A discretionary trust is a very specific type of trust with a very specific purpose. Basically, the trustee of a discretionary trust, as the name implies, has a great deal of discretion regarding how the trust assets are handled. Unlike a fixed trust, beneficiaries and potential beneficiaries only receive distributions or allocations from the trust if the trustee exercises his or her discretion to do so. If you are considering including a discretionary trust in your estate plan, here are a few things to consider.
How does a discretionary trust work?
With a discretionary trust, the trustee has the authority to determine, within his or her discretion, which beneficiaries will receive benefits from the trust. The trustee of a discretionary trust also has the power to determine the extent of the benefits any given beneficiary. Though most discretionary trusts include both types of discretionary powers, you can also draft a discretionary trust that includes one or the other, depending on your goals.
Trustees have complete autonomy
A discretionary trust can also provide the trustee with the authority to add or exclude beneficiaries, thereby giving the trustee even more flexibility to deal with any unexpected changes in circumstances. Basically, with a discretionary trust, the beneficiaries are unable to compel the trustee to use the trust property in any particular way.
What are the duties of the trustee?
The duties of the trustee of a discretionary trust are quite different from the duties relating to a fixed trust. Essentially, the trustee’s duties are limited to deciding whether to exercise discretion, and in doing so, exercising that discretion lawfully and in compliance with the trust terms.
How is a fixed trust different?
Fixed trusts are a type of living trust that enables you to have much more control over the money and assets in the trust. Typically, beneficiaries of a fixed trust receive trust property based on a specific schedule established by the person who created the trust. The primary difference between a fixed and a discretionary trust is that the trustee of a fixed trust has little or no discretion to distribute trust property. In reality, the trustee of a fixed trust cannot modify the beneficiaries or the benefits they are due to receive.
Some of the benefits of a discretionary trust
Discretionary trusts are actually more common than fixed trusts. In fact, most family trusts are discretionary in nature. One of the great benefits of this type of trust is that its beneficiaries essentially have no interests that are in reach of creditors unless the trustee decides to pay those creditors from the trust for the benefit of a particular beneficiaries. The amount of protection trust assets may receive also depends on the existence of a spendthrift clause.
Who owns the assets in a discretionary trust?
In reality, the assets held in a discretionary trust are not owned by anyone. Although discretionary trust assets are legally owned by the trustee, the trustee does not actually own the assets. Nevertheless, the trustee must manage and protect those assets for the group of potential beneficiaries. Yet again, no beneficiary can demand an asset or trust income from the trustee.
Types of discretionary trusts
Discretionary trusts are generally divided into two categories: exhaustive and non-exhaustive. An exhaustive discretionary trust requires the trustee to distribute all of the income accruing to the trust fund. On the other hand, a non-exhaustive discretionary trust gives the trustee an express power to accumulate income.
What are the basic purposes of this type of trust?
Discretionary trusts serve a very useful function and are most commonly used for the following reasons:
- to provide protection to imprudent beneficiaries against creditors
- to impose more control over young beneficiaries
- to provide flexibility to respond to changes in circumstances
- to protect family assets from becoming a part of a divorce settlement
When property is transferred to a discretionary trust, you can be assured that the children will not be able to transfer the assets to another type of investment. This is very useful for those who want to see certain assets remain in the family.
Download our FREE estate planning checklist! If you have questions regarding a discretionary trust, or any other estate planning needs, contact the Northern California Center for Estate Planning and Elder Law for a consultation, either online or by calling us at (916) 437-3500.