Key Takeaways:

  • A statutory trust is a legal entity created under a specific state statute, while a common law trust is formed based on judicial precedents.
  • Statutory trusts offer legal protections, separate entity status, and tax benefits, making them popular for businesses and investments.
  • Common law trusts operate under state-specific regulations and provide more flexibility but may lack the same legal protections as statutory trusts.
  • Delaware Statutory Trusts (DSTs) are a well-known example, widely used in real estate investment due to favorable legal provisions.
  • Bankruptcy protections, liability shielding, and governance structures differ significantly between these trust types.
  • Individuals and businesses should carefully evaluate their legal and tax implications before choosing between a statutory or common law trust.
  • UpCounsel can connect individuals with top attorneys for personalized legal guidance.

Common law trust vs. statutory trust is the difference between two crucial types of legal trusts. It is important to first distinguish the difference between the two before deciding which one is right for your situation.

Statutory Trusts

Statutory trusts involve real property that is held by a trustee with the intention of selling. Any profits from the real property including rent and sale profits go into the trust. These profits are then paid to the benefactors of the trust. This process is regulated by the Uniform Statutory Trust Entity Act (USTEA).

Many businesses choose a statutory trust for the following reasons:

  • Statutory governing laws are regularly updated.
  • Consistent judicial decisions offer a sense of predictability to statutory trusts.
  • Because statutory trusts are separate from the individual, the trust does not terminate or cease to exist after the incapacitation or death of a trust holder.
  • Statutory trusts have bankruptcy features not available in a common law trust.
  • All internal affairs are carefully regulated.
  • They are simple and inexpensive to form. The application process includes a short form application and a trust agreement.

Advantages and Uses of Statutory Trusts

Statutory trusts are widely used in various industries due to their legal clarity and business-friendly attributes. Here are some key advantages:

  • Legal Recognition & Liability Protection: Unlike common law trusts, statutory trusts enjoy separate entity status, meaning beneficiaries and trustees are not personally liable for trust debts.
  • Investment and Business Structuring: Many businesses, especially in real estate and investment funds, leverage statutory trusts for asset protection and ease of transferability.
  • Tax Benefits: Depending on the jurisdiction, statutory trusts may offer pass-through taxation, reducing the tax burden on investors.
  • Delaware Statutory Trusts (DSTs): DSTs are a prime example of statutory trusts commonly used in 1031 exchanges, allowing investors to defer capital gains taxes on property sales.

Common Uses of Statutory Trusts:

  • Real Estate Syndication – Multiple investors pool resources to own large properties.
  • Asset Protection – Shields personal assets from lawsuits and creditors.
  • Investment Funds & REITs – Frequently structured as statutory trusts for compliance and tax efficiency.
  • Estate Planning – Provides smooth transition of wealth with clear governance rules.

Common Law Trusts

The specific rules and regulations of a common law depend on the state. For example, the state of Delaware has ever-changing regulations regarding common law trusts.

Common law trusts are used when a statutory trust does not make sense because of state regulations or tax concerns. For this reason, it is sometimes referred to as a pass-through trust agreement. Common law trusts are regulated by the state's law jurisdiction.

Setting up a common law trust requires the following steps:

  • Request an ID through World Service Authority. This process allows you to separate the common law trust from your individual social security number. You can also create an affidavit of Identification to avoid using a state or federal ID when opening a business bank account.
  • Choose a co-trustee. Your co-trustee should be a person that you can trust as they will be an administrator to the trust.
  • Purchase a P.O. box. This allows you to protect your anonymity because you can list this as your trust address.
  • Create important business documents. You will need to create the necessary business documents including company bylaws and articles of incorporation.
  • Choose a settlor/grantor. Request that the settlor/grantor offer a piece of property into the trust.
  • Request an EIN number for the trust. This is for tax purposes.
  • Open a bank account in the trust name. It is best to create a non-interest banking account that is private. It might be helpful to first open a personal account and then a trust account. All trust holders should be listed on the bank account.
  • Register your trust documents with the Secretary of State. This is optional but may be helpful.

Limitations of Common Law Trusts

While common law trusts offer flexibility, they come with notable challenges:

  • Lack of Separate Entity Status: Unlike statutory trusts, common law trusts do not provide distinct legal identity, making beneficiaries and trustees more susceptible to lawsuits.
  • State-Specific Regulations: Each state has its own rules, which can lead to legal uncertainty and inconsistency in enforcement.
  • Limited Investment Appeal: Investors often prefer statutory trusts due to better asset protection and governance structures.
  • Difficulty in Bankruptcy Protections: Common law trusts typically do not offer the same level of protection from creditor claims as statutory trusts.

Despite these drawbacks, common law trusts remain useful in certain estate planning and tax structuring scenarios where greater flexibility is needed.

Common Law Trusts Vs Statutory Trust

Common law trust and statutory trusts have different requirements for filing and operating. Common law trusts are created without public officials. The individuals of the trust are eligible to legally sue, or be sued, for violating the terms of the common law trust. However, they must do so in their own name.

A statutory trust, on the other hand, is considered to be a juridical category. It is separated from the trusts parties and a legal lawsuit can be initiated in its name.

The statutory trust is often regarded as a type of business organization. Statutory trusts must follow these regulations:

  • Listed rules are binding and cannot be overruled in the business documents.
  • A statutory trust cannot have a donative purpose.
  • There must be an entire document on trusts in the articles of incorporation.
  • There must be a charging order provision included.
  • Dissolution and conversion requirements must be included in the documents.
  • Any relationship between the common law and statutory trust entities must be clearly listed.

Key Differences Between Common Law and Statutory Trusts

Understanding the differences between these trust types is crucial when choosing the right structure for legal or investment purposes.

Feature Common Law Trust Statutory Trust
Legal Basis Governed by judicial precedents Created under specific state statutes
Legal Entity Status No separate legal identity Considered a separate legal entity
Liability Protection Trustees and beneficiaries may be personally liable Limited liability protection for members
Governance Flexible, but can lead to legal uncertainties Structured governance with clear statutory guidelines
Business & Investment Use Less commonly used in corporate structuring Preferred for real estate, REITs, and asset protection
Tax Treatment Varies by state and case law May qualify for pass-through taxation and other tax benefits

For individuals or businesses considering trust structures, legal guidance is recommended. UpCounsel provides access to experienced attorneys who can help evaluate the best option for your needs.

Frequently Asked Questions

1. What is a statutory trust and how does it differ from a common law trust?

A statutory trust is a legal entity created under a specific statute that provides clear governance rules, liability protection, and tax benefits. Common law trusts are based on case law and may lack legal clarity and liability shielding.

2. Why are Delaware Statutory Trusts (DSTs) so popular?

DSTs are widely used in real estate investments, particularly in 1031 exchanges, because they allow investors to defer capital gains taxes while maintaining limited liability protection.

3. Can a common law trust be converted into a statutory trust?

Yes, but the process varies by state. In some cases, restructuring the trust agreement and filing with the appropriate state agency may be necessary.

4. Are statutory trusts recognized in all states?

No, statutory trusts are governed by specific state laws, with some states (such as Delaware) offering more favorable regulations.

5. Which type of trust is better for estate planning?

Statutory trusts often provide better legal protection and tax benefits, but common law trusts can offer more flexibility. The choice depends on specific needs and state laws.

Consider the differences between a common law trust and a statutory trust to determine which is best for you. If you need help with choosing common law trust vs. statutory trust, you can post your legal need on UpCounsel's marketplace. UpCounsel accepts only the top five percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.