REVOCABLE VERSUS IRREVOCABLE TRUSTS

Introduction

Trusts are essential tools in estate planning, allowing individuals to manage their assets and ensure specific wishes are fulfilled after their passing. Among the most commonly used trusts are revocable and irrevocable trusts. Understanding the differences between these two types can help individuals make informed decisions that align with their financial and estate planning goals.

Revocable Trusts

A revocable trust, also known as a living trust, allows the grantor to maintain control over the assets during their lifetime. Such trusts also make it simpler for a predesignated successor trustee to step in and manage assets for the grantor, should they become incapacitated in either the short, or long, term. The grantor can modify, amend, or revoke the trust at any time, making it a flexible estate planning option.

Pros of Revocable Trusts:

1. Flexibility: Grantors can make changes to the trust, allowing adaptations to their circumstances or wishes.

2. Avoidance of Probate: Assets placed in a revocable trust bypass the probate process, leading to quicker and often less costly distributions to beneficiaries.

3. Privacy: Unlike a will, which becomes public record during probate, a revocable trust remains private.

4. Management During Incapacity: If the grantor becomes incapacitated, a successor trustee can manage the trust assets without court intervention.

Cons of Revocable Trusts:

1. No Tax Benefits: Assets within a revocable trust are counted as part of the grantor's estate and may therefore be subject to federal or state estate taxes on the death of the grantor(s), depending on the value of the assets and applicable federal and state laws at the time of their death.

2. Creditor Access: Assets in a revocable trust are still considered part of the grantor’s estate, making them accessible to creditors.

3. Maintenance: Grantors generally must actively manage the trust, ensuring assets are properly transferred into it. While most grantors have no problem with such management, elderly or disabled grantors may find this an arduous task.

   
   

Irrevocable Trusts

An irrevocable trust, on the other hand, cannot be altered or dissolved by the grantor once established. The grantor relinquishes control over the assets placed in the trust, making this option suitable for specific estate planning strategies.

Pros of Irrevocable Trusts:

1. Tax Benefits: Assets in an irrevocable trust are often removed from the grantor's taxable estate, potentially reducing estate taxes. Depending on the value of the assets and the applicable state and federal laws, this may be advantageous.

2. Creditor Protection: Since the grantor no longer owns the assets, they are typically shielded from creditors and legal judgments.

3. Special Needs Planning: Irrevocable trusts can help provide for beneficiaries with special needs without jeopardizing government benefits.

Cons of Irrevocable Trusts:

1. Lack of Control: The grantor cannot make changes or revoke the trust, leading to potential dissatisfaction or inflexibility. The grantor, in most cases, also gives up the management of the trust in order to distance themselves from the assets in order to protect them from creditors.

2. Complexity: Establishing and managing an irrevocable trust can be more complicated and costly, often requiring legal assistance. Having a third party trustee, obtaining a separate EIN number and potentially having to file income taxes for such a trust are some of the issues that may arise.

3. Inability to Access Assets: Once assets are in an irrevocable trust, the grantor cannot access them, limiting their financial flexibility. Typically, the grantor becomes a beneficiary of the trust and their access to the assets is controlled by the terms of the trust and the third party trustee.

4. The protection of assets provided by an irrevocable trust do not become effective immediately if there is a pending issue, such as litigation or the need for Medicaid coverage. In order for such protection to be effective assets generally must be placed into such a trust before any known debt or litigation is known or suspected. Courts can "claw back" assets which they suspect have been placed into an irrevocable trust in order to protect them from some know or suspected jeopardy. Medicaid has a five year lookback period whereby they assess your assets prior to applying for Medicaid, certain levels of assets prior to application may make the applicant ineligible for Medicaid for some period of time.

   
   

Which Type Is Most Often Used by the Average Person?

For the average person, revocable trusts are the most commonly used option in estate planning. This preference is largely due to their flexibility and ease of management. Many individuals appreciate the ability to adapt their estate plans in response to changing circumstances, such as marriage, divorce, or the birth of a child. Additionally, the benefits of avoiding probate and maintaining privacy resonate with those seeking to simplify the process for their loved ones after their passing.

Finally

Understanding the differences between revocable and irrevocable trusts is crucial for effective estate planning. While revocable trusts offer flexibility and ease of management, irrevocable trusts may provide significant creditor protection benefits. The choice between these two types largely depends on an individual's financial goals, family dynamics, and personal preferences. For the average person, revocable trusts often emerge as the preferred choice due to their adaptability and straightforward approach to managing assets. The final decision as to which type of trust to employ should follow a complete and thorough discussion with a qualified tax preparer and estate planning attorney.

DISCLAIMER:  As always, this information is general in nature and is not intended as specific legal advice, or to create and attorney client relationship. For complete information you should consult a qualified attorney in your area.