Land Trusts in Texas

Dyches Boddiford & George Yeiter.
Trusts have been used as an entity to hold assets, such as real estate
for hundreds, if not thousands, of years. Obviously, it’s old stuff. But,
with each generation’s trials and tribulations, trusts evolve to meet new
challenges.

High Taxes and aggressive litigation are today’s motivators. Tax risks
range from income tax to draconian death taxes that consume up to
55% of the assets a person leaves behind. Trusts are often used along
with more modern adaptations of other old entities, such as partnership
aberrations, to include family limited partnerships and limited liability
companies. The quest is to keep what you have accumulated and to
have some extended control of it, even after death.

A perfect example of using ingenuity to keep one’s assets away from
the grips of the tax man was a trust established by Maria Cristofani in
1984. Maria established a trust and transferred to it real estate with a
value of $70,000. The primary beneficiaries were her two children
and, as contingent beneficiaries, 5 grandchildren should the two
primary beneficiaries die within 120 days of Maria. All was fine until
Maria died and the IRS audited her estate tax return.

Naturally, the IRS wanted more money. They claimed that Maria
failed to file a gift tax return and owed back gift taxes. The IRS argued
that Maria was entitled to give $10,000 per year to the two primary
beneficiaries, but that taxes were owed on the $50,000 not excluded.
The estate disagreed, claiming that the 5 contingent beneficiaries did
have an interest in the trust. The trust had a Crummey power and, in
accordance with that power, the trustee had given written notice to all
7 beneficiaries of their right to withdraw. Thus, the full $70,000 was
excludable.

This means that multiple-beneficiary trusts now can be used to expand
the fit-tax exclusion. It took someone with a tolerance for risk to mix
old law, and an old trust entity with a new way of looking at the old to
save Maria’s family substantial wealth.

Over the years trusts have been used extensively in the attempt to
control how much the government inherits. Some of the more familiar
trust names include: Bypass Trust; Marital Deduction Trust;
Generation Skipping Trust; Grantor Retained Income Trust; Insurance
Trust; etc. The common thread for all of these trusts is to legally avoid
paying the majority of the deceased’s wealth to the government.
Failure to act is to assure that the estate will pay the highest possible
tax.

A NEED FOR PRIVACY

Real Estate Investors often use trusts as business devices. It is hard
persons never being in business to understand, but business can be
war. There is an ever growing number of enemy soldiers attempting to
invade and plunder the investor’s castle of wealth. Sometimes this is
accomplished by out and out illegal means, such as thieves that rob
and destroy property or those who embezzle by not paying rent. The
cruelest enemy is he who uses the law to plunder. Today, lawsuits are
treated as a lottery.

Enemy troops look for excuses to sue; it is nearly a guaranteed profit.
If a person can find some excuse to sue, even if very flimsy, the
defendant will almost always settle for at least a few thousand dollars
because it is cheaper to settle than to incur the cost of legal defense. It
has become so bad that in some cities, such as Buffalo, NY,
unscrupulous people publish lists of landlords and divulge such things
as the number of properties, the number of units and the total value of
real estate owned. Why? Because contingency fee lawyers will not
spend the time and money to go after someone with minimum assets.
They look for the ‘fatted lamb’.

LAND TRUSTS

A result of this attack is a defense system. Trusts are used by some
investors as a key part of their defense. The most common trust used
in real estate investing is referred to as an Illinois style land trust. The
primary purpose is to remove the legal title from the investor’s name.
The title is held in the name of a trustee and the investor is both the
grantor and the beneficiary to the trust. the trust does not offer the
same kinds of protection a corporation or limited liability company
can, but it has a place in the castle’s defense and is the most
economical of all entities to set up and maintain.

Legal advisors often recommend trusts be used in conjunction with
other business entities assuming the amount of wealth involved is
sufficient to justify the cost of the business entity. Trusts, on the other
hand, are usually very economical. An attorney prepares the original
trust and it can be duplicated for additional use. The fee to have a
knowledgeable attorney prepare a land trust can range from $300 to
$1,000. Some of us do our own trusts, but a great deal of knowledge
must be obtained before you consider doing this. There are no
additional expenses, such as franchise fees or income tax returns. A
land trust is reported on the beneficiary’s tax return as if the beneficiary
personally owned the property.

OTHER TRUSTS

There are numerous possibilities for the name given to a trust. Such
names are often chosen to reflect the primary function of the trust:
Education Trust; Wealth Replacement Trust; Charitable Remainder
Trust; Spendthrift Dynasty Trust, etc.

