trust, the grantor retains control over the grantor trust during his or her lifetime. However, once assets are transferred into the grantor trust, the grantor has no control over distributions or asset ownership. The grantor’s rights end when assets are transferred into the grantor trust.
The grantors can’t revoke their own will after moving assets into an irrevocable living trust, as they previously could with a revocable living trust.
Irrevocable grantor trust agreements are generally used for estate tax minimization purposes.
Charitable Remainder Trust
A charitable remainder trust, or CRT for short, is a grantor trust that allows the grantor to transfer assets to a non-profit organization. In return, the grantor can receive annual payments from the grantor trust.
The grantor is entitled to receive an income tax charitable deduction for the gift of assets into the grantor trust. Growth in the grantor trust is not taxable, since it’s owned by a non-profit organization.
Intentionally Defective Grantor Trust (IDGT)
An IDGT is a grantor trust agreement that allows grantors to avoid certain estate and income taxes.
When you set up an IDGT, part of your assets will stay in your name. Depending on the terms of the grantor trust agreement, either the grantor or the grantor’s spouse may be allowed to use those assets during his or her lifetime.
After the grantor dies, all of the grantor trust assets are transferred to the grantor’s beneficiaries (by law). The grantors’ taxable estate will be decreased. IDGTs are also popular with parents who want to establish an inheritance for their children while reducing their own tax liabilities.
Advantages and Disadvantages of Grantor Trusts
Here are some of the advantages and disadvantages of grantor trusts.
- Grantors can maintain control over grantor trust assets during their lifetime.
- The grantor has the right to revoke the grantor trust agreement.
- The grantor’s estate is taxed at a lower rate after grantors die (when grantee takes control of grantor trust).
- The grantors have more control over grantor trust assets than the grantee.
- The grantor cannot receive a charitable deduction for the gift of grantor trust assets to a non-profit organization.
- The grantor must pay tax on income from grantor trust assets during their lifetime.
- The grantors may not have access to grantor trust assets during grantors’ lifetimes.
The Bottom Line
Grantor trusts are grantor-owned agreements that provide grantors more control over grantor trust assets.
While grantors maintain ownership of the assets, they also bear more risk than grantees for the loss of grantee trust assets during grantors’ lifetimes.
Grantor trusts can be the irrevocable grantor and grantor-retained annuity trusts (GRATs) and grantor retained unitrusts (GRUTs).
Grantors generally use grantor trust agreements to protect grantor trust assets from creditors and maintain control over grantee trust assets. Since grantors still own grantor trust assets, grantor trust agreements are advantageous for estate tax minimization purposes.
The grantors can’t receive a charitable deduction for the gift of grantor trust assets to a non-profit organization.
The grantors must pay tax on income from grantor trust assets during their lifetime, while grantees don’t have to pay income taxes on grantee trust assets.
Grantor trusts are best suited for grantors who want the most control over grantor trust assets during their lifetime, lower estate taxes upon grantors’ death, and tax-free distributions to grantees.
About the Author
True Tamplin, BSc, CEPF®
True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.
True is a Certified Educator in Personal Finance (CEPF®), contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.