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What Is the Difference between a Trust and an LLC?

Trusts and limited liability companies (LLCs) are both legal vehicles that can be used to manage and protect assets, minimize taxation, and avoid probate. 

Whether a trust or an LLC is a better choice may depend on the type of asset, but you do not necessarily have to choose between the two. In fact, an LLC can be owned by a trust. To explain how that works, it is first necessary to better understand each type of entity and clear up some common misconceptions about them. 

What Is a Trust? 

When most people think of a trust, they think of a vehicle for transferring inter-generational wealth. While this is not too far off the mark, trusts are not exclusively for the wealthy. They are, however, a common way to avoid probate (the legal process of settling an estate when somebody passes away) and plan for estate taxes. 

For starters, it is not just money that can be placed in a trust. Trusts can hold cash, but they can also hold other assets such as bank accounts, securities, life insurance policies, real estate, intellectual property, personal possessions, cryptocurrencies, nonfungible tokens (NFTs), real estate, and ownership interests in a business—including an LLC. 

This is not a complete list of what you can put in a trust. The ability to transfer the title of an asset to a trust does not mean that it is the best place for it. Before placing any asset in a trust, there are important considerations about how the transfer might affect taxation, liability protection, and probate. 

Once you have decided that certain assets belong in a trust, the next step is to create the trust. You will need to specify the assets to be placed in the trust, somebody to oversee the trust assets (a trustee), the individuals who will receive the trust assets at the specified time (the trust’s beneficiaries), and instructions for distributing trust assets to beneficiaries (the trust agreement). In addition, you will need to fund the trust by transferring title of the assets into the name of the trustee.

You will also have to choose the type of trust. A revocable trust is more flexible and can be changed during your lifetime, whereas an irrevocable trust cannot be changed once created. A testamentary trust can be created at the time of your death per instructions in your will. 

A key feature of trusts is that once your assets are transferred into the trust, they technically are no longer your personal property. They are the property of the trust, which is managed by a trustee for the benefit of the beneficiaries. 

This explains why some trusts can help minimize or avoid estate taxes. Also, because assets in a trust are not part of your estate at death, they do not have to be transferred to your heirs through the probate process; they are instead distributed according to the trust terms. 

What Is an LLC?

An LLC is a type of business entity that provides liability protection to its owners and avoids double taxation. In terms of liability protection, when an LLC takes on debts and liabilities, its owners’ personal assets generally cannot be seized by creditors of the LLC as payment for what the business owes. LLCs also are not taxed at the corporate level. Instead, LLC owners pay taxes on business profits on their personal income tax return. This avoids the double taxation applicable to corporations. 

LLCs, like other businesses, may have assets such as real estate, vehicles, tools, equipment, and intellectual property. And like a trust, just about any type of asset can be transferred into an LLC, including personal assets like cash and bank accounts, property, and personal possessions. Thus, LLCs can also serve as tools in the estate planning process. 

One of the primary documents for your LLC is the operating agreement. This document specifies the LLC’s internal rules and procedures. Although it is not always advisable, you can stipulate in the operating agreement that, when you die, the business passes to your heirs, or the income from the business goes to your kids. It is important to ensure that you have carefully thought through all of the ramifications, for example, whether the heirs are prepared to become business owners and if this plan is acceptable to any existing business partners. Similar to a trust, transferring the LLC interests to beneficiaries can be a way to avoid probate. 

Is a Trust or an LLC Right for You?

To summarize, trusts and LLCs both have value as legal instruments that can shield assets from taxation and avoid probate. 

LLCs have the added benefit of personal liability protection, but they typically have higher ongoing costs than trusts. One benefit of those higher costs is that you have a greater ability to manage the assets in an LLC. 

Some trusts and LLCs, when set up correctly, have the potential to protect assets from creditors. With trusts, you have to be careful to choose the right type of trust for maximum creditor protection. Even then, there is no guarantee that your beneficiaries will be completely protected. LLC asset protection varies by state, and care must be taken to treat the LLC’s assets separately from your personal property to keep creditors from being able to “pierce the veil” of the LLC and come after your personal assets. 

We Can Help

Beyond the basic pros and cons of each legal vehicle, it comes down to how the trust or LLC is structured. Our legal team can help you choose the right tools for your needs and draft the agreements that align with your goals. To set up an appointment, please call or contact us today.


 

THIS ARTICLE SHOULD NOT BE RELIED ON AS LEGAL OR TAX ADVICE (INFORMATIONAL PURPOSES ONLY)


Ryan E. Snow, JD/MBA, is a licensed attorney and experienced entrepreneur specializing in legal services for small to mid-sized businesses in all industries and at all stages of growth and development. He can be contacted via email at Ryan@RyanSnow.com or at his website www.ModernUtahLaw.com.


©2023 by Venture Counsel LC, all rights reserved.


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