How does an irrevocable trust work?
When you're planning for your financial future, you have options. So many, in fact, that it's easy to get overwhelmed. Balancing the advantages and drawbacks of different estate plans is tricky. How will you meet your goals?
We're proud to work with Arizonans to help them understand their legal options and find the right path forward. One option that comes up frequently is the irrevocable trust.
So what's an irrevocable trust?
A trust, broadly speaking, is a legal vehicle that gives some portion of your assets (as the trustor) to the management of a third party in a fiduciary role (a trustee), who holds and directs those assets on behalf of a named beneficiary.
An irrevocable trust, as the name implies, is a trust that can't be changed once it's established. When you put assets into an irrevocable trust, it's a one-way trip. An irrevocable trust can be created during the trustor's lifetime, or established upon death by your last will and testament (this is also called a testamentary trust).
What are the benefits of an irrevocable trust?
The main reason to put assets into an irrevocable trust is to shelter them. Putting assets in an irrevocable trust can protect them from estate taxes and shield them from creditors or litigation. In contrast, assets that are in a revocable trust do not have the same degree of protection, since they are still accessible to the trustor. An irrevocable trust is thus a way to preserve more of your legacy for your beneficiary and reduce the amount that goes elsewhere.
In addition, a trust may be part of your plan to qualify for means-tested government programs like Medicaid. Since assets in an irrevocable trust are under the control of neither the trustor nor the beneficiary, they are not included as part of your assets or income for the purposes of determining eligibility.
What are the drawbacks of an irrevocable trust?
Again, putting assets in an irrevocable trust is a one-way trip, which means you lose flexibility if circumstances change. If, for instance, you put assets into an irrevocable trust to shield them from taxes, and the applicable portion of the tax code changes to the point where the trust is no longer needed, the assets are still stuck in the trust.
Keep in mind that the tax implications of an irrevocable trust are not always to your advantage. It depends on your situation. Having an irrevocable trust also requires that you hire a trustee to manage it. You must also pay a tax professional to file a separate tax return for the trust.
Should I create an irrevocable trust?
The short answer is "it depends on what you're trying to accomplish." If your goal is simply to avoid probate or protect your privacy rather than shield assets, you may be better off with a revocable trust, which does those things just as well without the drawbacks of an irrevocable trust. However, if you need to shelter assets from taxes or anticipate future liabilities, then putting your assets in an irrevocable trust may be the right option.
As with all other estate planning options, you need to think holistically. Start with your goals and evaluate the various legal tools available to help you achieve them. That's why it's so important to speak with an experienced attorney about your estate plan. We'd be glad to meet with you and help you evaluate your options during a free consultation.