How Does a Pot Trust Work?

(Yahoo Finance) - A pot trust is a type of trust that lists children as beneficiaries, with the trustee using his or her discretion as to how trust assets should be spent. If you have minor children, you might consider setting up a pot trust to meet their financial needs if something should happen to you. This type of trust allows you to create a single pool of assets to be used for the benefit of multiple children.

A pot trust can offer more flexibility in terms of how trust assets are used if you plan to leave your entire estate to your children. Consider working with a financial advisor if you’re exploring which type of trusts best protect your children.

Pot Trust, Definition

A pot trust, also referred to as a discretionary, sprinkling or common pot trust, is a type of trust that can be used by families to pass on assets. With this type of trust, minor children serve as beneficiaries with a trustee that oversees the management of trust assets. The trustee has discretionary power to decide how the trust funds are used to pay for the care and needs of beneficiaries.

For example, say you create a family pot trust for your three children and one of them experiences a medical emergency. The trustee would be able to authorize the use of trust funds or assets to cover those costs.

Flexibility is a key characteristic of family pot trusts. Assets are distributed based on the children’s needs, rather than setting specific distribution rules as to who gets what. You might consider this type of trust over other types of trusts if:

  • You have two or more children

  • At least one of those children is a minor

  • You plan to leave your entire estate to your children when you pass away

Having this type of trust in place can offer reassurance in the event that something happens to you.

How a Pot Trust Works

Pot trusts can be established for children when you plan to leave all of your assets to them. Generally, a pot trust terminates when the youngest child included as a beneficiary reaches a certain age. For example, you may set the trust up to terminate when they turn 18, 21 or 25.

As long as the trust is in place, the trustee can use their discretion to decide how trust assets may be used to provide for the beneficiaries’ well-being. So, for example, if one of your children has special needs, the trustee could use trust money to pay for any associated care costs. Or if one of your children requires extensive orthodontic care then the trust could be used to cover those expenses.

The purpose is to meet the financial needs of individual children as they arise. There’s no requirement for trust assets to be divided equally among them. Once the youngest child reaches the required age, the trust terminates and any remaining assets are distributed among the beneficiaries.

Pros and Cons of Pot Trusts

Pot trusts can offer an advantage to parents who want to ensure that the needs of their children will be met should something happen to them. If both parents were to pass away, a pot trust could provide money to cover basic living expenses as well as other costs that might arise. You can decide when the trust should terminate, based on the ages of your children. And children can still receive distributions from the trust once it terminates, assuming all trust assets have not been used up.

In terms of downsides, pot trusts don’t ensure an equal distribution of assets among multiple children. Again, the purpose of this type of trust is to manage financial needs as they come up. So if one of your children needs surgery but the other remains healthy, the one who required surgery may receive a bigger share of trust assets to pay for it.

A family pot trust can also put an increased burden on the trustee. In effect, the trustee has to assume a parental role when it comes to financial decision-making. So rather than following a predetermined set of instructions left behind by the trust grantor. And children may also chafe at having to wait until the youngest child comes of age for the trust to terminate and assets to be distributed.

Pot Trusts vs. Individual Trusts

If you’re concerned about issues of fairness or older children having to wait to receive trust assets, you may consider establishing individual trusts instead. This way, you can designate specific assets to be added to each trust and provide instructions to the trustee on how those assets should be managed.

The upside of this is you have more control over what happens with the trust assets. And you can choose how much of your estate each child should receive. But the downside is that setting up and maintaining multiple trusts can be costly. Talking to an estate planning attorney can help you decide whether it makes more sense to choose individual trusts, a family pot trust or another type of arrangement for passing on assets to your children.

How to Set Up a Pot Trust

Setting up a pot trust isn’t that different from setting up any other type of trust. You’ll have to create the trust on paper first, naming a trustee, as well as any compensation you’d like that person to receive, and your beneficiaries. You’d then have to fund the trust with assets. At that point, it would be up to the trustee to manage those assets on behalf of your children if something were to happen to you.

You’ll need to specify at what age the trust should terminate and assets be distributed. So think carefully if there’s a wide gap between your oldest child and your youngest. Say, for example, your oldest child is 21 and your youngest is 11. If you set the trust to terminate when the youngest child turns 18 and you pass away, the oldest child would have to wait seven years to receive a distribution of trust assets.

They may not be keen on the idea of waiting to receive an inheritance. So when planning your estate, you may want to include adult children in the discussion. Likewise, it would be wise to work with a professional in creating a pot trust rather than doing it yourself.

The Bottom Line

A pot trust is a type of trust can make estate planning easier for families when there’s a need to ensure minor children are provided for. But this type of family trust may not be right for everyone so consider both the pros and cons first before setting one up.

Tips for Estate Planning

  • While a trust can be a useful estate planning tool, it’s not the only one you may need. You may also need to set up a will, advance healthcare directive or power of attorney to protect your assets. Life insurance, disability insurance and longterm care insurance are also things to consider including in your estate plan to ensure that you’re able to pass on as much of your estate as possible to future generations.

  • Consider talking to a financial advisor about pot trusts and how you may be able to use one to manage your estate. If you don’t have a financial advisor yet, finding one doesn’t have to be complicated. SmartAsset’s financial advisor matching tool can help you to connect with professional advisors in your local area. It takes just a few minutes to get your personalized advisor recommendations. If you’re ready, get started now.

By Rebecca Lake


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