The purpose of estate tax planning is to maximize the assets you pass on to future generations by minimizing gift and estate taxes. Estate-tax strategies revolve around the use of irrevocable trusts. This article discusses the most common types of irrevocable trusts that are used to minimize gift and estate […]
In trust law, one of the most fundamental and significant distinctions is the revocable trust vs. irrevocable trust distinction. A revocable trust (or living trust) is a type of trust that allows the creator (or “grantor“) to revoke the terms at any time and for any reason. An irrevocable trust is a type of trust that cannot be amended or revoked by the person who created it. In exchange, the grantor can gain significant tax, estate-planning and asset-protection benefits.
In this article, we will explore the key differences between revocable and irrevocable trusts so that you can make an informed decision about which type is right for you.
There are a few reasons people create revocable trusts. By far the most common reason is probate avoidance. Revocable trusts allow their grantor’s estates to avoid probate when the grantor dies. (Probate is a legal process that occurs when someone dies without a revocable trust; it is time-consuming and expensive for heirs to navigate.)
Another fairly common use of revocable trusts is disguising ownership of an asset. By putting assets into a revocable trust, a grantor can retain ownership of the asset while disguising the fact that they’re the owner. For example, a celebrity might create a trust, name his accountant as trustee, call the trust something generic like the “12 Main Street Trust,” and then transfer real estate into it. The deed will be public, but it won’t be apparent from looking at the deed who really owns the property.
The most common reason people set up irrevocable trusts is tax avoidance. Irrevocable trusts have a number of powerful tax benefits. Certain types of trusts, like charitable remainder trusts, have the power to defer capital gains taxes. Non-grantor trusts have the power to reduce state income tax (and, in some cases, federal income tax, too). Intentionally defective grantor trusts (IDGTs), including irrevocable life insurance trusts, can minimize future estate tax.
Another common reason that people set up irrevocable trusts is to protect assets from creditors. For most people, asset protection is secondary to tax mitigation, but for some people, asset protection is the main reason they set up their trust. Irrevocable trusts provide powerful asset protection because they’re not “owned” by the grantor or the beneficiary. Instead, legal ownership is vested in a trustee. As a result, neither the grantor’s creditors nor the beneficiary’s creditors can easily reach a trust’s assets, and the trustee’s creditors can’t reach them either because the trustee acts in a fiduciary capacity, not in his or her individual capacity.
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