Estate Planning: Trusts and Transfer on Death (TOD)

Understanding when to use a trust versus a transfer on death (TOD) instrument

COMMENT: I read your recent article about trusts and beneficiaries of trusts. You mentioned that “If you have a revocable trust, as the beneficiary you have the right to amend the trust and update it to decide who can serve as trustee and who should be the beneficiary under the trust.”

I’m not aware of any provision that allows a trust beneficiary to amend a revocable trust unless they are also the grantor. Based on the above it seems like you are saying that simply being a beneficiary allows for such powers. Perhaps you meant to say “as the Grantor…”

Amending a trust

ILYCE AND SAM RESPOND: In most living trust situations, you have the person who creates the trust (the trustor), the person who runs the trust (the trustee), and the person who benefits from the trust (the beneficiary).

When most people create a trust, they choose a living trust where the trustor, the trustee, and the beneficiary are all the same person. In this situation, that person can do as they please with the trust so long as the trust they created is a revocable and amendable trust.

In other types of trusts or other situations, the trust terms may not allow changes or revocations. The particulars of the trust may prevent the beneficiary from making changes to the trust.

Let’s say you set up a trust to care for a child. The trustor may be a grandparent, the trustee may be the parent and the beneficiary would be the grandchild.

Don’t give a minor child the power to amend a trust

You wouldn’t expect to give the grandchild the power to amend the trust. You’d expect the trustee to handle the affairs of the trust in order to care for the grandchild. You would also expect that the trustee would not have the ability to amend that trust and distribute funds other than for the care of the grandchild. In this situation, the grandparent might have retained the power to change the trust terms and only the grandparent could make changes to the trust while they were living.

We should have been clearer in our last article and let our readers know that when they set up their own trust, they should retain the right to amend or revoke the trust as they see fit – if that is the type of trust they want to have.

Having said that, there are a variety of trusts for different purposes and if you should consult an attorney that concentrates their practice in the area of trusts for more information. Thanks for your comment.

More on Inheriting Property and Transfer on Death Instruments

COMMENT: In your response to a recent question about inheriting a house, you neglected to mention that there is a transfer on death instrument (TOD, and sometimes referred to as TODI) for real estate. The TOD would transfer ownership of real estate upon the owners’ deaths without going through a trust or probate court. It is prepared and recorded similar to a deed, and works very well if all other transfer on death accounts are properly prepared.

ILYCE AND SAM RESPOND: While you are correct that TODs or TODIs are an option for many types of financial accounts, we’re not big fans of TOD instruments when it comes to real estate. They work in some situations but can have unintended costs for the heir who received the property that way.

Avoid Probate with a Transfer on Death (TOD) Deed

For example, let’s say a father owns a home and puts in place a TOD, naming his daughter as his successor owner upon his death. And then, he dies. A TOD might work quite well if the daughter lived in the home before his death, and plans to continue living there for several years before selling. However, if the daughter plans to immediately sell the home, she may pay some extra fees when she sells the home.

Why? Depending on where you are, some title companies may charge an additional risk premium to ensure that the buyer gets good title to the home. The title company may require this to cover the risk that estate expenses, such as medical bills or funeral expenses, could become liens against the property. When the daughter tries to sell the home, she would need to pay off the father’s debts, including the mortgage and any estate debts that came about from his death. Otherwise, they could become a problem for the subsequent buyer.

Should You Have a Transfer on Death Deed, a Living Trust or Both?

Let’s be clear: TODs allow ownership of the home to flow from one person to another. But it doesn’t discharge a mortgage obligation. For example, let’s assume the father had a mortgage on the home when he died. The TOD would allow ownership of the home to flow to his daughter. But, she would own it subject to that mortgage loan. The mortgage debt does not go away.

When a property goes through probate, the probate court would oversee the deceased father’s estate. The heirs would receive the transfer clear of any debts of the estate. The daughter would still have the father’s mortgage on the home and would have to continue to make mortgage payments, but she wouldn’t have to worry about other estate debts.

Likewise, when the father used a living trust to name his daughter as the owner of the home upon his death, the trust document separates the father’s personal estate from those assets owned by the trust. The trust can transfer ownership of the home without the deceased father’s possible debts. The mortgage debt would continue and the daughter would have to make monthly mortgage payments until she sells the home and pays off the loan.

Are Transfer on Death (TOD) Deeds Smart?

We agree, it’s technical. The father’s medical expenses, funeral expenses and other personal debts were personal to the father but not the trust.

So, if the daughter received title to the home by means of a TOD and funeral costs or medical expenses were not paid, she could end up being liable for those expenses. For this reason, when the daughter sells the home within two years of her dad’s death, the settlement agents or title companies may charge her a hefty fee for doing the closing. The settlement company will want extra cash to cover themselves in case some unexpected debt pops up and needs to get paid.

Thank you for the comment.