Asset Protection Planning
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Revocable vs. irrevocable trusts; what is the difference? We discuss the differences and why you would want one or the other. In short, a revocable trust is often used for estate planning but offers little to no asset protection. Typically, the one who created it can amend it without the aid of others. An example is a living trust. A properly drafted irrevocable trust can offer substantial asset protection, depending on its jurisdiction of formation. It can also offer estate planning, tax benefits and help one qualify for government programs such as Medicaid. Please read below for more details.
Creating a trust can be an good way to ensure that the assets you worked hard for are protected. In addition, trusts preserve your assets for your loved ones or other individuals or organizations you wish to benefit. Not all trusts, however, are created equal.
A revocable trust gives you, as the grantor (or trustor), considerable control over the assets in the trust. While this may work out well in the short term, it may not benefit you in the long run. This would depend on several factors, including the line of work you’re in and the type of assets you own. A revocable trust can protect your heirs from an expensive and lengthy probate battle. It can also aid in ensuring a smooth transition to a successor trustee, should a grantor be suddenly incapacitated.
An irrevocable trust, on the other hand, can provide some exemplary asset protection features. You can also save on estate taxes, as well as qualify for government assistance programs that require personal asset caps, such as Medicaid. The security you are offered is that you form the trust, with expert assistance, to your liking.
The expert you hire to draft the document should balance the wording of the trust with two considerations. First, the trust should meet the legal needs so that it does what you want it to do. Second, within these parameters, it should do what you want it to do. Do you want your children to have a monthly income from your estate so they don’t blow it all in one shot? You can have the trust worded in this fashion. So, you need to examine your current situation and future financial plans carefully in order to decide what type of trust will work best for you.
A trust is a legal, fiduciary arrangement among a grantor, trustee and beneficiary. It provides for the ownership, management and distribution of assets where the trustee holds the assets for the grantor for the benefit of a third party, called a beneficiary. The grantor gives up his or her ownership of the assets that are to be transferred to a trust. The trustee holds assets and manages them according to the conditions stipulated in a trust deed. The grantor typically has input as to the initial wording of the trust. The grantor is also commonly referred to at the settlor, trustor or creator of the trust.
There are two main types of trusts: the revocable and the irrevocable trust. Before you can decide which type of trust best suits your situation, you must first consider how much control you want or need to retain over your assets. Keep in mind that you reap fewer immediate benefits when you exercise more control over your assets. Surrendering control allows you to enjoy greater potential benefits down the line.
The amount of control you need to retain depends on several factors:
An revocable trust can help take care of the last issue. An irrevocable trust can help take care of all four. Your answers to these questions, and several others, will form the basis for the eventual decision of whether to establish a revocable or irrevocable trust.
A revocable trust is sometimes called a living trust or an inter vivos trust. The grantor can modify the terms or conditions of a revocable trust at any time. All a grantor has to do is file a trust amendment to make any revisions he or she feels warranted. The grantor can also change the beneficiaries of a revocable trust at any time.
Maintaining this considerable level of control of your assets may be reassuring. Yet, as stated above, greater control means fewer prospective benefits down the road. A revocable trust cannot protect your assets from predatory claims. It may help your heirs avoid a probate, but won’t do much in terms of minimizing estate taxes. Assets in a revocable trust are taken into account when assessing your eligibility for government benefits with an asset limit. This would include Medicaid and Social Security Disability. You may be forced to spend down your assets before you can be deemed eligible for these types of programs. What then are the benefits of establishing a revocable trust?
A revocable trust is useful when a grantor becomes incapacitated and can no longer administer the trust’s assets. Without a trust, the beneficiaries have to go to court to obtain a conservatorship, which will manage the assets for them. With a trust, a trustee successor, designated at the time the trust is created, immediately takes over the grantor’s tasks. This allows for a seamless transition and, most likely, an uninterrupted disbursement of benefits as well.
When looking at a revocable trust versus a will, the advantage of the former becomes clear when it comes to the issue of probate. A will becomes public record. It has to be registered in court of law. Then it has to be proven to be the legitimate record of a deceased person’s wishes. A probate can be a complex or simple matter. This will depend on the size of the estate, as well as the number of conflicting claimants – if any. A will cannot be executed while it is under probate. This means beneficiaries cannot enjoy the benefits of the assets until the process is complete.