Since names are assigned to trusts the public can get the wrong
impression. It is often assumed that a named trust is like any other
consumer good, such as the name ‘car’ or ‘truck’. A person wants to
buy, say, a car but not a truck. They want a Spendthrift, but not an
Education Trust. Actually all trusts are just trusts. The primary thing
that differentiates them are clauses written into the trusts. For example,
a single clause will turn an education trust into a spendthrift education
trust.

The point is not to let names become confusing. The fundamentals of
trusts are simple to comprehend. First, all trusts are either inter vivos
or Testamentary. Inter vivos trusts are set up while the grantor is alive
and are often referred to as a ‘living trust’. The testamentary trust, on
the other hand, is set up after the person’s death by authority written in
the deceased’s will. All trusts will be either an inter vivos or a
testamentary trust.

REVOCABLE & IRREVOCABLE TRUSTS

Inter vivos trusts are either revocable or irrevocable. Revocable means
the grantor can either revoke the trust or else maintain some
significant power to maintain control of the trustee or use of the trust
assets. Irrevocable means the grantor totally gives up rights and
powers and walks away entrusting to the trustee all of the assets in the
trust, referred to as the ‘corpus’.

The government treats most inter vivos revocable trusts as grantor
trusts. As previously mentioned, grantor trusts are reported on the
grantor’s tax return. Irrevocable trusts have more complex tax returns.
in a nut shell, they are either a simple trust or a complex trust for tax
reporting purposes. These returns are best prepared by professionals.

Most investors will be dealing with inter vivos or living trusts. Trusts
used to hold operational real estate will generally be revocable, grantor
trusts. These trusts are more for operational purposes that estate tax
planning purposes. In general irrevocable trusts will be used to deal
with estate tax planning.

Depending on the client’s objective, the attorney will draft a base trust
to emphasize certain objectives, such as children’s education , or a
land trust. Examples would be an education trust that is an irrevocable
inter vivos trust and the land trust that is a revocable inter vivos trust.

COMMON CHARACTERISTICS

Some common characteristics of the living trust are:

Assignment - In certain cases trusts can be assigned to third parties
without changing the public records. Thought we do not recommend it,
some real estate investors have used this feature in dealing with due on
sale clauses of mortgage contracts.

Assurance - The trust may provide greater assurance that the grantor’s
wishes will be met. Wills are more easily contested by disgruntled heirs
and “want to be” heirs.

Avoids Guardianship of the Assets - Using a Trust the
grantor/beneficiary has greater assurance that his assets will be
managed in a manner prescribed by him and will be spent as he
instructs in the trust document. If a trust does not exist and a guardian
is appointed by the courts, then the courts and guardian make these
decisions with no input from the incapacitated party. A guardianship is
more expensive to administer than a trust since the Court usually
requires a periodic accounting by the guardian.

Incapacitation of Trustee - If the owner of the property becomes
incapacitated, managing assets can become a problem. A trust allows
for an alternate trustee to step into the shoes of an incapacitated
trustee without affecting management of the property.

Limited Liability - There is no significant liability protection. At best,
the trust provides greater privacy as to who is the beneficiary. In most
states living trusts are treated as the alter ego of the grantor. As such,
liability may be attributed to the grantor.

Privacy At Death - Ownership transferred upon the death of the
grantor/beneficiary of a trust is private when contingent beneficiaries
are listed. Unlike a will, which is probated, a trust document does not
become public record. Land trusts typically do not have contingent
beneficiaries and, therefore, any property held in the trust would simply
be included in the deceased’s probated estate.

Privacy While Living - Some real estate investors wisely seek privacy
regarding the ownership of their real estate. They do not want their
name as the owner of the public property records which would allow
anyone to know how much wealth they owned in real estate and
where that real estate is located. It can also cause a serious operational
problem. For example, a judgment against the investor even for a
small amount would give the judgment holder immense leverage
diminishing the investor’s opportunity to negotiate a lower settlement
on the judgment. The judgment attaches to all of the investor’s real
estate. This would prohibit the investor from selling any real estate
without first paying the judgment in full.

Probate - Where a trust has contingent beneficiaries listed, costs
associated with probate are avoided since the trust is not probated at
death.

Taxes (Income) - There is no tax benefit. The tax information is
reported on the grantor’s personal tax return.

Taxes (Estate) - The Irrevocable trust, Insurance trust, Bypass trust
and Marital Deduction trust are the most common trusts used to save
estate taxes. Note that an irrevocable trust is a book trust and can be
used for many purposes, such as the trust names indicate, Charitable
Remainder Trust and Spendthrift Dynasty Trust. The revocable land
trust saves no estate taxes.

To find out more about Landtrust and Equity Transfers Using Landtrust, Click Here.