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Irrevocable vs. Revocable Trusts

Staten Island Trust Attorneys 

One of the most important ways estate planning attorneys assist their clients is by creating trusts. Trusts serve many purposes -- financial, logistical, and personal, including:

  • To protect funds from unnecessary taxation and/or multiply tax exemptions
  • To control distributions for a beneficiary unable to manage finances effectively
  • To provide privacy concerning personal, financial, or familial information
  • To preserve the disability benefits of a beneficiary 
  • To avoid assets passing to unintended beneficiaries
  • To avoid probate

Defining Irrevocable and Revocable Trusts

Although there are two basic types of trusts, irrevocable and revocable, there are a great many subcategories, differentiated by the needs they meet. An irrevocable trust, as the name indicates, cannot be changed once it has been finalized. A revocable trust, on the other hand, also known as a living trust, can be altered until the death of the individual for whom it was established (the Grantor or Settlor). You can name yourself as the initial trustee (most people do) but you should name a successor trustee of your choosing who will take over management of the trust after you die. Your successor trustee is tasked with distributing your assets to the beneficiaries you have designated. 

Advantages of a Revocable Trust

The owner of a revocable trust can change, add or remove beneficiaries, and can modify directions as to how assets within the trust are managed. Revocable living trusts are primarily used to avoid probate in states where probate is particularly cumbersome, or, in some instances, to protect assets when a person owns real estate in multiple states. Revocable trusts also serve the purpose of protecting your privacy (since they are not public documents) and helping you plan for potential future disability. Though revocable trusts are completely separate from wills, the two are often used in combination to carry out the wishes of the Settlor.

Advantages of an Irrevocable Trust

Irrevocable trusts, like revocable trusts, protect. Furthermore, a trust is considerably more difficult to contest than a will, helping to ensure that your last wishes are adhered to. In the event that you become mentally incapacitated, your trust already has a successor trustee, which will probably make the need for a conservatorship unnecessary.

Differences in Usage of Irrevocable and Revocable Trusts

The differences between irrevocable and revocable trusts go well beyond the fact that one can be altered during the Grantor’s lifetime and one cannot. The following differences help to determine which will be most helpful in the estate planning of a particular individual or family.

Ownership of the Property

Once the Grantor places assets in an irrevocable trust, the property no longer belongs to that person; the assets now belong to the trust. Though the grantor can, for example, continue to live in the house that has been put into the trust, he or she no longer legally owns it. The advantage of this arrangement is that it protects the asset(s) in question from claims by creditors. If the grantor puts the house in a revocable trust, on the other hand, the grantor maintains ownership and the protection from creditors does not exist.

Modification

An irrevocable trust agreement generally cannot be changed or revoked, even with a court order, which means that the asset protection is total. A revocable trust, on the contrary, can be modified or revoked at the Grantor’s discretion; this means that the assets in a revocable trust are still vulnerable to creditors, ex-spouses, and other claimants.

Estate Taxes

Another way in which an irrevocable trust is protective is that since the Grantor is no longer the owner of the property put in trust, the property’s value is not included when the total amount of the estate is calculated. For this reason, the property is not subjected to estate taxes when the grantor dies.

Protection of Assets

Once assets are put into an irrevocable trust, because they no longer legally belong to the Grantor, they are beyond the grasp not only of creditors, but of other claimants, such as divorcing spouses and, under some circumstances, government benefits like Medicaid. Another advantage of creating an irrevocable trust is that it can shield assets from legal claims, whereas a revocable trust cannot.

Appointment of Trustee

Another major difference between irrevocable and revocable trusts is who plays the role of Trustee. While in a revocable trust, the Grantor and Trustee are often one and the same, with an irrevocable trust the Trustee is an independent person, not even a relative of the Grantor. Though the Trustee of an irrevocable trust bears fiduciary duty to the Grantor, the former has independent control over the assets.

