Is an Unfunded Trust Valid?

A big part of planning for the future for many people involves estate planning. And that makes sense, too, because pursuing this route has many benefits for you and your loved ones. Having a properly executed estate plan in place can help to avoid a prolonged and pricey probate process, lower the amount of estate taxes required by federal and state law (or avoid these types of taxes altogether), create a smoother transition for your loved ones after your passing and reduce the likelihood that they end up fighting over your assets, among other potential benefits.  

One avenue within estate planning that many people choose to go with is creating a trust. A trust is a way to protect yourself and your assets. This can be done during your lifetime, or it can be arranged in such a way that it only takes effect upon your passing. In the latter case, this would be done for the purpose of eliminating the need for the aforementioned unnecessarily lengthy and costly probate process and providing your heirs or loved ones with future financial assistance for whatever uses you deem necessary. 

Key Takeaways

Types of Trusts 

There are three types of trusts: revocable living trust, irrevocable living trust, and testamentary trust. 

• a revocable living trust,  
• an irrevocable living trust and  
• testamentary trust. 

A revocable living trust is when the person creating the trust is still alive and can make changes to it or even revoke it altogether. An irrevocable living trust is when the person creating it is still alive but cannot make any changes to it and cannot revoke it. A testamentary trust is when the person creating it dies, and only at their death is the trust officially created and funded. 

Creating a Trust 

Creating a trust is a multi-step process. The first step is to take an inventory and account for your assets before you can decide which assets will be included in your trust. Trusts can include financial assets like cash, investment interests, stocks, and bonds. They can also include tangible assets such as real estate, jewelry, collectibles, and other physical objects that you may want to be taken care of by a trust either because those items have monetary value or because they have sentimental value to you and your family members and you want to see these items passed down rather than inadvertently discarded.  

You will then need to decide who you want to be, the beneficiary or beneficiaries of your trust. In other words, who do you want your trust to benefit? Do you want the assets you put into the trust to be passed on to your spouse or children? Would you prefer for your assets to go directly to a charitable organization that you support and want to support after your passing? Is there a loved one who requires professional care and for whom you want to ensure assistance will continue to be available after you’re gone? You can create a trust for any number of reasons, and these reasons will often affect who your beneficiaries are.  

Next, you will need to select your trustee or trustees. You can even select yourself as the trustee so that you can control your trust independently while you are still able to, and then appoint someone to be your successor trustee or trustees upon your death. 

Finally, you will want to create some rules for your trust and its management. You’ll want to decide how and when funds can be distributed. If, for example, you want to set aside some money for your grandchildren for college, will they only be able to receive that money if and when they get accepted into a university, or can they have it once they’ve graduated from high school regardless of if they go to college or choose to use it for another purpose? If you want to provide for your child’s future house downpayment, as another example, can they access that money if they choose to rent long term rather than ever buying? Can your child use your diamond engagement ring for their own proposal, or do you want them to hold on to it for the purpose of passing it down to their own children? There are many specific scenarios you may want to plan for, or you may want to leave the rules somewhat open for interpretation so that your beneficiaries can decide for themselves.  

If something happens to any of your beneficiaries before they can benefit from your trust, who are the other potential beneficiaries? In such an instance, would the trust assets revert back to the trust if they’ve been unused, or do they pass on to the next of kin? 

All of these steps are important for ensuring your trust is effective in achieving your goals. They are also important for ensuring that your trust is valid and cannot be successfully contested down the road. The other necessary step towards ensuring its validity is actually funding that trust. If a trust is not funded, it is essentially a meaningless instrument. 

Funding a Trust  

It is absolutely necessary to fund a trust for it to have any practical benefits. Funding a trust is the process by which you transfer your assets into the trust for safekeeping.  

Types of Assets 

There are, generally speaking, two umbrella types of assets under which all types of assets may be grouped: tangible assets and intangible assets. 

Tangible Assets 

Tangible assets may include things like jewelry and furniture. These can be transferred to a trust using an assignment of property form. By completing the form and assigning the objects in question to the trust, the trust is then funded. 

Intangible Assets 

Intangible assets can include things like stocks, bonds, and other financial instruments. In order to transfer intangible assets to a trust, it may be necessary to alter the ownership documents of the assets to include the trust as the new owner, or it may be necessary to go through other steps as required by the bank that holds the assets, for example. 

What is An Unfunded Trust 

Simply put, an unfunded trust is a trust to which no assets have officially been transferred. It is merely a legal instrument which was created and left empty and dormant. It does not have official control over anything and is not providing any sort of legal benefit if it remains unfunded. It is akin to having a bank account which is completely empty- putting fees related to minimum balances aside, if there is no money in your account it then that account is of little good to you.  

Is an Unfunded Trust Valid? 

Legally speaking, an unfunded trust is not valid if it is not funded at the correct time for the type of trust that it is. For example, if it is a testamentary trust, it does not need to be funded during the trustor’s lifetime. In fact, it only gets funded at their death, and this is the appropriate way for it to go. So, an unfunded trust at death is valid during the testator’s lifetime if it is a testamentary trust, but it will not be valid if it does not get funded at their death, such as through their will. 

On the other hand, an unfunded revocable living trust is not valid until it gets funded during the trustor’s lifetime. The trustor may add all their contemplated assets to the trust at one time, or they may choose to add more assets over time. However, until at least some assets are transferred to the trust, it remains invalid. In order to avoid this, the trustor’ will frequently transfer a small sum of money into their trust in order to validate it. The sum can be as minimal as $10. 

Distribution for Unfunded Trust  

An unfunded trust creates no protection for the trustor’s assets. If they pass away and their living trust is still not funded, their assets can be distributed to creditors or otherwise go through probate before they reach their intended beneficiaries.  

Illinois Trust Code 

Trusts are governed in Illinois by the Trust Code. The Code sets out many requirements, among which are: 

• Duty to administer the trust 
• Duty of loyalty 
• Impartiality 
• Prudent administration 
• Costs of administration 
• Delegation by trustee 
• Directed trusts 
• Control and protection of trust property 
• Recordkeeping and identification of trust property 
• Powers and duties of successor; liability for acts of predecessor; approval of accounts. 
• Discretionary powers; tax savings 
• General powers of trustee 
• Specific powers of trustee 
• Distribution upon termination 

So, as you can see from the list above, the Trust Code contemplates nearly every eventuality and lays out in specific terms who can do what, when, and how. This framework is necessary to ensure that this process does indeed create a smoother transition than what may happen during probate.  Otherwise, trusts would be of little use.  

Examples 

One of the most famous and commonly cited examples is Michael Jackson. He had set up a trust for his family, but the necessary step of actually transferring some of his assets to that trust was never taken, so those assets were not within the purview of the trust and therefore did not get legally covered by the protections the trust offered. His family ended up going through long, drawn out contested legal proceedings to try to claim his various assets.  

In Conclusion 

When creating an estate plan, being careful and meticulous about how and when to fund a trust is essential. Otherwise, it may do little to no good.