Can You Set Up Your Trust in Another State?

Did you know that many people set up trusts in another state? It’s true, and there are a handful of reasons why you might try this strategy. In this blog, we will discuss out-of-state trust formation, the advantages of doing so, and how you can make this happen.

Are You Legally Entitled to Forming a Trust in Another State?

Yes, it is legally permissible to form a trust in a state where you do not reside. The flexibility in trust formation arises from the principle that trusts are governed by the laws of the state in which they are created, rather than the residency of the grantor or trustee. However, certain legal and practical considerations may apply.

When forming a trust in another state, you will need to comply with that state's trust laws. This often includes appointing a trustee who resides or conducts business in the state where the trust is formed. Some states also require the trust to maintain assets within their jurisdiction or involve a state-chartered financial institution. To ensure compliance and validity, it is advisable to consult an estate planning attorney familiar with the trust laws of the chosen state.

While state laws govern trust creation and administration, you must also consider the tax implications in your home state. Depending on your state's regulations, income generated by the trust could still be subject to taxation where you reside, regardless of where the trust is established.

What are the Reasons Why You Would Form Your Trust Elsewhere?

The primary motivations behind setting up a trust in a different state often include tax advantages, increased asset protection, and access to more favorable trust laws. Here’s a quick overview.

Tax Advantages

One of the most common reasons to form a trust in another state is to take advantage of favorable tax laws. Some states, like Delaware, Nevada, and South Dakota, offer significant tax benefits for trusts. These benefits may include the absence of state income tax on trust assets, allowing the trust to grow tax-free at the state level.

For example, if you form a trust in South Dakota, the state imposes no income tax on trust earnings, making it an attractive option for those seeking to preserve and grow wealth over time. Similarly, Delaware is renowned for its flexibility in trust administration and its lack of tax on out-of-state beneficiaries. These tax advantages can provide substantial savings, particularly for high-net-worth individuals with significant assets in their trust.

It is important to note, however, that while the trust may avoid state-level taxation in the chosen jurisdiction, you must still consider federal tax obligations and the potential for taxation in your home state. Consulting with a tax professional is essential to fully understand these implications.

Other Reasons For Forming a Trust Elsewhere

Beyond tax advantages, there are several other reasons why forming a trust in another state might be appealing. These reasons often center on enhanced asset protection, perpetuity options, and administrative flexibility.

Some states offer robust asset protection laws for trusts, making it difficult for creditors to reach the trust's assets. Nevada, for instance, is known for its Domestic Asset Protection Trust (DAPT) laws, which provide a high level of protection against creditors. Similarly, Alaska and South Dakota have enacted favorable asset protection statutes that shield trust assets from most claims, provided the trust is properly structured.

In addition to asset protection, some states allow trusts to exist indefinitely or for extended periods. This feature, often referred to as "dynasty trusts," enables families to preserve wealth across multiple generations. South Dakota and Delaware are particularly well-known for their support of dynasty trusts, as they do not enforce the traditional rule against perpetuities that limits the lifespan of a trust.

Administrative flexibility is another key consideration. Certain states allow for decanting, which is the ability to modify the terms of an existing trust without court approval. This flexibility can be advantageous if family circumstances change or new opportunities arise. States like Delaware and Nevada have well-developed decanting statutes that grant trustees significant authority to adapt trusts to evolving needs.

What States are the Most Friendly to Trusts?

Several states have developed reputations as trust-friendly jurisdictions due to their favorable laws, tax policies, and asset protection features. Among these, Delaware, Nevada, South Dakota, and Alaska are widely regarded as the top choices for trust formation.

Delaware

Delaware is a leader in trust law innovation. It offers strong privacy protections, allowing for confidential trust administration. Delaware trusts benefit from no state income tax on assets held for out-of-state beneficiaries and flexible decanting options. The state’s Court of Chancery, a specialized business court, ensures efficient dispute resolution for trust matters.

Nevada

Nevada is another popular choice for trust formation, particularly for those seeking robust asset protection. Nevada’s DAPT laws allow grantors to retain significant control over trust assets while still benefiting from creditor protection. The state imposes no state income tax, and its laws permit the formation of dynasty trusts with no expiration date.

South Dakota

South Dakota consistently ranks as one of the most trust-friendly states. It offers no state income tax, exceptional privacy protections, and highly favorable asset protection laws. South Dakota also supports perpetual trusts, enabling wealth preservation for countless generations. Additionally, its decanting laws and modern trust statutes provide unparalleled flexibility for trustees and beneficiaries.

Alaska

Alaska is also a strong contender for trust formation. It was one of the first states to adopt DAPT laws and continues to offer significant protections for trust assets. Alaska’s laws allow for perpetual trusts and provide for low or no state tax liability on trust income. The state’s legal framework is designed to accommodate the needs of both domestic and international trust grantors.

Each of these states provides unique advantages, and the best choice depends on your specific goals and circumstances. Working with an experienced estate planning attorney can help you navigate these options and select the state that aligns best with your objectives.

Enjoy the Tax Benefits of Setting up a Trust in Another State

Forming a trust in another state is a viable and often advantageous option, depending on your financial and personal circumstances. Whether you’re seeking tax benefits, better asset protection, or long-term wealth preservation, choosing the right jurisdiction can make a significant difference in achieving your estate planning goals.