An introduction to trusts

Trusts date back many hundreds of years and were primarily used for legal purposes. Today, however, trusts have evolved into an important tool from both a tax and estate planning perspective. The appropriate implementation of a trust allows for the effective flow-through of income and capital to a beneficiary to achieve substantial tax savings, while for legal purposes, a trust can provide a mechanism to control and preserve precious assets.

In its simplest form, a trust provides a method for an individual (the settlor) to transfer legal title of property to another person (the trustee) who in turn has a fiduciary responsibility for administering the property on behalf of the beneficiary. The beneficiary does not have legal title to the property, but may enjoy benefits from it. Since trusts can be quite complex, this article will concentrate on the basics of personal trusts.

There are three parties to a trust: the settlor, trustee and beneficiary.

The settlor is the individual who contributes money or property to establish the trust. Legal title is transferred to the trustee for the benefit of the beneficiaries. If a trust is revocable, the settlor continues to enjoy control over the property and can revoke the trust as specified in the trust document. The settlor, in this instance, may also be a beneficiary. If a trust is irrevocable, the settlor gives up their right to use the property and will generally not be a beneficiary. A testamentary trust exists when the settlor’s death causes the trust to come into existence and is usually part of a will, while an inter vivos trust is created during the settlor’s lifetime. The fair market value of the property transferred to the trust by the settlor cannot be exceeded by the fair market value of other property subsequently transferred to the trust by other parties. If this occurs, there may be a question as to who is the actual settlor of the trust.

A trustee is appointed by the settlor and is charged with fiduciary responsibility in administering property within the terms of the trust agreement. It is extremely important to assess the person who will take on the role of trustee. In many instances, the settlor may seek an individual who knows them well and understands the way in which they would like the property distributed. The complexity of the trust should be considered when selecting a trustee. Consider these factors, amongst others, before appointing a trustee: Do they possess skills to manage and control the assets? Do they have necessary investment and banking knowledge? Do they have the ability to work with professional advisors?

The beneficiary will be entitled to the use of the property of the trust. Beneficiaries can receive either income, capital or both from the trust depending upon the terms of the trust regarding distribution. The trustee has a fiduciary duty to take an “even hand” approach to the trust unless the trust document dictates otherwise. This means that the interests of all beneficiaries must be taken into account.

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