If you have done any estate planning, you may have heard the term irrevocable trust. However, if you’re like most people, you’re probably not totally clear on all that’s involved in an irrevocable trust.
To help clear things up, this guide will explain what an irrevocable trust is, why they are important, the benefits of creating one, and the steps you need to take to start the process.
To learn about other types of trusts, you can explore our complete guide to trusts.
What is an Irrevocable Trust?
An irrevocable trust is a type of trust which is used to transfer assets to someone else, often the creator’s family members. These trusts are designed so that the creator cannot take back or revoke the assets after they’ve transferred them without the express permission of the beneficiaries.
In an irrevocable trust, there is a grantor, trustee, and beneficiaries. Once assets have been placed into the trust by the grantor, they become a gift to it and can’t be revoked. The grantor can decide the terms, rules, and uses of a trust’s assets with the trustee and beneficiary’s consent.
Irrevocable trusts are most often created for estate and tax purposes. It removes any incidents of ownership on the trust’s assets, which means those assets are excluded from the grantor’s taxable estate. One of the advantages is that it relieves the grantor from paying taxes on income generated by assets. Though there are rules which vary by jurisdictions, if the grantor is also the appointed trustee they cannot receive these benefits. Often, these assets include anything from bank accounts and property, to stocks and bonds.
Types of Irrevocable Trusts
There are two types of irrevocable trusts:
- Living Trust – Created and funded during the grantor’s lifetime. Examples include irrevocable life insurance trust, charitable remainder trust, and grantor-retained annuity trust.
- Testamentary Trust – Created after the grantor’s death and funded by their estate. Assets are distributed according to the grantor’s will.
What are the Benefits of an Irrevocable Trust?
There are a number of reasons a person might want to establish an irrevocable trust:
- Estate tax exemption – The assets in an irrevocable trust are exempt from normal estate taxes that are levied when a person dies. The allowance for this exemption varies depending on how much money is in the estate and whether it exceeds certain amounts that are set by law. This is a significant advantage for individuals with large estates.
- Asset distribution to beneficiaries – An irrevocable trust allows the grantor to distribute their assets according to their wishes. The grantor can establish certain conditions that must be met before the assets are distributed, ensuring that assets are not misused.
- Retain autonomy – Irrevocable trusts allow the grantor to distribute their assets as they see fit, regardless of what anyone else wants. Even after they die or become incapacitated they are still able to maintain autonomy and control over their assets and estate.
- Government benefits – To receive certain government benefits, such as Social Security, the value of a person’s estate must be less than the threshold established by the government. Putting assets into an irrevocable trust allows the grantor to lower the value of their estate and thus qualify for benefits.
- Spousal protection – Irrevocable trusts are sometimes set up by couples who want to maintain separate finances but still want to provide each other with some kind of security should one of them die unexpectedly. They often include provisions that allow one spouse’s heirs to receive a portion of the other spouse’s assets in case they were to die before the other spouse does.
Irrevocable Trusts vs. Revocable Trusts
What’s the difference between irrevocable and revocable trusts? An irrevocable trust cannot be revoked or altered once it has been established. A revocable trust, on the other hand, can be changed by its creator at any time before their death. Beneficiaries can be added or removed, conditions can be changed, as well as the management of the trust itself.
Additionally, assets in an irrevocable trust aren’t subject to federal estate taxes, while those in a revocable trust are.
Who Controls an Irrevocable Trust?
The trustee has legal ownership of the trust and the assets it contains. The grantor gives up their rights to the assets in the trust, and they become the trustee’s responsibility. The grantor can’t use or change the assets in the trust without the permission of the beneficiary.
For example, if a person establishes an irrevocable trust and names their children as beneficiaries, they can’t modify the trust in any way without the permission of their children.
How to Establish an Irrevocable Trust
Irrevocable trusts can be somewhat complex to establish, and there are also tax implications to consider. In light of this, it’s probably best to work with a tax or estate attorney to create the trust.
When creating the trust, you’ll need to determine:
- Who will manage the trust
- Who the beneficiaries will be
- What assets will be put into the trust
- How assets from the trust will be distributed
- Any conditions that must be met before certain assets can be distributed
Because of the permanent nature of these decisions, they need to be made carefully. Before establishing the trust, meet with the potential trustee. Because they will be managing the trust, it’s essential that they be a person of integrity and will carry out your wishes to the fullest degree.
Do You Need an Irrevocable Trust?
Obviously, the ultimate decision is up to you and you must do what’s best for yourself and your loved ones. That being said, if you want to pass along assets to loved ones, you should at least consider establishing an irrevocable trust. It can protect a significant amount of your estate that would normally be taxed, leaving more for your loved ones and a legacy for yourself.