In contrast, assets held in a trust at the time of a grantor’s death are deemed outside the probate process. As such, they pass directly to the trust beneficiaries. A probate can be an expensive and time-consuming process. With the right type of trust in place, your beneficiaries are protected from having to undergo a probate.
A revocable trust is a private document; unlike a will, which becomes a public document once it’s registered for probate. Thus, a revocable trust gives your beneficiaries a considerable measure of privacy when they likely need it the most.
The definition of an irrevocable trust is simple: once established, the one who created the conditions of an irrevocable trust cannot directly alter it. In can usually be changed, but the grantor or beneficiaries are not the ones who can change it directly. If it you could change it directly, without third party intervention, then a judge could order the you change the beneficiary. Then the new beneficiary of the trust would be person who just won a lawsuit against you. That is how an irrevocable trust provides asset protection. It can tie the judge’s hands from forcing you make changes that would release trust assets to your legal enemies.
To continue, the grantor also places ownership of the assets into the irrevocable trust. The trustee is in charge of the assets, as well as the management of the trust. Why would anyone transfer assets they have worked so hard for all their life into a trust? There are several reasons behind this, and three of them are given below. But first, a quick word on the unchangeable nature of an irrevocable trust’s conditions.
A grantor can maintain a modicum amount of control over the assets of an irrevocable trust through a careful wording of the trust deed. For example, a grantor can impose specific conditions that must be met before a benefit can be paid out. It could be by the time a beneficiary reaches a certain age or achieves a particular milestone. A grantor can also stipulate for income from the trust to be used solely for an explicit purpose. It could to pay for college, start a business, or for travel, and other such conditions. When the conditions are not met, no benefit will be disbursed to the named beneficiaries. A flexible wording of the trust deed allows the grantor to address unknowable future scenarios or changes in circumstances. This is one way a grantor can continue to ‘control’ an irrevocable trust without giving up its most potent features.
One of the main reasons people set up irrevocable trusts vs. revocable ones is to protect their assets from estate taxes. Once a grantor transfers assets to an irrevocable trust, he or she ceases to be the owner of the assets. Thus, these assets can no longer be taken into account when determining the value of a grantor’s estate. This makes perfect sense, since the grantor no longer owns the assets – the trust does.
An irrevocable trust can also have a strong asset protection benefit. A nuisance plaintiff, or even a grantor’s legitimate creditor, cannot touch the assets held in an irrevocable trust. Again, this is simply because these assets do not belong to the grantor anymore. By divesting themselves of asset ownership, grantors are able to protect their assets from legal claims – predatory or otherwise. It’s true that an aggressive claimant can sue a trust to distribute benefits to them rather than a debtor-grantor. But even here, a deliberate wording of the trust agreement can provide protection from such an attack.
Transferring assets to an irrevocable trust can help you qualify for certain government assistance programs with an asset limit. This would include long-term care assistance from Medicaid. Keep in mind however, that Medicaid currently has a five-year look back period. This means, assets that were transferred to a trust less than five years before a grantor applies for government assistance are not protected. In this case, you may be forced to spend them down in order to qualify for assistance. If you clear this five-year look back period, the assets in your irrevocable trust are protected. They can pass on to your beneficiaries rather being spent down in order for you to qualify for government assistance.
The asset protection benefit of irrevocable trusts comes mainly from the separation of the grantor from his or her assets. Ironically, it is in giving up ownership of their assets that grantors are able to protect them the best. An irrevocable trust that has been properly established offers several benefits. Assets in an irrevocable trust are shielded from creditor claims, estate taxes and a Medicaid spend-down. A revocable trust allows a grantor to retain a fair amount of control over trust assets. This is an expedient way to avoid a probate battle. It also ensures a smooth transition to a successor trustee should a grantor suddenly become incapable of administering the trust. A revocable trust, however, does not have strong asset protection features. It remains part of the estate, and assets in such a trust can generally taken when the grantor is sued.
The type of trust you need to establish depends on your current life circumstances and future financial goals. No matter what type of trust you end up choosing, a trust is a highly useful and flexible instrument. It deserves serious consideration if you want a trust that protects your assets and helps you establish an estate planning strategy.