When deciding who you want to inherit your estate after you die, aside from figuring out who will get what, you'll need to determine how and when they'll get it. For adult beneficiaries, there are three options for giving them their inheritance: outright, in stages, or in a discretionary lifetime trust.
Leaving Assets Outright
For many people, giving adult beneficiaries their inheritance outright in one lump sum is the most simple way to go. Why? Because there will be no issues of control or access, just a matter of timing - in other words, once all of the decedent's final bills and taxes (both death taxes and income taxes) are paid, then what's left over will simply be distributed directly to the beneficiaries. But there are several drawbacks to this approach:
- If the beneficiary is bad with managing money, then their inheritance will be gone in no time.
- If the beneficiary is in a bad marriage, then their inheritance could be lost in a divorce settlement.
- If the beneficiary is in a high risk profession, then their inheritance could be taken in a lawsuit.
- If the beneficiary is already wealthy and has a taxable estate, then their inheritance will only add additional taxes to their own estate tax bill.
Thus, when considering the use of outright distributions to adult beneficiaries, the amount of the inheritance needs to be weighed against the beneficiary's age, experience, and family and financial situations.
Leaving Assets in Stages
Another option is to hold an adult beneficiary's inheritance in a trust fund and pay the beneficiary one or more lump sums in stages - in other words, when the beneficiary reaches a certain age or achieves a specific goal, then they'll receive an outright distribution of their inheritance.
For example, you could pay a beneficiary 50% of their inheritance when they reach the age of 25 and then the balance at 30, or 50% when they earn a college degree and then the balance when they complete graduate school. Meanwhile, the property held back in the beneficiary's trust fund could be used by the Trustee to pay for the beneficiary's college or graduate education, medical bills, a car, or housing and other day to day needs. However, once the beneficiary receives a lump sum distribution, the same drawbacks as leaving an entire inheritance outright will apply. Other drawbacks of using a staggered trust include the added costs of accounting and legal advice during the term of the trust and the fee that the Trustee will charge for services rendered in managing the trust.
Thus, when considering the use of a staggered trust, the amount of the inheritance must be weighed against the long-term costs of administering the trust (trust accounting and legal fees and Trustee fees) as well as the age, experience, and family and financial situations of the beneficiary.
Leaving Assets in a Discretionary Lifetime Trust
The final option is to leave a beneficiary's inheritance in a discretionary trust fund for their entire lifetime. There are many benefits to choosing this option:
- If the trust agreement is written properly, assets held in the discretionary lifetime trust will remain protected from divorcing spouses, lawsuits, and, if a corporate Trustee (a bank or trust company) is used, then from the beneficiary's own bad decisions and outside influences.
- If there's anything left in the discretionary lifetime trust when the beneficiary dies, you can control who will receive what's left.
- If the beneficiary already has a sizable estate, or if you want to create a lasting family legacy, then you can set up the discretionary lifetime trust as a dynasty trust that will avoid estate taxes in the estate of the beneficiary as well as in the estates of all of the beneficiary's descendants.
- You can designate a third party as Trustee while the beneficiary is younger to protect the beneficiary from bad decisions and outside influences but then make the beneficiary their own Trustee at an age when you think that they'll be responsible enough to take full control.
- On the other hand, you can designate a corporate Trustee (bank or trust company) during the entire term of the trust which will insure that the instructions you have left in the trust agreement for distributions will be carried out and prevent the trust fund from being distributed outside of your blood lines so that anything left in the trust fund at each generation will pass to your descendants.