In order to be revocable by the settlor, a revocable trust must obviously be an inter vivos trust (or “living trust”). The Revocable Living Trust (or “RLT”) is a popular estate planning device because of many advantages it has over a will-based plan. The two main benefits of a RLT are (1) probate avoidance and (2) management of assets during incapacity.
Probate avoidance with a RLT is often sought to reduce costs, to reduce delay, for greater privacy, and to reduce the risk of the plan being contested or of other disputes among family members (partly because court is avoided, and partly because a lifetime-implemented plan provides better evidence of intent. A trust may also help conceal ownership of property and provide a means for centralizing and then delegating financial management. These benefits must be weighed against the possible benefits of judicial supervision in probate, particularly where successor trustee options are limited and where the client is not likely to maintain the estate plan properly during life. On the other hand, even a will-based plan usually requires some maintenance.
Without planning, a conservatorship may be necessary in the event of incapacity. Court appointment of a conservator to manage assets is a difficult, embarrassing and expensive process—easily avoided if the assets are in a trust and a successor trustee can take over management. Another option is using durable powers of attorney; however, authority can be less certain with these documents and institutions tend to prefer dealing with a trustee that holds legal title.
The trust instrument should describe the settlor’s power to revoke with specificity. The California presumption of revocability is contrary to the majority rule in the US, and applies only if the settlor is domiciled in California when the trust is created, or the trust instrument is executed in California, or it provides that California law governs. There can also be a conflict between state and federal law—for example, under California community property law, either spouse can revoke a two-settlor trust as to community property; however federal courts treat each settlor of a two-settlor trust as settlor only of his or her one-half interest in the community property, and therefore, absent provision to the contrary, the survivor has no right to revoke the trust as to the decedent’s share of community property.
Revocation is accomplished according to trust terms. Absent contrary provisions, a trust may be revoked by a writing signed by the settlor (but not a will), delivered to the trustee during the settlor’s life.
What if the settlor is incapacitated? If a conservator is appointed, the court can be petitioned to authorize the conservator to revoke the trust, but only if no contrary intent is expressed in the trust instrument. There are a lot of negatives to conservatorship and that process can usually be avoided with a combination of a well-funded trust and a well-drafted durable power of attorney. The settlor may wish to give the agent under that power of attorney (called the attorney-in-fact, or simply agent) the authority to revoke the trust; if so, under the Trust Law the authority must be included not only in the power, but also in the trust instrument.
A settlor holding the power to revoke will be treated as owner of the trust for income tax purposes, and also for estate tax purposes if the settlor dies holding the power. When a settlor transfers property to a trust while holding such a power, the transfer will not be treated as a completed gift.
When a revocable trust is funded with community property, the spouses are typically joint settlors of a single trust. Maintaining the character as community property usually has a tax benefit in that both halves of the community property will receive a step-up in basis when one spouse dies, reducing capital gains tax. Unless the trust provides otherwise, community property will retain its character after it is transferred to trust but only if the trust includes both of the following provisions: (1) that the trust is revocable as to the community property during the marriage, and (2) that the power to modify the trust as to rights and interest in community property may be exercised only with consent of both spouses. Fam. Code §761(a).
When the trust is to be funded with both separate and community property, there are several options. All of the property can be placed in one mixed trust, with subtrusts maintaining the character of each class of property; or, separate trusts can be created for each property class; or, the spouses may choose to transmute all property into community property and place in a single trust.
The trust instrument may be in the form of either a declaration of trust by the settlor, or a trust agreement between the settlor and trustee (typically with settlor signing in both capacities). Either form is effective in creating the trust.
Typically the settlor will serve as initial trustee (or spouses will serve as co-trustees), and the trust instrument should name successor trustees and alternate mechanisms for naming them should a vacancy occur. (A court can always be petitioned to fill a vacancy, but going to court should generally be a last resort.) The instrument should also lay out the process for replacing an incapacitated trustee. Selecting successor trustees is one of the most important decisions in estate planning, and many factors go into this decision.
The trust instrument should name family members and include birth dates, and provide for disposition of income and principal during the settlor’s life and afterward, either outright or in irrevocable trusts.
The Probate Code provides for equitable proration of taxes among the beneficiaries; however, the instrument may override these rules.
The instrument may include disinheritance and no contest clauses. A disinheritance clause will disinherit someone who is otherwise entitled to inherit, either an omitted spouse or omitted child. The disinheritance clause should be in both will and trust instrument.
A no-contest, or “in terrorem” clause is designed to discourage litigation by penalizing a beneficiary for contesting the plan. Rather than including as boilerplate, these clauses should be drafted carefully to conform to a particular client’s wishes and specificity is required as they are narrowly construed, for example with regard to whether they will apply to amendments.
The trust instrument should contain a detailed statement of trustee powers, rather than merely citing code. This is mainly to educate third parties involved with administration, as well as the settlor who may wish to customize the powers during the drafting process.
Apart from signatures of settlors (and trustees, if a trust agreement), there is no testamentary formality required as there is with execution of a will. Notarization is not required but will help with authentication. Notarization is required for any document to be recorded, but for privacy reasons a certification of trust will likely be preferred for recording.
Trust assets are typically listed in a schedule attached to the trust. Separate property of each spouse, community property, and quasi-community property should be listed on separate schedules.