Do You Need a Revocable Trust or Irrevocable Trust?

POSTED ON: August 10, 2021

Trust funds are not just for the ultra-rich. These sophisticated estate-planning tools can make just as much sense for middle-class Americans who own a home and have a net worth of at least $100,000.

Do You Need a Revocable Trust or Irrevocable Trust?

There are important differences between revocable and irrevocable trusts.  This article discusses some issues pertaining to both: “What to Consider When Deciding Between a Revocable and Irrevocable Trust” from Kiplinger. A revocable trust is often referred to as the Swiss Army knife of estate planning because it has so many different uses. The irrevocable trust is also a multi-use tool, only different.  Note: this article does not discuss the various types of tax planning trusts, almost all of which are considered “irrevocable trusts.”

The Big Differences Between the Two.  Here are the basic purposes of revocable and irrevocable trusts.  A revocable trust is almost exclusively a probate avoidance tool.  It does not protect your assets during your life from your creditors and predators, but may protect your assets after you die from your children’s creditors and predators.  Most revocable trusts don’t do this however, since most attorneys, even estate planning attorneys, don’t build sophisticated provisions into their revocable trusts.  So they are almost exclusively probate avoidance tools.

An irrevocable trust will avoid probate just like a revocable trust, but it can also provide asset protection features during your life, after your death, and can help you to qualify for Medicaid Long Term Care benefits.

What is a Trust?  Trusts are legal entities that own assets like real estate, investment accounts, cars, life insurance and high value personal belongings, like jewelry or art. Ownership of the asset is transferred to the trust, typically by changing the title of ownership. The trust documents also contain directions regarding what should happen to the asset when you die.

There are three key parties to any trust: the settlor (called the “grantor” in most other states), who is the person creating and depositing assets into the trust; the beneficiary, who will receive the trust assets and income; and the trustee, who is in charge of the trust, files tax returns as needed and distributes assets according to the terms of the trust. One person can hold different roles. The settlor could set up a trust and also be a trustee and even the beneficiary while living. The executor of a will can also be a trustee or a successor trustee.  To complicate things further,

Revocable Trusts in Detail.  If the trust is revocable, the grantor has the option of amending or revoking the trust at any time. A different trustee or beneficiary can be named, and the terms of the trust may be changed. Assets can also be taken back from a revocable trust. Pre-tax retirement funds, like a 401(k) cannot be placed inside a trust, since the transfer would require the trust to become the owner of these accounts. The IRS would consider that to be a taxable withdrawal.

There isn’t much difference between owning the assets yourself and a revocable trust. Assets still count as part of your estate and are not sheltered from estate taxes or creditors. However, you have complete control of the assets and the trust. So why have one? The transition of ownership if something happens to you is easier. If you become incapacitated, a successor trustee can take over management of trust assets. This may be easier than relying on a Power of Attorney form and some believe it offers more legal authority, allowing family members to manage assets and pay bills.  Also, even though a revocable trust is not asset protected as to you while you are able to revoke it, it can be asset protected as to your heirs (beneficiaries) after you die.  That is because a properly drafted revocable will typically become irrevocable upon your death, triggering its asset protection features at that time.

In addition, assets in a trust (whether revocable or irrevocable) don’t go through probate, so the transfer of property after you die to heirs is easier. If you own homes in multiple states, heirs will receive their inheritance faster than if the homes must go through probate in multiple states. Any property in your revocable trust is not in your will, so ownership and transfer status remain private.

Irrevocable Trusts in Detail.  An irrevocable trust can be harder to change, as befits its name.  Keep in mind however, even though the trust is “irrevocable”, most clients can control the assets while they are alive.  This is because most clients will be the trustee of the irrevocable trust.  You can remain the trustee for life, and your children or heirs would only have a right to distribution sometime after you die.  This is a key misunderstaning of irrevocable trusts.  You can control it and the assets in it!

To change an irrevocable trust will depend on the kind of change you want to make.  “Administrative provisions” of an irrevocable trust can be modified or amended without much difficulty, just like a revocable trust.  These administrative provisions include changing the trustee or successor trustee that you named.  It may also include changing when or how assets are distributed to the beneficiaries.  Changing the beneficiaries can be another matter, however.  For example, if you originally named two children equally as principal beneficiaries of your irrevocable trust, and you want to disinherit one of them, you may be out of luck (but not necessarily).

Although some might view this as a “limitation” of irrevocable trusts, for the vast majority of my clients, this is not a limitation at all.  They know that whatever decision they make, they are willing to consider it fixed in stone.  For example, many clients, come hell or high water, will not disinherit one of their children and they intend to treat them equally.  As another example, some clients wish to disinherit a child that misstreated him or her, and will never go back on that decision.  For these clients, an irrevocable trust is not a limitation at all.

The benefits from the irrevocable trust make them worthwhile because assets in the irrevocable trust may not be considered as a resource for Medicaid Long Term Care pourposes, thereby qualifying you for long term care.

Your selection of the type of trust that fits your needs will be as unique as you are.  Don’t settle for a cookie cutter solution for your estate plan.  BOOK A CALL with Ted today to discuss ideas on how to structure your legacy and final wishes.

Reference: Kiplinger (July 14, 2021) “What to Consider When Deciding Between a Revocable and Irrevocable Trust”

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