Setting Up a Trust for Your Child: Avoid These Mistakes

Many people’s first thought when they hear “trust for children” is of wealthy “trust fund babies” — a term that doesn’t have very positive connotations. Perhaps you’re imagining a spoiled kid who won’t have to work a day in their life. 

The truth is that many families of varying income levels set up trusts for their children as part of their estate planning. These trusts are generally not created with the goal of providing an endless source of extreme wealth to their children. Parents create them so their kids will be provided for if that horrible tragedy occurs and their child is left without living parents.

Should you set up a trust for your child?

If your child would receive a financial inheritance upon your death, then your estate planning could probably benefit from a trust.

Here’s what a trust can do:

• Protect your privacy and the privacy of your children. Assets that are properly placed in a trust don’t have to go through probate. When assets do go through probate, all the documentation about them and the probate process is part of the public record.
• Allow you to manage when and how your child receives any inheritance. As the original trustee, you can set the parameters — how old your child will be when they get access to the funds in the trust, what they can use funds for, etc. 
• Create a smooth transition if someone else needs to take over the trust. If you were to die and your assets had to go through probate, that process can take months (sometimes even years). Depending on the situation, your children may need access to funds more quickly. A trust allows for immediate and automatic administration by the successor trustee. 
• Protect funds in the trust from creditors. A carefully-structured trust can make it difficult for a creditor of the beneficiary (your child) to come after funds in the trust. This can be especially helpful if you suspect that your child may have some issues successfully managing their finances.

See: How to Set Up a Living Trust

5 mistakes parents make when setting up a trust for their child

If the whole point of creating a trust is to protect your assets and your children’s future, you want to make sure you do it in a way that meets your intent. 

Don’t make these common mistakes

Choosing the wrong successor trustee

When you create a revocable living trust, you serve as the trustee as long as you are able. When you die or become incapacitated, your successor trustee takes over. 

That person is responsible for administering the trust, managing any trust investments, and keeping appropriate records of their actions. 

If you’re thinking about guardians for your kids, you might be tempted to simply hand the role of successor trustee to, say, your brother because he’s the one you want to serve as guardian. It’s possible that your brother would be a great trustee, but it’s also possible that he won’t be. 

Here are some things to consider:

• Does the person you’re choosing have time to be the trustee?
• Can you trust them with the funds in the trust? 
• Do they have the right temperament for the job?

Let’s talk about that last one. Let’s say it’s really important to you that your daughter doesn’t have access to the funds until she’s 30 except for educational expenses. If your brother has a really hard time with conflict, is he going to buckle under the pressure when she asks to use the money to throw her wedding when she’s 28? 

See: How to Choose a Successor Trustee

Being unclear about your goals

That last example is the type of thing parents should be thinking about when they’re setting up a trust. Are there particular things they want their children to use the money for — or not use the money for? 

If you’ve always wanted to make sure your kids can afford college and a graduate degree if they want one, you might want to structure a trust to favor use for educational purposes. 

It’s important to know your kids too (which will come into play with the next mistake). If you have one kid who’s always spent her entire allowance in one place, you might want to consider more restrictions on how (and when) she receives the funds in the trust. 

Ignoring the trust after it’s created

If you create a trust when your kids are five and seven years old, what you understand about their needs might be completely different when they’re twelve and fourteen — and different still when they’re sixteen and eighteen. 

The same goes for the successor trustee you chose. Maybe since you chose your successor trustee, they’ve developed a problem with gambling or you’ve become estranged. 

Plus, you may have acquired new assets that need to be transferred into the trust. It’s best practice to check in on the terms of your trust once a year. 

Failing to protect the assets in the trust

You never know what’s going to happen. That’s just a fact of life, but trusts can protect against potential outcomes — like a child growing up to be irresponsible with money or a beneficiary going through a nasty divorce where their ex goes after trust assets. 

Spendthrift provisions in trusts put various restrictions on how trust funds can be distributed. For instance, a spendthrift clause could provide that payments may only be made by the trustee on behalf of the beneficiary. That way, the beneficiary has no access to and never receives direct cash payments. 

Neglecting to update beneficiary designations

Not updating beneficiary designations is one of the biggest mistakes lots of people make, whether they have trusts or not. Someone designates a beneficiary on their 401k when they start a new job, and they totally forget about it. 10 years later, their ex-spouse is still the designated beneficiary on the policy. 

It’s particularly important if you’re setting up a trust for a child. Minors can’t legally receive funds (like the proceeds of a life insurance policy or someone’s 401k). So if they’re the designated beneficiary on those policies, a probate court would have to appoint a financial guardian for that money. There could be tax implications as well. 

If your child’s trust is the designated beneficiary instead, the money can go directly into the trust. 

For many families, setting up a trust is an effective way to protect their children’s financial future. At Siedentopf Law, we work with families to create estate plans that work for them. Contact us to schedule a phone or zoom consultation online.