Earning the property and assets you have today likely took time and countless hours of work, which is why you should plan for what happens to those assets when you pass away. A trust is a legal arrangement used to grant a second party the right to hold title to property or assets for the benefit of the trustor either during your lifetime or once you pass away. Trust assets can avoid the probate process, which makes it more of an appealing process. Probate is a local court that oversees the distribution of your estate after you pass away. These proceedings are public, making them time-consuming and expensive. A trust simplifies the process by enabling beneficiaries to obtain the property designated to them.
There are also different types of trusts that essentially fall into two categories: revocable and irrevocable. Trusts can be used to serve different purposes and offer distinct advantages and disadvantages. It is important to understand the pros and cons to know how to incorporate each of them in your estate plan.
A revocable trust can be changed at any time by the grantor, the creator of the trust, during their lifetime, as long as they are competent. It is the most flexible type of trust that can be made. You can revoke or change your trust at any time. For example, if you wanted to transfer more assets to your trust, add or remove beneficiaries, or sell trust property, you can use a revocable trust. During your lifetime, the trustee invests and manages the trust property. The trustee is also authorized to continue to manage your trust assets, pay your bills, and make investment decisions. This is an advantage of a revocable trust.
Then, the trustee is responsible for paying all claims and taxes, and then distributing the assets to the beneficiaries described in the trust agreement upon your death. The main con of revocable trusts is its tax implication. Assets in a revocable trust are considered part of the grantor’s estate for tax purposes, which means they could be subject to estate taxes upon death. Assets held in a revocable trust bypass the probate process, facilitating a quicker and often less costly distribution to beneficiaries. Due to the avoidance of probate, a revocable trust is not a matter of public record, offering a degree of privacy in the distribution of assets. Additionally, either during their lifetime or upon their death, assets in a revocable trust are not protected from the grantor’s creditors.
Revocable trusts have its benefits of flexibility, avoidance of probate, and privacy, which makes it appealing to many people. The tax implications are a drawback, yet having the ability to change and revoke your trust at any time provides peace of mind for the grantor.
An irrevocable trust is a type of trust that almost always requires court or beneficiary approval to change its terms, once executed. Ownership of your property is transferred to an irrevocable trust the same way as a revocable trust. However, once your assets belong to the trust, you don’t have full freedom to make changes. If you want to make edits to an irrevocable trust, it usually requires an agreement signed by the trustee and all the trust’s beneficiaries, or a judge’s approval.
Since irrevocable trusts are less flexible than revocable trusts, they are less commonly used in estate planning. Also, the grantor loses full control over the assets in an irrevocable trust. Wealthy individuals get the most benefits from utilizing irrevocable trusts by minimizing estate taxes and avoiding certain creditor claims. Your assets are no longer part of your taxable estate and when you pass away, your estate won’t have to pay estate taxes on them.
The biggest advantage of an irrevocable trust that a revocable trust does not provide is protection from creditors. Assets cannot be reached by creditors or lawsuits, making them safer from external claims. Estate taxes do not apply to assets in an irrevocable trust. The inability to alter or revoke the trust once it has been established can be complicated, but some modifications may be made. Sometimes this loss of control can be worrisome to many individuals. The costs to create this specific trust can be higher due to the complexity of irrevocable trusts, which could be considered a con when taking all things into account.
Which Type of Trust is Best for You
Depending on your situation, you can pick the type of trust that is right for your needs. Revocable trusts are more flexible and therefore more common, especially because most people’s estates won’t be subject to estate taxes.
Consider a revocable trust if:
- You want to privately transfer your assets to your loved ones and avoid the probate process.
- You think your wishes for your property will change over the course of your lifetime.
- You want to continue using and managing your own assets without limitation after you establish the trust.
- The value of your estate is less than the federal estate tax exemption.
Consider an irrevocable trust if:
- You do not mind giving up use or control of your own assets after you establish the trust.
- The value of your assets is higher than the federal estate tax exemption and you want to avoid estate taxes.
- You want to protect your assets from future creditors.
Creating a trust can be overwhelming and complicated. Consider contacting an estate planning attorney if you have questions or specific needs.
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