If you’ve been researching your estate planning options, you’ve probably heard of irrevocable trusts—and you may have wondered if they could be put to use in your estate plan. So let’s talk about them!
Depending on the situation, irrevocable trusts can be useful for estate planning, since they can shield your assets from burdensome taxes and ensure that they’re distributed according to your wishes.
However, irrevocable trusts aren’t a one-size-fits-all solution like any other estate planning vehicle. Do you have contentious family relationships to consider during your estate planning process? Is Medicaid qualification a concern? Does your estate plan need to account for a special needs family member?
As we’ve seen over our years of practice, everyone’s estate planning needs are unique. What works great for your business partner or your second cousin (twice removed) may not fit your goals. As a result, it’s crucial to understand all the pros and cons before deciding where to place your assets.
What is an (irrevocable) trust?
A trust is a type of legal and financial relationship in which one person (the grantor) gives another (the trustee) the right to hold title to property or assets for the benefit of a third party (the beneficiary).
Creating a trust involves signing a legally binding contract (a trust agreement) that states you agree to transfer the ownership of certain assets under specific circumstances. A trustee is then chosen to manage those assets and distribute them according to the terms of the trust agreement.
There are two main types of trusts: revocable and irrevocable. Revocable trusts can be changed, i.e., revoked, based on the grantor’s wishes. Irrevocable trusts, on the other hand, cannot be altered without significant effort. Instead, control over the assets in the trust is forwarded to the beneficiaries.
Types of irrevocable trusts
There are two primary categories of irrevocable trusts: living and testamentary. These trusts may be used for estate tax planning purposes, income tax saving strategies, real estate transactions, and more. Depending on your estate planning needs, one might be more appropriate than the other.
Irrevocable living trust
An irrevocable living trust is a trust established and funded during your lifetime. These trusts are often used for tax planning, asset protection, and to provide for your loved ones.
Examples of irrevocable living trusts include:
- Irrevocable life insurance trusts (ILITs), which hold life insurance policies and provide for the beneficiaries of the trust upon your death.
- Grantor-retained annuity trusts (GRATs), which are used to transfer assets to beneficiaries while minimizing gift and estate taxes. These trusts provide an annuity for a specified period. At the end of the trust term, the remaining assets are distributed to your beneficiaries.
- Spousal lifetime access trusts (SLATs), which are used to financially support your spouse while also removing assets from your taxable estate.
- Charitable remainder trusts, which allow you to make charitable donations and receive income from the trust while you are still alive.
Irrevocable testamentary trust
Irrevocable testamentary trusts are established and funded after your death, according to your will. This type of trust is often used to take care of minor beneficiaries, plan for more affordable taxes, and protect assets.
Examples of irrevocable living trusts include:
- Minor’s trusts, which are established for the benefit of a minor. The assets of the trust are distributed according to the terms of your trust agreement, which can include stipulations for how the beneficiary should use the money.
- Special needs trusts, which are created to provide for the special needs of disabled or developmentally delayed children or vulnerable adults (without affecting their eligibility for government benefits).
- Qualified terminable interest property (QTIP) trust, which provides for the needs of your surviving spouse during their lifetime. The remainder of the assets in the trust go to other beneficiaries when your spouse passes away.
Advantages and disadvantages of irrevocable trusts
Irrevocable trusts can be a powerful tool for protecting your assets and ensuring they are distributed according to your wishes. Still, they may also come with certain limitations. We’ll cover the basics here, but consulting an attorney can help you determine if an irrevocable trust is the right choice for you.
Advantages of an irrevocable trust
An irrevocable trust provides a greater degree of control, allowing you to specify how and when assets will be distributed to your beneficiaries. As a result, you can enjoy peace of mind that your beneficiaries will use the assets as you intend.
Irrevocable trusts also can help shield your assets. Transferring certain assets to an irrevocable trust can remove them from your taxable estate and protect them from creditor claims. They are also helpful for individuals who need to shelter income and assets so they don’t exceed limits on government benefits like Medicaid and Supplemental Security Income.
In addition, irrevocable trusts can be used for multi-generational planning, helping you build and maintain wealth for future generations of your family.
Disadvantages of an irrevocable trust
Irrevocable trusts do have some restrictions. As the name suggests, an irrevocable trust is one that can’t be changed—at least, not easily. While Texas and most jurisdictions allows irrevocable trusts to be reformed, modified, or decanted thanks to the advent of the “trust protector,” this process is not always simple or straightforward.
We recommend that you contact an experienced estate planning attorney to better understand all of the parties and preparations involved before attempting to establish or adjust an irrevocable trust.
Once your assets are placed in an irrevocable trust, you may not be able to make any changes to the trust or access the assets without the beneficiaries’ consent. For this reason, it’s important to be sure of your wishes and the terms of the trust before creating it.
This can be challenging, given that lifestyle, finances, and family can change over time. For example, what if you name a sibling as a beneficiary of your irrevocable trust only to have that relationship sour? You’ll need to consider whether modifying the trust is worth the effort.
Not sure whether an irrevocable trust is right for you?
With proper planning and professional guidance, an irrevocable trust can provide significant benefits that help you achieve your estate planning needs. That said, there are several routes you may be able to take to achieve your goals, so it’s important to thoroughly weigh the pros and cons before deciding whether to create an irrevocable trust.
If you want to learn more about creating irrevocable trusts, contact the estate planning attorneys at Shann M. Chaudhry, Esq., PLLC. We’re here to help you identify estate planning strategies for your lifestyle and financial goals.