Pluses and Minuses of the Irrevocable Trust – In an irrevocable trust, you transfer all ownership of assets, legally removing your right of ownership to the property and to the trust itself. Why would you set up an irrevocable trust? For estate and tax considerations and for protection against legal action.
Irrevocable trusts come in two forms:
- Living trusts are created and funded during your lifetime. Examples:
- Irrevocable life insurance trust.
- Grantor-retained annuity trust (GRAT).
- Spousal lifetime access trust (SLAT).
- Qualified personal residence trust (QPRT).
- All types of lifetime gifting trusts.
- Charitable remainder trust.
- Charitable lead trust.
- Property transferred to an irrevocable living trust doesn’t count toward the gross value of an estate, so it can reduce the tax liability of very large estates.
- Testamentary trusts are created after you die (a neat trick) and are funded from your estate according to the terms of the will. Your assets won’t avoid probate — they and your will must go through the probate process before the trust becomes effective.
Here are the plusses of an irrevocable trust:
- It takes advantage of the estate tax exemption and removes taxable assets from the estate.
- It relieves you of estate tax liability on the income the assets generate.
- Once property is transferred to the trust, it’s owned by the trust and safe from legal judgments and creditors.
- You can set conditions for distribution to prevent beneficiaries from misusing assets.
- Even after you place assets in a trust, you retain the income from the assets. By removing appreciable assets from the estate, you still provide beneficiaries with a step-up basis in valuing the assets for tax purposes.
- It allows you to gift a principal residence to children under more favorable tax rules.
- It can house a life insurance policy, effectively removing the death proceeds from the estate.
- By depleting your property, you ensure eligibility for government benefits like Social Security income and Medicaid that you may need for nursing home care. You can help secure benefits and care for a special needs child by preventing disqualification for eligibility as well.
Here are some minuses:
- The trust’s inflexible structure. You don’t have wiggle room.
- Loss of control over assets. You won’t retain control to retrieve or even manage your former assets.
- Depending on tax rules in your jurisdiction, you may not be able to receive benefits if you’re the trustee of the trust.
- Once an asset is in an irrevocable trust, it’s a gift to the trust, and you can’t revoke it. But you can dictate the terms, rules and uses of the trust assets with the consent of the trustee and beneficiaries. The sole way to make changes to a testamentary trust — or to cancel it — is to alter your will.
You will want to have the help of an estate planning attorney to set up any kind of trust, as they are complex instruments. Also speak with a financial professional about the tax consequences.
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