Estate Planning

The Trust as a Valuable Estate Planning Tool for Mineral Owners

Trusts have long been a mainstay for estate planning because the various types of trusts and their features provide increased flexibility and control. Unlike a will, a trust can allow you to avoid probate as well as structure the management of assets for yourself and your loved ones, gain better control over distribution of your estate after you pass, and shelter trust property from burdensome taxes. This type of flexibility also has several advantages over the bare transfer achieved by beneficiary deeds.1 These features and others make trusts an attractive option for mineral interest owners. This article will briefly describe the basic features of all trusts, outline distinct kinds of trusts used in estate planning, and note the advantages they provide for mineral and royalty owners as well as owners of large ranch properties.

A trust is a legal entity created by an individual called a Trustor or a Settlor. The Trustor assigns control over the legal entity to one or more Trustees, who manage the property placed into the trust for the benefit of a beneficiary or beneficiaries. An instrument called a trust agreement contains all of the instructions for the management of the trust and the distribution of trust assets to the beneficiaries. A trust may have a relatively simple structure and set of instructions or may be quite complex depending on the goals of the Trustor, the type of assets in the trust, and the type of trust used to manage those assets. Mineral interests, royalty interests, and overriding royalties can be placed into trust, and Trustees can be granted the authority to execute and ratify oil and gas leases or other instruments affecting the mineral estate.

Different types of trusts provide unique combinations of benefits. The revocable trust has an extremely flexible structure. It allows a land or mineral owner to retain control of his assets during his lifetime and then choose to distribute the interests after his passing or transfer management to the next generation. In either case, the transfer or distribution takes place free of probate proceedings. 3 Modern Estate Planning § 37.02. While trust property does not undergo probate, the Trustor’s will should ensure that all of the relevant assets are devised to the trust, a feature referred to as a pour-over will. One significant benefit of a revocable trust is that it may be dissolved or altered at any time the Trustor is living. Another huge advantage of the revocable trust is that trust property may either be managed by a third-party Trustee for the Trustor’s benefit, or the Trustor may simply name himself as the Trustee while living. Additionally, provisions of a revocable trust that distribute property can remain private. 4 Modern Estate Planning § 5. These features are especially relevant for owners of actively developed mineral estates or large working ranch properties.

Testamentary irrevocable trusts are established at the Trustor’s death through a will, whereas inter vivos irrevocable trusts are established while the Trustor is living. Irrevocable trusts do not provide the flexibility of revocable trusts, but they do offer greater tax benefits. The Trustor permanently transfers ownership of the trust property to the trust and control of the trust to the Trustee. Thus, the property is no longer subject to estate tax and may not be subject to gift tax in certain circumstances. 3 Modern Estate Planning § 36.03. Another advantage of this type of trust for mineral interest owners is that trust property income, like royalties, is not included in the Trustor’s taxable estate. Removing property from the Trustor’s estate and placing it in an irrevocable trust shields the property from lawsuits and creditors and decreases the Trustor’s assets, potentially allowing the Trustor to be eligible for Medicaid. 4 Modern Estate Planning § 6.

The 678 Trust, also known as a beneficiary deemed owner trust, provides tax advantages for large estates. 26 U.S.C § 678 (2020). Once this trust is established, a beneficiary can transfer mineral interests or other properties having a large income potential, or high potential to appreciate, into trust to grow the asset with a decreased tax burden. This is accomplished by defining the beneficiary’s withdrawal right in the trust agreement to include all taxable income. While the beneficiary has a withdrawal right, no income need be withdrawn, and access to the trust principal can remain limited. The beneficiary is considered to own the income and, consequently, pays taxes on that income rather than the trust entity having to pay those taxes at a higher tax rate.2 There are many more advantages in using a 678 Trust to administer large estates under the appropriate circumstances.

If you are considering using a trust to manage your real property interests, consult with a professional who will understand your specific needs and the state laws where your property interests reside.

Tjornehoj & Hack LLC, 2020

  1. Please see our blog post explaining the uses of beneficiary deeds in estate planning. []
  2. See Edwin P. Morrow, IRC Section 678 and the Beneficiary Deemed Owner Trust (BDOT), (last revised March 3, 2020). []