A revocable trust still belongs to you. An irrevocable trust no longer belongs to you. In an irrevocable trust, you can no longer change the trustee/beneficiaries or manage assets. In a revocable trust, you still can change the trustee/beneficiaries and manage assets. So why would anyone choose to give up their rights? We will discuss that.
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Make amendments yourself as you see fit
Avoids a probate court battle/fees
Can change the trustee
Assets are still part of your estate/you still pay taxes
Can’t make amendments
Avoids a probate court battle/fees
Can’t change the trustee or beneficiary
Assets are no longer part of the estate/you don’t pay taxes
Protected from creditors, nursing homes and other third parties
Beneficiary pays income taxes
First, let’s establish the difference between a will and a trust.
Will Vs. Trust
Both a will and a trust allows you to allocate your assets after you die. For example, you can choose who you leave your money and home to. You can also choose who will be the guardian of your children, etc.
In a living trust, your assets are given to the beneficiaries while you are still alive. In a will, these assets are given away after you die. A will requires you to go through a court supervised process called probate.
What is an Irrevocable Trust?
An irrevocable trust is just what it sounds like. You, the grantor, put your money into a trust and by doing so give up your ownership to the assets. Once you have done this, the money in the irrevocable trust is no longer considered a part of your estate and you will no longer be taxed on it.
Benefits of Irrevocable Trust
So why would anyone want to do this? You are essentially giving up your money. Here are a few reasons why it might be a good idea.
Protection Against Creditors
If you work in a field where you might end up in a lawsuit, an irrevocable trust could be a good option. In the event of a lawsuit, your assets in an irrevocable trust cannot be touched. Only the assets of parties involved in the lawsuit can be touched, so the beneficiaries of your irrevocable trust would not be affected. Keep in mind, if you move your assets to an irrevocable trust during a lawsuit, a judge may be able to see that and therefore may be able to touch those assets.
An irrevocable trust files its own tax returns in a year for whatever an asset makes. In addition, it can get tax deductions for whatever it gives to charities. So what does that mean? If your trust donates, it also gets to write it off. The deduction can equal the amount of income the trust made in the year, though no more than that.
Avoid Capital Gains Taxes
Another reason why an irrevocable trust may be appealing is because it allows you to avoid capital gains taxes. An example of a capital gains tax might be buying a house for $300,000 and later selling it for $400,000. That $100,000 gained would incur a capital gains tax. However, if the irrevocable trust still uses your social security number as the tax ID, it is treated the same as a revocable trust and you will have to pay the capital gains tax. There are some other scenarios as well where capital gains taxes cannot be avoided, though on the whole, this is generally a benefit of the irrevocable trust.
Avoid Estate Taxes
You can also avoid estate taxes by setting up an irrevocable trust. Estate taxes are essentially the taxes on an estate of a deceased person prior to the estate moving into the ownership of the heirs. In addition, if you have a revocable trust, there is a good chance that the assets will push you over the limit to qualify for the federal estate tax. An irrevocable trust does not include those assets which will help you qualify for the federal estate tax. If you have your assets in a revocable trust.
Protection From Nursing Home
If a nursing home is looking for assets to pay for bills, they won’t be able to touch anything in an irrevocable trust. In a revocable trust, on the other hand, they certainly can. The reason being is that in an irrevocable trust, those assets are no longer yours. Whereas in a revocable trust, those assets are still in your name.
Can I Undo an Irrevocable Trust?
Is it possible to undo an irrevocable trust? In many states, the short answer is yes. Unforeseen circumstances may arise and there are laws in place for these situations. The process is rather involved though and it requires unanimous consent from all of your beneficiaries. If your beneficiaries are minors, this may complicate things further.
One final note on your rights with irrevocable trusts - you are still be able to control some aspects, but it must be in writing prior to creating the irrevocable trust. For example, if you don’t want the beneficiary to receive the money until he/she reaches 21, you can write that in.
What is a Revocable Trust?
A revocable trust is a trust that can be altered at any time by the owner (the grantor) of the trust. That means that you, the grantor, still have full control over the trust while you are alive and are free to change the assets and the beneficiaries.
It is only after you die that the revocable trust becomes an irrevocable trust and it can no longer be changed.
Benefits of a Revocable Trust
While you may not have the same tax benefits as an irrevocable trust, there are still some major benefits to having a revocable trust. The main reason why many people prefer to have a revocable trust is that you maintain control of your assets. You can still access your money whenever you want it and make changes as you wish. In the event that you become mentally incapacitated, you can have it set up so that a disability trustee manages the account.
How to Choose The Right Trust For You
Choosing the right trust will vary depending on your situation, so here are a few scenarios that might help you. Remember that these are all general scenarios and we do recommend that you consult professional legal advice prior to making a decision.
Do you work in a field where lawsuits are common?
An example might be the law or medical field or any business owner. If you work in one of these fields, an irrevocable trust may be the best option for you. With an irrevocable trust, nothing can be touched by creditors.
Are you setting up a trust to pay fewer taxes?
If this is the case, you will have to set up an irrevocable trust. Keep in mind that once you have put your money into an irrevocable trust, you cannot take it out again. It is no longer yours. Therefore, be very thoughtful before jumping into this one.
Are you trying to avoid any potential probate battles?
If this is your goal, you can use either a revocable or irrevocable trust. Only with a will do your loved ones have to go through court to receive what you have left them.
Do you want to have the option to change who your trustee is?
Another consideration is if you aren’t 100% positive about your trustee. If you want to have the option to change your trustee, you must have a revocable trust. An irrevocable trust means that you have given up all of your rights and you can no longer change who controls it.
Do you want to be eligible for Medicaid or Social Security Disability?
If so, you may want to consider an irrevocable trust. The reason being is that your assets may put you over the limit for these types of programs. If you are planning to give that money away anyway, it might be a good decision to put it in an irrevocable trust.
Estate planning can be a daunting task, though it is crucial, particularly if you have dependents. While revocable trusts are certainly more commonly used, irrevocable trusts also have many benefits and might be right for depending on the situation. Consult legal advice during the process to ensure that you make the right decision for your family as this guide is intended strictly to get a better idea of what options might be beneficial to you.
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