ESTATE PLANNING: Simple versus complex trusts

2013-05-25T12:53:00Z ESTATE PLANNING: Simple versus complex trustsChristopher W. Yugo Estate Planning
May 25, 2013 12:53 pm  • 

Q: What is the difference between a revocable trust and a simple trust? How do you know what type of trust you have?

A: What you are doing is comparing tax definitions with legal definitions. Unfortunately, legal and tax concepts don't compare easily. It's sort of like comparing apples and oranges. Sure they are fruit, but they aren't the same kind of fruit.

A revocable trust is a legal entity. It refers to a type of trust in which can be amended or revoked. The alternative to a revocable trust is an irrevocable trust. As the name suggests, an irrevocable trust is a trust that can't be revoked. If you have a trust agreement, it is one or the other.

On the other hand a simple trust refers to a federal tax designation. The alternative to a simple trust is a complex trust. The tax designation of a trust can be a bit confusing but it is generally determined by how income generated by the trust is distributed.

The simplest explanation, although not entirely all accurate, is this: if the trust has to pay all of the income to the beneficiary, and in fact does pay all of the income, it is a simple trust. If the trust isn't a simple trust, i.e. not required to distribute all of the income, it is a complex trust. Now this explanation is a bit simplified because there are some other limitations on simple trusts, but it is mostly correct.

Now just as a revocable trust can become a irrevocable trust, a simple trust can become a complex trust. If a trustee mishandles the income and fails to pay it out properly, the trust can become a complex trust, at least for that year.

An irrevocable trust can be either a simple or a complex trust. The best way to know for sure is to ask your attorney, or better yet, ask the trust's accountant.

A revocable living trust is taxed to the grantor and has no tax reporting requirements. As such, the issue of it being a simple trust or a complex trust never comes up.

In either case, I wouldn't worry about the tax designation. It really has very little effect on the beneficiary anyway. Let the accountant worry about it; they love worrying about those things.

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