Trusts are a very valuable component of a comprehensive estate plan. What some clients do not realize is that there are different types of trusts from which they can choose. For instance, a trust is categorized as either a revocable or irrevocable trust. So, what is the difference and which one do you need to accomplish your estate planning goals?
Understanding the basic purpose of a trust
A trust is basically a fiduciary agreement between the trustee and the grantor — that is the person who creates the trust. A fiduciary agreement involves one trusted person promising to act on behalf of another, solely for that person’s benefit. Based on the terms of the trust agreement, the trustee is given the authority to hold and manage the trust assets. It provides specific instructions as to how those assets should be managed and distributed when the time comes.
What makes a trust revocable?
If a trust is revocable, then it can be revoked or its terms can be modified at any time while the grantor is still alive and competent to do so. After your death, however, the trust will become irrevocable and no longer subject to revision. For this reason, revocable trusts are very flexible, allowing you to modify their terms whenever your estate planning goals or needs change. Also, with a revocable trust, you can serve as your own trustee initially, which means you do not have to relinquish control of the trust property until your death or incapacity.
How is an irrevocable trust different?
An irrevocable trust is distinct from a revocable trust because it cannot be modified once it has been executed. Although there may be less flexibility with an irrevocable trust, there are still some very favorable advantages that come with this type of trust. For instance, assets that you transfer to a trust that is irrevocable are now out of the reach of your creditors, as well as, estate taxes. They can also protect a special needs beneficiary.
An irrevocable trust offers the best asset protection strategies
When a trust is irrevocable, that means it cannot be altered once it has been created. The reason this type of trust is effective for asset protection is that you no longer control the property in the trust. Put another way, the fact that it cannot be changed or revoked essentially means you cannot take the property back. Therefore, the property is no longer subject to legal claims against you. For this reason, a trust cannot truly be effective at protecting assets unless it is irrevocable.
Including the proper terms to accomplish asset protection
There are a few specific provisions that should be included in an irrevocable trust in order to ensure that it will properly protect the assets you transfer to the trust. For example, the interests you leave to your heirs or beneficiaries must either be contingent on a future condition or event, or that interest needs to be subject to the trustee’s complete discretion, as far as distribution of the funds or benefits.
Consider including spendthrift provisions, is applicable
You may also want to consider including a “spendthrift” provision. This particular type of language serves to protect any beneficiaries who may need additional assistance managing their inheritance. The crucial thing to remember is that only the assets owned by the trust will be protected. In other words, if you transfer any assets outside of the trust, those assets will immediately become subject to creditor’s claims and other legal liabilities.
The primary reasons trusts are important for estate planning
Trusts can provide detailed instructions on when and to whom the trust assets should be distributed, usually at some specified time in the future. A trust can also be used to provide protection for particular assets and for certain beneficiaries who need assistance with managing money. Finally, trusts can be used as a way to avoid the expensive, time-consuming and very public legal process known as probate.
Other types of irrevocable trusts to consider including in your estate plan
There are so many other kinds of trusts often used in estate planning. For example, an Irrevocable Life Insurance Trust (ILIT) can be used to eliminate the proceeds from your life insurance policies from your taxable estate. This, in turn, reduces your estate’s tax liability. A Grantor Retained Annuity Trust (GRAT) is a particular type of irrevocable trust that is funded by gifts from the grantor, which will then pass on future appreciation of those assets to the next generation.
Download our FREE estate planning worksheet! . If you have questions regarding a irrevocable trust, or any other estate planning matters, contact the Cochrangersh Law Offices, P.S.C. for a consultation either online or by calling us at (502) 423-7023.