Income Tax Return

Once an irrevocable trust is created, that trust has its own tax identification number, and the appointed trustee files a 1041 form, and then either pays the tax itself (which rarely happens) or issues a K-1 to the Grantor for a more roundabout payment. With a revocable trust, of course, since the Grantor still owns the assets and any income they have generated, he or she files everything on a 1040 form.

Types of Irrevocable Trusts

Now that the distinctions between the irrevocable and revocable trusts have been clarified, let’s look at the various subcategories of irrevocable trusts. Each is designed with a specific purpose in mind and so is structured slightly differently. At Merlino & Gonzalez, we are well-equipped to draw up trusts for any number of reasons. Our attorneys are proficient at creating whatever type of trust will meet your particular needs.

Trusts for Minors

As part of a comprehensive estate plan, it is quite common for people to leave money to their children or grandchildren in a trust. Normally this is done to ensure the money will be there for the children’s benefit while they are young -- for support, education, medical expenses, etc. -- and then be given to them as a full inheritance when they reach maturity. The Grantor can, and often does, stipulate that the children or grandchildren must not only reach a certain age, but a special level of achievement (such as earning a college degree) in order to receive the money that remains in trust for them.                                                                                   

Special Needs Trusts

Special needs trusts are put in place to protect the future of children or adults with special challenges, such as cerebral palsy, bipolar disorder, or autism. Because most individuals with special needs receive government benefits, setting up special needs trusts is an important means of protecting those benefits. A sudden inheritance of money will jeopardize the ongoing flow of government benefits, at least until the inheritance is spent. By establishing a special needs trust, the government benefits remain intact and the trustee can distribute money as needed for expenses that will enhance the special needs individual’s quality of life.

Marital Trusts

There are two primary reasons married couples may want to include spousal trusts in their wills or create them as separate documents: to take advantage of estate tax exemptions and to protect their property. In the first case, any amount in excess of the individual’s federal tax exemption, if put into a marital trust, is eligible for an unlimited marital deduction. It should be noted, however, that this only works if the surviving spouse is the sole beneficiary of the trust. 
Marital trusts are also used to make sure that the Grantor’s property will ultimately end up where the Grantor wants it to. A familiar example of the latter occurs when a spouse in a second marriage wants to leave her current husband well provided for if she predeceases him, but wants the portion of her estate that remains after his death to go to her adult children from her first marriage. The marital trust is designed to make this happen.

Irrevocable Life Insurance Trusts

Irrevocable life insurance trusts (or ILIT’s) can be used in order to position an individual’s life insurance benefits so they exist outside the perimeters of his or her estate so the amount the policy pays will be unavailable for estate tax purposes.   

Spendthrift Trusts 

Spendthrift trusts, as the name indicates, are established to protect a beneficiary’s assets from that individual’s own profligacy and from the creditors such a person will almost certainly be harassed by. Spendthrift trusts are usually administered by an independent trustee (often an entity) that has complete discretion over the distribution of assets of the trust. The Trustee will dispense funds as directed by the Grantor, never 
awarded as a lump sum to fund a spending spree.

Charitable Trusts

When you create a charitable trust, you transfer a sum of money into the trust, removing it from your estate. In addition to benefiting the cause you have chosen to support, this action prevents the designated amount from being taxed as part of your estate and also provides you with an immediate charitable income tax deduction.

How Merlino & Gonzalez Can Help

Trusts are a valuable estate planning tool, protecting your assets from unnecessary taxation, ensuring that your estate is distributed according to your wishes, giving you some control over unruly relatives, and making certain that your special needs loved ones are well taken care of after you’re gone. When you come to our office for estate planning services, you can be certain that our attorneys know the legal requirements and financial implications of all types of trusts and will assist you in setting up those that will work to your advantage. Our insights will assist you in taking steps to give you the peace of mind that comes from providing financial stability for yourself and your loved ones, now and in the future. Contact us today to schedule a consultation.



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