Parents may choose to leave an inheritance to help fulfill the hopes and dreams they have for their child[ren]. While there are many legal options available to accomplish this goal, one common solution is to set up a Heritage Trust. The funds in a Heritage Trust are set aside for the grantor’s descendants after the grantor has passed away.
If you are the beneficiary of a Heritage Trust, it is helpful to understand why your loved one[s] chose this method for an inheritance, rather than leaving their assets outright. This decision was likely the result of extra effort and expense on their behalf, to do what they felt was beneficial for you and future generations of family. These funds may be appreciated for years (or perhaps decades!) to come. An elder law attorney can also help answer your questions in a personal consultation.
Please Note: There are different versions of a Heritage Trust available across the country, which may also be referred to by other firms as a Dynasty or Generation-Skipping Trust. These other versions may include different benefits than the five outlined below, which are specific to the Heritage Trust created by our firm. Please contact an elder law attorney if you have questions.
What is a Heritage Trust?
Trusts are formed to help an individual make a plan for their estate after a specific event takes place. Having a trust helps ensure that a person’s financial goals are met, and that their funds are not lost to taxes and/or probate court. In general, a Heritage Trust is not funded until both parents are deceased.
A Trustee or Trustees are appointed by the grantor to administer trust funds. For a Heritage Trust, this is typically the grantor’s child[ren]. In other words, the children are Trustees for their own trusts. Itt can also be set up to distribute assets to the Trustee’s children – the grantor’s grandchildren, upon the Trustee’s passing.
The Heritage Trust was co-created by Beck & Lenox Estate Planning & Elder Law Firm’s founding attorney, Rudy Beck, and an attorney associate. Call the office if you are interested in learning more about this type of trust in a complimentary consultation.
Benefits of Receiving an Inheritance through a Heritage Trust
In many respects, it is more advantageous for the child[ren] to receive an inheritance through a Heritage Trust rather than outright. Several of the important financial benefits include:
Benefit #1: Asset Protection
If you are sued, assets left to you outright can be taken away. Fortunately, the funds in a Heritage Trust would be protected from creditors. It is important to note that we are not just talking about collectors for unpaid bills. Creditors may arise through everyday mishaps or unforeseen events, such as:
- A business deal that goes awry;
- Being sued because someone was injured on your property;
- A collision with an uninsured or under-insured driver;
- Working in a high-risk occupation; or
- Paying off large, uninsured medical expenses.
Wrongdoers and ne’er-do-wells are not the only people who can be sued. Unfortunately, anyone can be named in a lawsuit or fall victim to an unanticipated hazard. And even if these situations don’t exist today, they can arise in the future.
Benefit #2: Divorce Protection
With the divorce rate in the United States hovering between 40-50%, many parents are concerned that the financial gift intended for their children may end up in the hands of their former spouse. A Heritage Trust offers complete protection in the event of a divorce. Keeping assets separate without this protection will not suffice.
In Missouri and certain other states, even if a couple keeps their assets separate, the income and appreciation of separate property is treated as marital property in the event of a divorce. A judge can award 50% of that growth (or even more, in Missouri) to the other spouse. The funds in a Heritage Trust are not considered marital property, no matter where the divorce occurs.
Benefit #3: Estate Tax Protection
The good news is that the federal estate tax exemption is set at $11.4M, as of 2019. The bad news is that once an individual’s estate exceeds that amount, the tax rate starts at 40%. Estate includes everything a person owns or controls, such as their home and investments, 401(k) and/or IRA, and the death proceeds of a life insurance policy.
Depending on the size of your parents’ estate when they die, all or a portion of the Heritage Trust will be excluded from your taxable estate. Exemptions and tax rates are always subject to change by Congress in the future. Discuss this with a qualified estate planning attorney after your parents have passed away.
Benefit #4: Protection for Grandchildren
If a Trustee does not exercise certain powers granted by the Heritage Trust prior to their death, the trust’s assets will pass on to their children. Alternatively, the Trustee could exercise these powers to leave the trust’s assets to their spouse, or perhaps only as an income or stated percentage each year until the spouse’s death. The balance would be passed on to the children.
NOTE: A will that merely says “I leave everything to my spouse,” without making specific references to a Heritage Trust and said powers, does NOT exercise these powers. A qualified estate planning attorney can help you create or modify a will that exercises the powers of a Heritage Trust.
Benefit #5: IRA “Stretch-out” Protection
A Heritage Trust facilitates the “stretching out” of any IRAs payable to the trust. In other words, this trust does not have to liquidate either parents’ IRAs upon their death. The Trustee is required to make certain minimum withdrawals based on their life expectancy. Just as their parents benefited from tax deferral during their lifetime, their child[ren] can benefit from further deferral.
Because a parent’s IRA is likely to grow in value over time, that IRA could partially fund their child’s retirement. This “stretch-out” is equally as important to Roth IRAs, as they are allowed to grow tax-free (not just tax-deferred) during the Trustee’s lifetime – even though minimum distribution rules apply to a Roth IRA after the death of the IRA’s owner.
Precautions for Trustees of a Heritage Trust
If you have been named Trustee to a Heritage Trust established by your parents, you should avoid these common pitfalls and costly mistakes:
- Do NOT roll over your parents’ IRAs into your own IRA.
This action will trigger tax on the parent’s IRA, and will trigger an illegal contribution penalty of 6% each year.
- Do NOT put any of your own assets into this trust.
If a Trustee puts their own assets in the trust, a court could find commingling and negate the benefits of the trust – even with respect to the inherited assets.
- Partner with an attorney who can advise on rapidly changing laws.
State law and the state court system may issue new guidelines on how Trustees can take distributions or use trust funds.
- Consult with a tax advisor on IRS regulations.
The trust may need to obtain a federal Tax Identification Number after both parents are deceased and file an annual income tax return, the Form 1041.
If you have any questions or concerns about a Heritage Trust, contact an elder law and estate planning attorney.
Assistance with a Heritage Trust
By serving as Trustee, you are in control. You decide how the assets of a Heritage Trust are to be invested. You make the distributions. In doing so, you may find it beneficial to consult with an experienced estate planning attorney to guide you through the process.
Beck & Lenox Estate Planning & Elder Law offers free consultations for parents who are interested in setting up this type of trust for their children. Located in St. Charles, Missouri, our founding attorney Rudy Beck and team are also available to consult with Trustees who have questions about their Heritage Trust.