Private Client Services Update – Lifetime Funding of Revocable Trusts for Couples: Avoiding Probate While Maintaining Creditor Protection
By Sarah E. Messersmith, Estate, Trust & Wealth Transfer
There are many reasons why clients create trusts. Of course, for decedents with significant assets, trusts can be an extremely important estate tax planning tool. Additionally, trusts can be a way to safeguard and administer assets that are inherited by a young child, an incapacitated adult or anyone who is unable to handle the financial responsibility associated with managing the assets or needs protection from losing assets in a divorce. If a trust is funded during life, the assets placed in trust are removed from the decedent’s probate estate at death.
Some clients incorrectly believe that if they create trusts, they automatically will be able to avoid probate. Therefore, it is vitally important that clients understand that using trusts to circumvent or simplify probate is only possible if the trusts are funded during the clients’ lifetimes. For married couples, funding trusts during life also ensures that the clients’ assets will be correctly allocated between spouses to properly fund the tax planning structure and ensures that the credit shelter trusts are not underfunded. It is relatively simple to fund a trust during a settlor’s lifetime, but it requires an investment of time and follow through.
In the past, a married couple with jointly held bank accounts, certificates of deposit, stocks, limited liability company interests and brokerage accounts often would sever the ownership of the accounts or assets and then have each spouse transfer his or her separate account or asset to himself or herself as trustee. Because the joint property was severed, the couple no longer received the tenancy by the entireties status, and such transfers of personal property to trusts resulted in a loss of the creditor protection afforded to tenancy by the entireties property. The couple was forced to choose between maintaining tenancy by the entireties creditor protection for the personal property and splitting the assets to fund their trusts. Now, Virginia Code Section 55-20.2 permits a husband and wife to convey personal property held by them as tenants by the entireties to their separate trusts, while still maintaining the same immunity from claims of separate creditors as if the asset had continued to have been owned by them as tenants by the entireties. Accordingly, this permits a husband and wife to continue to own the asset in a joint account with creditor protection, but at the time of the death of the first spouse, the deceased spouse’s one-half interest in the account does not pass through probate or pass to the spouse, but is administered under the terms of the decedent’s trust.
To avoid probate, real property owned by clients also should be conveyed to their revocable trusts during life. As above, under Virginia Code Section 55-20.2, real property owned by a husband and wife as tenants by the entireties also can be conveyed to their separate trusts, while still maintaining the same immunity from claims of separate creditors as if the property had continued to have been owned by them as tenants by the entireties. In the event that the real estate is subject to a deed of trust, it is extremely important to obtain permission from the lender prior to transferring the property to a trust or trusts.
Under current law, a married couple no longer needs to choose between continuing to own joint assets as tenants by the entireties with creditor protection and splitting the assets to fund their trusts during life. Both real property and personal property now can be conveyed to the couple’s trusts as tenants by the entireties. However, it is important for advisors and clients to work together to ensure that the trusts are in fact properly funded after creation so that the clients’ goal of avoiding probate is achieved.
Sarah E. Messersmith is an associate attorney at Kaufman & Canoles, where her practice focuses on wills, trusts and estates. Sarah’s work with clients ranges from the initial structuring and implementation of their estate plans to the resulting estate and trust administration. Her practice also includes working with owners of closely-held businesses and representation of clients in all aspects of real estate transactions. Sarah serves on the Board of Trustees of the Sarah Bonwell Hudgins Foundation and the Executive Council of the Virginia Bar Association Young Lawyers Division. She is a Peninsula native and works in the firm’s Hampton office and can be reached at (757) 224.2950 or firstname.lastname@example.org.
The contents of this publication are intended for general information only and should not be construed as legal advice or a legal opinion on specific facts and circumstances. Copyright 2023.