What Is a Revocable Trust and How Does It Work?

A revocable trust (also called a revocable living trust) is a legal arrangement used in estate planning to manage and distribute your assets during your lifetime and after death.

You might want one in addition to a will because it gives you more flexibility, efficiency and privacy and could make life easier for your loved ones when you’re gone.

Let’s break it down:

• Revocable: Take-backs are allowed. You still have control over the assets in the trust and can make any changes you want, including terminating the trust and moving the assets back to your personal estate.
• Living: The trust is created while you’re alive.
• Trust: It’s a legal instrument that takes ownership of assets and allows a third party to manage them on someone’s behalf – in this case, you can be that third party and also the one the assets are managed for.

Still awake? It might not be the most exciting topic, but maybe this will pique your interest:

When Sopranos star James Gandolfini passed away in 2013, fans mourned, but estate planners cringed. “Tony Soprano” had a will, but apparently not a trust.

As a result, his enormous wealth transfer became public record, sparking headlines about who got what and all the potential problems it could cause. Much of that could have been avoided with a simple revocable trust, which keeps details private.

It might not shock lawyers and make international news if you don’t have one, but it could still be a smart choice. They’re not just for multimillionaires; let's get into why.

WHO’S WHO IN A REVOCABLE TRUST

Before we move on, you should understand the roles in a revocable trust:

• Grantor or settlor: This is the person creating the trust, whose assets will go into it. In this case, it would be you.
• Trustee: This is the person who manages the assets in the trust. With a revocable trust, it can be (and often is) the same as the grantor/settlor – so, still you.
• Beneficiary: This is the person on whose behalf the assets are managed. While you’re alive, it would again still be you. You would also designate beneficiaries for after you pass, and they would inherit the assets.

REVOCABLE LIVING TRUST VS. OTHER ESTATE PLANNING TOOLS

So, if James Gandolfini had a will, why wasn’t that enough? A Last Will and Testament is usually a pretty straightforward estate planning tool, as far as handing down assets. Without the additional step of creating a trust, it often doesn’t plan for estate taxes or put guardrails around how your beneficiaries will inherit your assets. This can be an issue if, for example, your kids are still minors (who can’t legally hold or manage property), you don’t trust your nephew not to lose the money on a bad investment or you don’t expect your daughter’s marriage to last.

Another potential problem with a will is that they’re public. When a person dies with a will, their estate still has to go through the court’s probate process. You may not be famous, but when anyone can see the terms of your will, claimants can start coming forward trying to get a piece of your wealth. Whether or not they prevail, it can make things difficult for your executor and heirs.

The probate process can take quite a bit of time and expense depending on where you live. Until the courts allow it, no one can legally get access to your assets even though your will dictates how your assets are to be distributed.

Here are a few scenarios where a revocable trust is usually recommended:

• You live in a state where probate is extremely expensive and time-consuming (for example, California)
• You own property in multiple states (because each property will have to go through a probate process in the state where it’s located)
• You own a business (which needs to continue to be managed, without waiting on the appointment of an executor)

TRANSFER ON DEATH ACCOUNT

A TOD account is another potential way to have brokerage investments privately bypass probate, by allowing you to name beneficiaries like you would for a retirement account or insurance policy. While extremely simple and usually free to set up, they do have some downsides:

• There may be no assets in your estate to pay your debts (medical bills, income taxes, funeral expenses)
• If there are debt claims against your estate, your beneficiaries might be called upon to give money back to pay them (unlike with a trust, where debts would be paid first before money is given to heirs)
• Each TOD order applies only to one account (or accounts at one firm)
• TOD accounts are only for liquid accounts, not other assets or real property

In short, they could be useful in very limited circumstances, such as if you have an only child or a sole beneficiary.

REVOCABLE VS. IRREVOCABLE TRUST: KEY DIFFERENCES

At this point, you might be wondering why trusts are widely believed to be complex instruments for the super-rich. Often, people confuse revocable trusts with irrevocable trusts, which are quite different.

A revocable living trust is like a will substitute – its sole purpose is to make things easier on your executor and heirs when you are gone.

An irrevocable trust is used to enable beneficiaries to inherit wealth. For example, it’s common for parents of young adults to direct a child’s inheritance into an irrevocable trust until a certain age. Irrevocable trusts might also be created for a special needs individual.

ADVANTAGES AND DISADVANTAGES OF A REVOCABLE TRUST

Pros:

• Avoids probate (saves time and allows more privacy for your heirs)
• Gives you flexibility (can be changed or revoked)
• Provides for management of your assets if you become unable
• Usually saves money (no probate court and attorney fees for probating the will)

Cons:

• Requires time and cost to set up
• Must be funded (you must proactively retitle assets into the name of the trust)

HOW TO SET UP A REVOCABLE TRUST

While you could theoretically set up a revocable trust on your own, you shouldn't. First, unless you’re an estate planning attorney, you can’t be sure the trust is correctly set up to fulfill the goals you have for it.

Equally as important, a revocable trust doesn’t stand alone. You should also have what’s known as a “pour-over will” to make sure all your assets that would be subject to probate make it into the trust at your death. You also need a durable power of attorney and a health care power of attorney.

But beyond that, estate planning involves other decisions, legal documents and strategies that all need to work together. And estate planning laws vary by state. An estate planning attorney (who can coordinate with tax and financial advisors) is necessary to ensure that your overall plan is solid.

If you think you should potentially have a revocable trust, here’s what to do:

1. Think about who you want to have control to manage your assets while you’re alive (it can be you) and who you’d like to control and manage them when you are deceased.
2. Make a list of all your assets.
3. Decide how you want your assets distributed when you are gone.
4. Meet with an estate planning attorney to talk about whether a revocable trust is right for you and, if so, have them draft the trust documents.
5. Review the trust documents with a financial advisor and tax professional to ensure alignment. If modifications need to be made, they should work together with your attorney to ensure you have the optimal set-up.
6. Fund the trust. Most of your existing non-retirement assets will likely be transferred, or retitled, into the name of the trust after you set it up. Your attorney should provide you with instructions on how to do this.

IS A REVOCABLE TRUST RIGHT FOR YOU?

Revocable trusts do cost money to set up, and they’re not necessary for everyone, but most people can benefit from one. Some people are especially likely to benefit from them. They could be right for you if:

• You have privacy concerns
• You own property in multiple states
• You live in a state where probate is especially tricky
• You have a complex family structure or dynamics
• You want your fiduciary to have quicker access to funds after you’ve passed away

Remember, your estate plan should work with your overall financial plan to meet your needs. In addition to having a will in place, take the time to explore whether a revocable trust may help make life easier for your loved ones when you’re gone.