Trusts can be a useful tool for affluent individuals and families when it comes to personal planning. A wide variety of trusts can be used to accomplish different objectives.

However, it can be difficult to determine which type of trust is best to use in a certain situation. The following is a brief explanation of trusts, followed by a look at how four different types of trusts can achieve specific financial and estate planning goals.

What’s a trust?

A trust is a legal document that dictates how an individual’s assets will be managed for another person’s (or other people’s) benefit(s). There are usually three parties to a trust: the grantor who creates the trust, the beneficiary (or beneficiaries) who’ll benefit from the trust and the trustee(s) who’ll manage the assets according to the trust’s terms and in the beneficiary’s best interests.

All trusts fall into one of two broad categories: living trusts and testamentary trusts. Living trusts are set up during an individual’s lifetime to transfer property to the trustee. Testamentary trusts are established as part of an individual’s will, and take effect after he or she dies.

Living trusts can be further categorized as revocable and irrevocable. With a revocable trust, the individual retains control of the trust’s assets and can revoke or change its terms at any time. With an irrevocable trust, the individual no longer owns the assets and, thus, can’t make changes to the trust without the beneficiary’s consent.

How can you achieve different goals?

Trusts can be used to achieve financial and estate planning goals that vary from person to person. The four popular trust types below illustrate only some of the available options:

Delaware statutory trust. Many affluent individuals, professionals and business owners use this trust to protect their assets from a loss resulting from a legal judgment, such as malpractice or personal injury liability. A Delaware trust also can be used instead of a prenuptial agreement by a spouse to preserve his or her assets in case of a divorce.

When using a Delaware trust, you transfer the assets you want to protect to an irrevocable trust — these assets can include cash, business ownership interests, real estate and securities like stocks and bonds. These assets generally will be protected from attachment by future creditors. Even though you must give up some control of the assets when you place them in the trust, you can retain some powers, such as the right to direct the investment of trust assets and to receive income and principal distributions from the trust.

Qualified terminable interest property trust (QTIP). This trust may enable your estate to receive the marital deduction while preserving your assets for other beneficiaries. Under normal circumstances, assets must be transferred to a spouse with no conditions in order for the estate to receive the marital deduction.

But, as long as your spouse receives all of the QTIP income for life, your estate can reap the benefits of the marital deduction while assets are preserved for your other beneficiaries, including children from a previous marriage.

Intentionally defective grantor trust (IDGT). This trust type offers a way to minimize gift and estate taxes when transferring ownership interest in a closely held business to the next generation. The key is that contributions of ownership interest to the IDGT are considered to be gifts. And this removes the assets and their future appreciation from your taxable estate.

Consequently, the trust’s income is taxable to you, not your heirs. As a result, trust assets can grow unencumbered by income taxes, which increases the amount of wealth your heirs may receive when you die.

Charitable remainder trust (CRT). This trust enables you to benefit both a qualified charity and your noncharitable beneficiaries, such as your children. You would place cash or property into the trust, and when you die, the remainder of the trust assets that haven’t been distributed to your noncharitable beneficiaries would be transferred to the charity. This is why it’s called a charitable remainder trust.

A CRT is quite flexible, and as grantor you have the ability, within certain limits, to dictate the terms. You may, for instance, receive annual income from the trust for the rest of your life or up to 20 years. In this way, a CRT can be a valuable tool for generating additional funds to supplement your retirement income from an IRA, 401(k) plan or other retirement savings account.

Or, instead, you may want to set up the CRT to benefit others. In that case, there’d be additional considerations, including possible gift tax implications. And you’d receive a charitable deduction when the CRT is created based on the present value of the charity’s remainder interest.

CRTs also can be useful for avoiding capital gains taxes when divesting highly appreciated assets like common stocks.

Seek professional guidance

Trusts can be complex, and making mistakes in establishing them can be costly. This makes it critical to seek guidance from tax and estate planning professionals when planning and implementing your trust strategies.