DAVID J. WILLIS ATTORNEY
Copyright © 2015. All rights reserved worldwide.
Living Trusts in Texas
by David J. Willis, J.D., LL.M.
The living trust is a tried and true means of avoiding probate of the homestead. A trust of this type should be distinguished from other kinds of land trusts–for example, a pure anonymity/asset protection trust that has no probate objectives, or an investor trust that contemplates short-term acquisition of investment property or a transfer of underlying ownership by means of an assignment of beneficial interest (described in our companion web article on land trusts as entry trusts and exit trusts, respectively).
Suitable Uses for a Living Trust
A living trust that includes the homestead should be considered, along with a pour-over will, as part any middle class estate plan. Note that the emphasis here is on probate avoidance and not asset protection. Why? Because homesteads are already protected in Texas from forced sale to satisfy judgments. See Tex. Const. art. XVI, § 50; Tex. Prop. Code chs. 41, 42. So it is useful to generally distinguish between homestead-exempt assets (protected by statute) and investment assets (which are unprotected).
Should living trusts be used for the long-term holding of investment properties? Probably not, because trusts have no liability barrier as do LLCs. An LLC, in particular the series LLC, is better suited to holding investments.
On the other hand, it is possible to create a living trust which not only owns the homestead but acts as the sole member and manager of an investor's LLC. This advanced structure is most suitable for use with a holding company in a two-company asset protection plan.
Creating the Trust
There are three possible parts to the living trust process: (1) establishing the trust with a signed trust agreement; (2) executing and filing a warranty deed conveying the home into trust; and (3) executing a pour-over will to move miscellaneous assets into the trust upon death.
As with other trusts, a trustor establishes the trust and conveys property into it. A trustee (or cotrustees if husband and wife) is appointed to direct trust affairs on behalf of the beneficiaries (again, usually the spouses) and, upon the death of the last beneficiary, on behalf of one or more contingent beneficiaries (usually the children). Since title remains in the trust, and the trust does not die, the surviving beneficiaries "inherit" the trust property but without probate or other involvement by courts or lawyers. All that changes are the percentage beneficial interests in the trust, and this occurs automatically.
The doctrine of merger applies to living trusts for the homestead. Basically, the law does not allow you to convey your own property into trust to be managed by you for your own benefit. If the purported trustor, trustee, and beneficiary are all identical, then it is not a trust at all.
The trust agreement should state the trust’s purpose in general terms along the following lines: "to hold, preserve, maintain, and distribute the Trust Property for the benefit of the Beneficiaries, including but not limited to payment of expenses for their respective health, education, maintenance, and support as the Trustee, acting in his or her sole discretion, deems reasonable, prudent, and necessary." The trustee is charged with management of the trust. Texas law confers wide powers upon a trustee including selling and purchasing trust property.
The trustor should reserve the right to revoke or amend the trust. The terms of the trust are therefore not finally fixed until the trustor dies (or, in the case of husband and wife cotrustees, when the surviving spouse dies) at which time the trust becomes irrevocable and the contingent beneficiaries succeed to the entire beneficial interest. No deed or probate is required at that time. Even though Texas has an expedited probate process, the result may be a considerable saving of time, effort, attorney’s fees, and court costs.
The trust agreement, unlike the warranty deed that follows it, should not be recorded. It is a private and confidential document, the terms of which need not even be disclosed to the contingent beneficiaries. A brief "Summary of Trust Terms" or "Memorandum of Trust" is occasionally prepared to provide to third parties if deemed necessary by the trustee.
A spendthrift clause should be included that prohibits a beneficiary from assigning his or her interest in the trust to creditors.
Trust property may be of any type, whether personal or real, tangible or intangible, and wherever located. Additional property may be transferred into trust at a later date after the trust is established.
The trust need not formally assume existing liabilities on trust property in order for the transfer to be effective. Property can be taken "subject to" existing indebtedness (i.e., without the trustee taking any liability for the debt), or the debt can be wrapped. "Subject to" is more common.
Real property is conveyed into trust by general or special warranty deed recorded in the county clerk’s real property records. The deed should make certain specific recitals concerning the homestead nature of the property. Conveying the property by deed into the living trust is an essential part of the process since the trust agreement, by itself, does not transfer title.
Transferring property into a revocable living trust does not reduce a trustor’s assets for Medicaid purposes. Trust property is still counted by Medicaid as belonging to the trustor.
Preserving the Homestead Tax Exemption
The trust agreement should contain language that preserves (1) homestead protections available to the trustor pursuant to Texas Constitution article XVI, section 50 and Property Code chapters 41 and 42; and (2) any available homestead tax exemption whether currently on file or not. It is prudent to make these recitals in the trust agreement even though Property Code section 41.0021 states that transfer of a residence into a "qualifying trust" retains the homestead character of the property. Similar language should also be recited in the deed into trust so as to make it clear to the local taxing authorities that a living trust has been established for the homestead.
Mixing Anonymity Techniques with Living Trusts
It is not advisable to utilize anonymity techniques when deeding property into a living trust for the homestead. Why? Because such matters are likely to become an issue only after the trustor/trustee is deceased and therefore unavailable to sign any curative deed that a title company may demand. Accordingly, a trustee should always be named in any deed associated with a living trust.
Unlike investment land trusts, federal law creates a living trust exception to the enforcement of due-on-sale clauses on homesteads that remain owner-occupied. Garn-St. Germain Depository Institutions Act, 12 U.S.C. § 1701j-3. Due-on-sale is therefore not a factor.
It is good practice for the trustor to execute a last will and testament that contains pour-over provisions designed to convey into the trust any property that was not previously designated. In this way, the trust and the will work together as part of an overall strategy. It is also possible to have life insurance paid directly to the living trust. This may be advantageous for purposes of paying off liens on the homestead.
The Title Company
If and when the property is sold out of the trust, a title company will probably want to see the trust agreement. What if the trustor used a junk form from the Internet? It is possible that the title company will ignore the trust altogether and either require a deed from all heirs or a judicial determination of heirship–either of which can defeat the purpose of creating the living trust in the first place.
To facilitate a title company’s cooperation, the trust agreement should include release and indemnity language that a title company may rely upon in issuing title insurance. In rare cases, if all of the foregoing measures have been unsuccessful in obtaining a title company’s cooperation, it may be necessary to change title companies.
Drafting and Maintaining the Trust
The purpose of a living trust is serious business and should never be relegated to fill-in-the-blank or Internet forms, most of which are not specifically designed to comply with Texas law. Additionally, it may be necessary to make amendments to the trust agreement over the years, especially if one homestead is exchanged for another or if the names of beneficiaries change. Trust maintenance can be as important as trust formation.
Information in this article is proved for general informational and educational purposes only and is not offered as legal advice upon which anyone may rely. The law changes. No attorney-client relationship is created by the offering of this article. This firm does not represent you unless and until it is expressly retained in writing to do so. Legal counsel relating to your individual needs and circumstances is advisable before taking any action that has legal consequences. Consult your tax advisor as well.
Copyright © 2015 by David J. Willis. All rights reserved. Mr. Willis is board certified in both residential and commercial real estate law by the Texas Board of Legal Specialization. More information is available at his website, http://www.LoneStarLandLaw.com.