The Types of Trust Funds for a Minor

by Tom Streissguth
Trusts can benefit young heirs who aren't quite ready to handle money.

Trusts can benefit young heirs who aren't quite ready to handle money.

Darrin Klimek/Digital Vision/Getty Images

By setting up a trust, you can place assets under the control of a trustee, for the benefit of another person, whether an adult or a minor. A trust has several advantages for the beneficiary and the person who sets it up: The trust does not have to go through probate when the grantor dies, and -- depending on how it's set up -- it allows the grantor to avoid taxes on income generated by the trust assets. There are several different types of trusts that can benefit a child who's not yet ready to handle financial responsibilities.

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Generation Skipping

Trusts give the grantor control over how assets are distributed to heirs. In a generation-skipping trust, for example, a grantor instructs the trustee to distribute income for the benefit of grandchildren. This structure would help a grantor keep assets intact through at least two generations, and prevent his own children from dissipating assets solely for their own benefit. The children of the grantor may still have access to the trust, but for the purpose of supporting their own children. The IRS levies a "generation-skipping transfer tax," however, on any inheritance set up in this way.

Personal Residence Trust

With a qualified personal residence trust, a grantor can gift his residence to his children, while remaining in the home for a period of time set down by the trust. The IRS rules take the interesting view that the home will depreciate in value over time, using interest rates, the grantor's life expectancy and other factors in the calculation. When the children take possession, this shrinks the amount of the grantor's estate subject to the "unified" gift and estate tax. In 2014, this tax reached up to 40 percent on amounts above a $5.34 million exclusion. However, if the grantor dies before the trust conveys the house to the children, the IRS wants the full market value of the house counted for estate tax purposes. If, on the other hand, the trust expires and the grantor remains among the living, he must either move out or pay rent to the children to remain in the house -- otherwise the full market value is counted for estate tax purposes.

Trust-Bound Life Insurance

In trust language, an "irrevocable" trust is one that the grantor may not change or revoke. This kind of trust offers some estate tax advantages; an irrevocable trust that includes a life insurance policy, for example, removes the death benefit from the estate, since the IRS considers an irrevocable life insurance trust to be the legal owner of the policy. If a grantor's children are the beneficiaries, they receive the full, tax-free payout upon the grantor's demise. In the meantime, the grantor may not change beneficiaries or borrow against the policy.

Pot Trusts

If a family has several children, the parents can set up an equitable division of their assets by using a pot trust. A pot trust is designed to hold all the parents' assets in trust, after the death of a surviving spouse, and until the youngest child reaches a certain milestone. This could be the age of 18, or graduation from college. In the meantime, trust assets benefit children who have not reached the milestone -- thus guaranteeing their continuing financial support as a minor. A pot trust can also be designed to assist a special needs child who requires greater financial support for living expenses, medical treatment and physical therapy.