A trust is an estate planning tool that allows you to write rules for how your assets are to be distributed, both during your life and after you die.
Unlike a will, an asset that is in a valid trust avoids probate. In addition, a trust allows for more flexible inheritance distribution schemes. With a will, your only option is to give a gift all at once (outright) to a person. With a trust, you have the ability to determine when and for what an inheritance will be distributed. For instance, you can specify that a beneficiary is to receive the annual income from the trust assets (i.e., growth in the stock value) and at age 40, they are to receive outright the entire trust corpus.
There are several ways you can go about setting up a trust. A few common trusts are briefly described below:
Revocable Living Trust: This is a will substitute that you set up while you are still living. You re-title all of your assets into the trust name, and typically name yourself as trustee. You have complete control over the trust while you are living. Upon your death, the trust is distributed according to your wishes, and a successor trustee takes over (whoever you specify).
Testamentary Trust: This is a "dry" trust that is drafted in a will. Once your will is probated, the executor of the will is ordered to setup a trust or several trusts according to the terms of a will. A trustee then takes over. A testamentary trust does not avoid probate.
Irrevocable Trust: A more advanced trust, an irrevocable trust is used to reduce the size of your estate for federal estate tax purposes. The disadvantage is that you give up control over the assets in an irrevocable trust. Nevertheless, there are still opportunities to receive the income generated from the trust, while never being able to access the principal/corpus.
Retirement Trust: Another advanced trust, this trust is setup in such a way that will allow the "stretch" on an IRA that will be extremely beneficial to children or grandchildren. It also protects the asset from creditors, bankruptcy, etc., and prevents the beneficiary from taking a lump sum outright, therefore allowing the asset to grow tax-deferred or tax-free.
Special Needs Trust: There are several types of special needs trust. The idea behind these trusts are that a disabled or special needs person can qualify for public benefits, despite having available assets. With a special needs trust, the assets are technically not available to the beneficiary, since the assets go directly to vendors (i.e., but new medical equipment for the beneficiary). These trusts must be carefully designed to ensure state and local rules are followed.
Trusts offer great planning opportunities. You should consult with an estate planning attorney to determine what estate planning tools make the most sense for you and your family.