Do I Need a Trust?

Introduction

Some people have the impression that “the smart money” uses trusts to minimize taxes. At very high asset levels, that may be true. However, most people probably do not need a trust. Unless your estate exceeds $30 million at death ($15 million if you are single), adjusted for inflation after 2026, then you will not be subject to federal estate tax. 

There are, however, a few other circumstances in which it may make sense to form a trust:

•          To manage complex situations: Trusts are useful for blended families (ensuring children from prior marriages are provided for), those with special needs dependents (through a special needs trust that preserves government benefits), or those who own property in multiple states (avoiding multiple probate proceedings).

•          For incapacity planning: A trust allows you to name a successor trustee to manage your financial affairs if you become physically or mentally unable to do so, without the need for court intervention (conservatorship).

•          To control asset distribution: Trusts offer more control over how and when beneficiaries receive assets. You can set specific conditions, such as reaching a certain age or achieving an education milestone, or structure payouts over time.

•          For privacy: Unlike a will, which becomes a public record after entering probate, a trust agreement remains private, keeping your financial details confidential.

The Downside of Trusts

Most people do not use trusts for these reasons:

Legal fees: Trusts are best written by experienced estate planning attorneys. Their services do not come cheap.

Administrative hassles: Existing taxable accounts typically cannot simply be shifted to trust ownership. At our custodian, Interactive Brokers, their Compliance Department requires significantly more verification, including a telephone interview, before moving assets into trusts. This is a lengthy and detailed process. 

Tax preparation fees: Every legal entity (tax ID) is required to file a tax return, usually including a Form K-1 (for irrevocable trusts), resulting in higher tax preparation fees.

Reduced flexibility: Once a trust has become effective, such as with the passing of the grantor (the person who formed the trust), or the funding of an irrevocable trust, it can be difficult or impossible to change the terms of a trust.

Complexity: Complying with the terms of a trust may require frequent referral to the trust document, and ambiguities may require expensive legal opinions. 

Revocable vs Irrevocable Trusts

Most trusts are “revocable trusts” that can be changed by the grantor. These trusts are “flow-through” entities for tax purposes—that is, they are “disregarded entities,” and the grantor is taxed the same as if the trust did not exist. These types of trusts are usually drawn up to become effective upon the death of the grantor. However, the trust document governs only assets placed in the trust. Many revocable trusts are never funded (see “administrative hassles” above), making the trust irrelevant. 

An irrevocable trust actually removes control of assets from the grantor. This reduces the size of the grantor’s estate subject to federal estate taxes, which is usually the point of the trust. There is a very significant downside, however. Taxes on irrevocable trusts are generally much higher than personal income taxes for the same amount of income because the tax brackets for trusts are highly compressed. Trusts reach the highest marginal tax bracket at a much lower income threshold than individuals do. For 2025, for example, the top federal income tax rate of 37% applies to:

• An irrevocable trust with taxable income over only $15,650, compared to
• A single individual with taxable income over $626,350. 

This significant difference means that income retained within an irrevocable trust is taxed much more aggressively than if that same income were earned by most individual taxpayers. 

Because of the high tax rates, it's often more tax-efficient to structure a trust so that income is distributed to beneficiaries. When income is distributed, the tax burden typically shifts to the beneficiaries, who are likely in lower individual tax brackets. This can help minimize the overall tax liability. Of course, this involves more administrative complexity and expense. 

Probate 

When someone dies, if there is a spouse, the decedent’s assets usually automatically become owned by the spouse. If there is no spouse, their assets generally become part of their “estate” unless they have been placed in a trust. “Probate” is the legal process by which a court ensures that the terms of the deceased’s will are followed. The steps generally include:

• Approving the will
• Appointing an executor
• Valuing all assets
• Paying all taxes and debts
• Distributing remaining assets to beneficiaries

All of this takes time and money. In Pennsylvania, probate is considered somewhat cheaper and quicker than is the case in most states, but on average it still takes 9 to 18 months. The direct costs of probate, including court filing fees and publication fees, are generally only a few hundred dollars. However, executors are allowed “reasonable compensation” of 2% to 5% of the estate’s value, and they usually hire an attorney, often for an additional 2% to 5% of the estate’s value. 

One of the primary benefits of a trust is the avoidance of probate. However, assets must be placed in a trust before death to avoid probate. Many wills include “pour-over” provisions that act as a safety net for assets that were not added to a trust during the decedent’s lifetime. However, the assets poured over must still go through probate. 

Named Beneficiaries

For many financial assets, it is not necessary to use a trust to bypass probate. Financial accounts often have specifically identified beneficiaries allowing them to avoid probate. This is especially true for IRA accounts and life insurance. The reason these accounts are not subject to probate is that account beneficiary forms take precedence over the will. Even taxable accounts can have beneficiaries, allowing them to also avoid probate. Such accounts are usually termed “payable on death (POD)” accounts. 

With financial accounts able to pass directly to beneficiaries without probate, the bulk of the assets subject to probate are often illiquid assets, such as real estate. With liquid financial accounts that avoid probate available to pay near-term bills, it may not be as important to avoid probate for the illiquid assets. 

Protection from Creditors or Lawsuits

One of the reasons for forming trusts may be to provide protection from creditors or lawsuits. However, only irrevocable trusts provide asset protection, since the grantor no longer legally owns the assets in the trust. Revocable trusts provide no asset protection. 

Tax Minimization

The primary tax benefit of a trust is getting assets out of your estate to avoid federal estate taxes. That requires using an irrevocable trust. If your estate is likely to be above the federal exemption of $30 million for a couple filing jointly or $15 million for a single taxpayer, it almost certainly would be worth hiring an experienced estate planning attorney to do this. 

Even an irrevocable trust will not avoid Pennsylvania inheritance taxes, however. The PA inheritance tax is based on the assets passing to beneficiaries, and is assessed based on the relationship of the beneficiary to the decedent. It does not matter that the irrevocable trust took the assets of out of your estate—PA will still tax the inheritance of those assets. 

Summary and Conclusions

• Unless your estate is above $30 million ($15 million for singles), adjusted for inflation after 2026, you do not need to use a trust to avoid federal estate taxes.
• However, there are other circumstances that may make forming a trust attractive:
1. You want to be sure your children from a prior marriage will inherit your assets after you and your current spouse are both deceased.
2. You have a special needs child who requires a special needs trust.
3. You have no children and want you and your spouse to be cared for in case of your incapacity in old age.
4. You want to control the timing and amounts of inheritances for your children and ensure that assets will not go to their former spouses.
5. You have assets in multiple states and want to avoid probate in all of those states.
6. You want to avoid public disclosure of your assets and your will.
• Most people conclude that they do not need a trust in light of the negatives:
1. Legal fees
2. Administrative hassles
3. Tax preparation fees
4. Reduced flexibility
5. Complexity
• Trusts are “revocable” or “irrevocable”
1. Revocable trusts, even if funded, do not change the taxes of the grantor.
2. Irrevocable trusts remove assets from the grantor’s estate, but they also remove control of the assets.
3. Assets in irrevocable trusts are taxed much more aggressively than individually owned assets.
• Assets in a trust of either type will avoid probate, but the assets must be placed in the trust before death.
• Financial accounts with named beneficiaries (IRAs, PODs, life insurance) also avoid probate.
• Pennsylvania inheritance tax (4.5% for lineal descendants) will still be owed on assets inside a trust.