All types of estate planning trusts fall under one of two distinctions: revocable or irrevocable. Let’s examine their differences and nuances and discover how both types can be invaluable in a comprehensive estate plan.
Trusts may be one of the better-known and least-understood estate planning tools. Sometimes, trusts are even unfairly besmirched, like with the phrase “trust fund kid.” When utilized efficiently and thoughtfully, trusts are one of the most robust ways to secure your future and the future of your loved ones.
Broadly, trusts are legal documents that dictate how and when to transfer assets to beneficiaries or charities. There are three parties involved in the creation and execution of a trust.
- A grantor (or trustor) creates the trust.
- A trustee administers the trust once the grantor passes away or if the grantor becomes incapacitated.
- Beneficiaries are people and institutions that gain the assets held by the trust.
However, some trusts do much more than simply pass assets to beneficiaries, including minimizing estate and other taxes and protecting assets. So, which trusts do what? Here are answers to some of the most pressing questions many people have regarding revocable and irrevocable trusts.
What are the benefits of a revocable trust?
A revocable trust is the most flexible type of trust. It is called “revocable” because after establishing a trust, the grantor retains control of everything in the trust during their life.
One of the most significant benefits of a revocable trust is that it allows the beneficiaries to avoid the probate process. Probate is the legal process of transferring titles and assets to heirs, and it can be excessively cumbersome. Even a seemingly straightforward case, such as a deceased parent leaving a house to their child, can drag on for months and often needs an attorney to help resolve it. The attorney fees and other costs mean probate can be costly compared to the upfront costs of a revocable trust.
Probate becomes more complex if family infighting occurs, such as when a family member believes they did not get a fair share or there is a dispute over a sentimental item. Also, since everything that goes through probate becomes part of the public record, family disputes can become widely known and drag out the probate process for years.
Can revocable trust be changed?
While the grantor is alive and not incapacitated, a revocable trust can be altered or dissolved at any time.
The way a revocable trust works is that after it is created and funded, the grantor is no longer the legal owner of any assets in the trust. Instead, the trust becomes the legal owner.
However, the grantor still has the rights to those possessions and may transfer vehicles, bank accounts, investments, real estate, and other property to and from the trust. The only difference from life before the revocable trust is that those transactions occur in the name of the trust. Essentially, while they are alive and not incapacitated, the grantor is also the trustee and beneficiary of a revocable trust.
Since most grantors name themselves as the initial trustee of their revocable trust, they also name a successor trustee. Once the grantor passes away, the successor trustee makes the distributions to beneficiaries according to the terms of the trust.
Revocable trust vs living trust: what’s the difference?
Many people are confused about the difference between a revocable trust vs living trust. Fortunately, this is easy to clear up: there is no difference. They are the same.
“Revocable trust,” “living trust,” and most accurately, “revocable living trust” are interchangeable terms for the same type of legal document.
Is there a different type of revocable trust?
Most revocable living trusts are similar. However, there are subtle variations of revocable trusts. For example, a joint revocable trust has more than one grantor. Married couples most often utilize this type of revocable trust.
When a married couple creates a joint revocable trust, both spouses have access to the possessions held in the trust. When one of the co-grantors passes away or becomes incapacitated, the other spouse becomes the sole trustee and has control over the assets in the trust (unless that control is reduced for asset protection or other planning objectives, such as for blended families). When that person dies, the trust’s assets pass to beneficiaries as designated.
When does a revocable trust become irrevocable?
As mentioned, while a grantor is alive and not incapacitated, a revocable trust can be altered or dissolved at any time. However, once the grantor passes away or can no longer make decisions for themselves (such as if they become medically incapacitated), the terms of the trust and all assets held by the trust become locked. At this point, the trust is essentially irrevocable.
As mentioned above, the main exception is when a couple creates a joint revocable trust. Depending on how the trust was created, a surviving spouse can have total control of the trust, or for blended families or specific tax or asset protection reasons, their authority may be minimized.
What is the difference between a revocable and irrevocable trust?
There are many variances between revocable and irrevocable trusts. However, the most obvious one is that once an irrevocable trust is created and funded, the terms of the trust and the assets it holds are locked in place and cannot be altered.
A grantor cannot use, sell, or even access assets in an irrevocable trust. Essentially, everything held by an irrevocable trust is removed from an estate. A benefit of using irrevocable trusts is that they lower the number of assets subject to estate taxes. Additionally, the grantor has no tax liability on any income generated by the trust’s assets, although beneficiaries will likely have some income tax consequences. Assets in an irrevocable trust may also be protected from legal judgments against the grantor.
|Avoids the probate process. Grantor can access, use, and sell the assets. Can be altered or dissolved. Preserves privacy.
|No tax reduction or benefits. Assets may be subject to claims from creditors.
|Can help lower estate and other taxes. Protects assets from creditors. Avoids the probate process.
|Cannot access, use, or sell the assets. Limited to no flexibility.
There are several different types of irrevocable trusts. Some examples include the following:
- Irrevocable life insurance trust (ILIT): trust holds a life insurance policy on the grantor; the proceeds are not taxed as part of the grantor’s estate.
- Generation-skipping trust: transfers assets to grandchildren or later generations tax-free (beneficiaries must be at least 37½ years younger than the grantor); these trusts are a wealth-preservation tool.
- Spendthrift trust: limits a beneficiary’s access to the trust’s assets; the trustee has discretion over how and when distributions are made, which protects assets from poor spending habits, creditors, and unfortunate life events, like a divorce.
- Special needs trust: for dependents with physical or cognitive disabilities who receive government benefits; ensures the beneficiary gains some revenue without risking their eligibility for government benefits.
- Qualified terminable interest property (QTIP) trust: in blended families, a QTIP trust ensures that the money of one spouse passes to that spouse’s children and is not diverted after their death.
Which is better revocable or irrevocable trust?
There is no “better” when it comes to revocable and irrevocable trusts. There’s only what’s best for you.
For example, someone with a small family who isn’t too concerned about estate taxes may only need a revocable living trust to pass down their assets. However, someone with a large family, estate, or both may benefit from using a combination of revocable and irrevocable trusts to avoid probate, reduce taxes, and protect their assets.
Speak with your estate attorney, and they’ll help reveal the plan that’s right for your unique circumstances.
How to tell if a trust is revocable or irrevocable?
Don’t worry; your estate attorney will clearly let you know if a trust is revocable or irrevocable long before anything is finalized. As you create your estate plan, your estate attorney will ensure you understand when an asset will be “removed” from your estate and placed in an irrevocable trust.
While we hope this article offered more than “revocable trusts for dummies,” obviously, there are many more nuances to revocable and irrevocable trusts that we couldn’t cover here.
If you have more questions regarding a revocable vs irrevocable trust or are interested in beginning an estate plan, please reach out to Harbor Law Firm.
We aim to make your estate planning process as simple and stress-free as possible. Along the way, we’re always available to answer questions like “What is the difference between a living trust vs will?” and all other questions you may have.
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