What Is the Settlor of a Trust? Roles & Responsibilities
Understand the settlor's pivotal role as the architect of a trust, from creating its legal framework to defining their ongoing control over the assets placed within it.
A settlor, also known as a grantor or trustor, is the individual or entity who creates a trust. This legal arrangement involves the settlor transferring control of specific assets to a trustee. The trustee then manages these assets for the individuals who will ultimately receive them, known as beneficiaries. The person creating the trust can be an individual, a group of people, or a company.
The Primary Role and Responsibilities of a Settlor
The primary responsibility of a settlor is to create the trust agreement. This legal document, often called a trust deed, outlines the terms and rules that will govern the assets. It specifies the purpose of the trust, names the parties involved, and details the powers and limitations of the trustee.
After establishing the legal framework, the settlor’s next duty is to fund the trust. This involves the legal transfer of assets into the trust’s ownership, which can include retitling real estate, changing ownership of investment accounts, or moving cash into a new bank account in the trust’s name. Without this transfer, the trust is an empty shell with no assets for the trustee to manage.
Finally, the settlor establishes the operational rules of the trust. These rules dictate how the trustee must manage, invest, and distribute the assets to the beneficiaries. The settlor can set specific conditions for distributions, such as beneficiaries reaching a certain age, completing their education, or other life milestones.
Key Powers Retained by the Settlor
The control a settlor maintains after a trust’s creation depends on whether the trust is revocable or irrevocable. For a revocable trust, often called a living trust, the settlor retains significant power. They can amend the trust’s terms, change beneficiaries, replace the trustee, or revoke the trust and reclaim the assets during their life. This flexibility allows the settlor to adapt the trust to changing circumstances, such as new family members or shifts in financial goals.
This control has direct tax implications. Since the settlor of a revocable trust has not permanently relinquished control, the trust’s income is reported on the settlor’s personal income tax return, using their Social Security number as the trust’s tax ID. The assets within a revocable trust are also considered part of the settlor’s estate for federal estate tax purposes upon their death.
In contrast, once a settlor creates and funds an irrevocable trust, they generally cannot alter its terms, change the beneficiaries, or revoke it. This action is final and is designed to provide asset protection and potential tax benefits that are not available with a revocable structure.
Because the settlor has relinquished control, the assets in an irrevocable trust are typically excluded from their taxable estate. The trust itself becomes a separate taxable entity, requiring its own tax identification number and the filing of its own income tax returns, known as Form 1041. Any income the trust generates is taxed at trust tax rates, which can be higher and more compressed than individual rates.
The Settlor’s Relationship with Other Trust Parties
The settlor is responsible for appointing the trustee, the individual or institution tasked with managing the trust’s assets according to the trust agreement. The settlor also formally names the beneficiaries who are designated to receive the assets or income from the trust. The trustee has a fiduciary duty to act in the best interests of the beneficiaries.
A common question is whether a settlor can also serve as the trustee. In many situations with revocable living trusts, the settlor does name themselves as the initial trustee. This allows them to maintain direct control over their assets while they are alive and capable. The trust agreement typically names a successor trustee to take over upon the settlor’s death or incapacitation.
It is also possible for a settlor to be a beneficiary of their own trust. This is a standard feature of revocable living trusts, where the settlor creates the trust to manage assets for their own benefit during their lifetime. In this arrangement, the settlor can effectively wear all three hats: creating the trust, managing the assets as trustee, and benefiting from them as the beneficiary.