You can choose to create a trust in place of writing a will for your assets. When you create a trust, the beneficiaries might be able to skip the entire process of probate, based on the type of trust you have. Creating a trust comes with its own set of pros and cons, and it depends on the type of trust you establish. In an irrevocable trust, after you sign on the dotted line, your assets are not your own.
An irrevocable trust will lower the tax liability and will protect you from lawsuits. It will also ensure that the beneficiaries do not mishandle the assets. However, there are certain downsides of an irrevocable trust that you will have to accept.
What is an irrevocable trust?
Apart from testamentary trusts, all other trusts share a common benefit- they help avoid probate, which is the legal process needed to transfer the ownership of assets from a deceased individual to the living beneficiary. By funding your trust with assets, you provide a way for ownership of these assets to move to the people of your choice. In this case, probate becomes unnecessary. The trust can hold the assets and transfer to the beneficiaries at a later time. The terms do not become a matter of public record and the trust is not subject to probate. In case of a will, anyone and everyone can look it up to find out what you owned.
Further, an irrevocable life insurance trust is a trust which can be set up to accept the death benefits at the time of death in order to avoid having their value included in the estate. It is possible to fund the trust with up to $15,000 per year without incurring a gift tax as of 2020.
Irrevocable trusts also include charitable trusts like charitable lead trusts and charitable remainder trusts. They can pay your beneficiaries first and then distribute the balance of the assets to a charity or you can set it up to work the other way around.
Types of Irrevocable Trusts
There are two types of irrevocable trusts- living trusts and testamentary trusts.
A living trust is created and funded by an individual in their lifetime. It is a document that gives responsibility for the management of the individual’s assets. The trust allows for the quick and easy transfer of the trust creator or settlor’s assets and bypasses the complex process of a probate. It is an agreement that designates a trustee who holds the possession of the assets that flow in the trust.
Testamentary trusts are always irrevocable since they are not created and funded until the death of the creators’. The trust is created as per the terms contained in the last will of the deceased. Nobody with the legal authority to change the terms of the trust is living by the time it goes into effect, this makes it automatically irrevocable. There are four parties involved in a trust- trustor, trustee, beneficiaries and the probate court.
Pros of Irrevocable Trust
Irrevocable trusts can help plan for the distribution of the assets, they will protect against lawsuits and will help lower the tax liability.
Protection of assets: The assets placed in an irrevocable trust will be safeguarded from lawsuits by business partners, a spouse, creditors, or anybody seeking a legal judgment against you. When you place the home, jewelry, art collection or any other valuables in the trust, they are out of reach of unscrupulous litigation.
Medicare: In an irrevocable trust, there is a huge benefit to stop the depletion of your wealth. By transferring your assets to the trust, you will reduce your financial profile and it will allow you to take advantage of government benefit programs like Medicare.
Tax planning: You can place assets in an irrevocable trust and they will not be counted towards the value of your estate. This means you will be able to reduce the tax liability of the asset by placing yours into a trust.
Irresponsible heirs: It is possible to create a trust that becomes an irrevocable trust and distribute assets on a conditional basis. It helps preserve the assets from coming in the control of heirs you do not trust. In case you have children who struggle with addiction, it will reduce their chances of relapse.
Cons of an irrevocable trust
Establishing an irrevocable trust has many disadvantages as discussed below.
Inflexible structure: There is no wiggle room if you are the grantor of the trust. Once you move the assets into the trust, you will lose control over them and if you wish to alter the terms of the trust, you cannot do it unilaterally. You will be required to get the permission of all adult beneficiaries in order to amend the trust.
No control over the assets: It is not possible to manage your assets or retrieve them after you assign them to an irrevocable trust. Based on how the trust is established, you will receive income from the trust. However, in case of financial difficulty, you cannot access any of the former assets.
Unforeseen changes: Family, finances, goals, and priorities are few items that are unpredictable in life. Hence, if you create an irrevocable trust, it is not possible to change it to align with the circumstances in the future.
Setting up an irrevocable trust
In order to set up a trust, you will be the grantor of the trust. Additionally, you will need two other people to complete the structure of the trust-a trustee and a beneficiary. You will decide the terms and conditions of the trust assets and you will be able to transfer different types of assets to the trust including property, cash, life insurance policies, and investments. You will need an attorney to draft the document because of the legalities involved. Once you have transferred the assets, you cannot revoke the trust and the assets are no longer your own.
Considering the benefits of setting up an irrevocable trust, it can be correctly said that your assets will remain safe and secure in the trust. It will help make the most of tax benefits and you will be able to distribute your assets to the right individuals in the right manner. However, it is a decision that should be very carefully taken.