OVERVIEW OF AN IRREVOCABLE TRUST
Unlike a revocable trust (revocable living trust), assets transferred to an “irrevocable” trust cannot be changed or dissolved by the Grantor once it has been created. The Grantor no longer owns the assets. An independent Trustee is your best defense. With an independent trustee, you generally can’t remove assets, change beneficiaries, or rewrite any of the terms of the trust. An irrevocable trust is a valuable estate planning tool. First, you transfer assets into the trust assets you don’t mind losing control over.
With an irrevocable trust, all of the property in the trust, plus all future appreciation on the property, is out of your taxable estate. That means your ultimate estate tax liability may be less, resulting in a more tax efficient way to transfer your accumulated wealth to your beneficiaries. Property transferred to your beneficiaries through an irrevocable trust will also avoid probate. As a bonus, property in an irrevocable trust may be protected from your creditors.
Of late this irrevocable trust device is being utilized by many for avoiding the Medicare nursing home spend-down provisions whereby if the elderly has to enter a nursing home he must first spend all his money until he does not have any money left.
Most people don’t like to give up control over their assets because of their perceived notion that giving up control is equivalent to leaving the wolf in charge of the henhouse. The law imposes strict obligations and rules on trustees including a duty to account for any benefits the trustee may have gained directly or indirectly from a trust. This goes beyond fraudulent abuse of position by a trustee.
The courts regard a trust as creating a special relationship which places serious and onerous obligations on the trustees. The law regards the special “Fiduciary” relationship of a trust as imposing stringent duties and liabilities on the person in whom confidence is placed – the trustees – in order to prevent possible abuse of that confidence. A trustee is therefore subject to the following rules:
• No private advantage: A trustee is not permitted to use or deal with trust property for direct or indirect private advantages. If necessary the court will hold him personally liable to account for any profits made in breach of this obligation.
• Best interests of beneficiaries: Trustees must exercise all their powers in the best interests of the beneficiaries of the trust.
• Act prudently: Whether or not a trustee is remunerated he must act prudently in the management of trust property and will be liable for breach of trust if, by failing to exercise proper care, the trust fund suffers loss. In the case of a professional the standard of care which the law imposes is higher. Failure to exercise the requisite level of care will constitute a breach of trust for which the trustee will be liable to compensate the beneficiaries. This duty can extend to supervising the activities of a company in which the trustees hold a controlling interest.
Legal Safeguard of an Irrevocable Trust.
In cases of substantial assets, you may add one other safety measure, “the Trust Protector.” The trust protector’s sole function is to hire and fire trustees, at will and without explanation.
How to Change an Irrevocable Trust.
There are two standards to consider with regards to an irrevocable trust. The IRS has the stricter standard: they consider any trust in which the grantor retains any meaningful control of or interest in the assets, or the power to change the beneficiaries or trustee, to be a grantor trust, and taxable to the grantor. Thus, an irrevocable trust under state law might not be treated as such by the IRS, which carries important income and estate tax implications. While it is not possible for anyone but the beneficiary to alter the terms of an irrevocable trust, there are some creative ways for a grantor to change an irrevocable trust depending on the terms of the trust itself.
• Get the beneficiaries to agree. The most common and direct way an irrevocable trust is changed is through agreement by the beneficiaries. This must be done according to the laws of the state governing the trust. All the beneficiaries, including those who receive current income and those with future interest, and the trustee(s) must communicate their consent.
• Establish a new trust. If the trustee of the irrevocable trust has wide enough latitude in accessing the assets of the trust and can invest or allocate them, a new trust can be established with somewhat different terms and the assets poured from the old trust into the new one. This is an option in situations where the beneficiaries will not agree to a change in their rights under the trust, and, in such a case, the new trust will have to preserve the beneficiaries’ rights.
• Sell the assets. Again, if the trustee is empowered in the original trust document to do so, it is possible for the trustee to sell some or all the assets of the trust to another trust with different terms. This process is not tax free, unless possibly if the original irrevocable trust is already defective and considered a grantor trust by the IRS.
As a result of the sale, however, assets that are continuing to appreciate can be sold to a new trust, while the old trust will hold cash.
What Are the Advantages of an Irrevocable Trust?
The most obvious benefit of an irrevocable trust is that it shields assets from probate. A common use of this benefit is through an irrevocable life insurance trust (ILIT), in which the life insurance policy of the settlor is irrevocably placed in a trust for the benefit of named beneficiaries without recourse to probate or creditors. Life insurance is a perfect asset for an irrevocable trust because it is of little use to the settlor during their life.
An irrevocable trust is a trust that cannot be changed or altered after it is set up. With an irrevocable trust, a person gives up ownership of all his assets and transfers the ownership to a trust that is managed by a trustee. The person still has use of the assets, but no longer owns or controls them. In most cases, a person transfers ownership of the house, cars, bank accounts, brokerage accounts and other assets to the trust.
• Asset protection: The assets are protected from lawsuits. The grantor (the person setting up the trust) does not own any property or have any assets so there is no reason for anyone to sue him.
• No estate taxes: Since the deceased did not own any assets, there is nothing to be taxed upon his death.
• No probate: After a person dies, her estate goes into probate as the court decides who the heirs are and who gets what assets. This process can take a long time even if the deceased left a will. An irrevocable trust avoids all this.
• Easy charity donations: With an irrevocable trust, it is easier to give property to charity. There is also no tax on this property because it comes from an irrevocable trust.
• Peace of mind: With an irrevocable trust, you know your assets cannot be seized because of a lawsuit, and you know your family is taken care of as the beneficiaries. Also, should the grantor become incapacitated, any financial issues have already been decided by him through the trust.
If you’re considering creating an Irrevocable Trust… We Can Help!
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