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Advantages and Disadvantages of Creating an Irrevocable Trust

Last updated on: March 20, 2024

An irrevocable trust, like any trust, is a vehicle whereby property is set aside by a grantor and held by a trustee for the benefit of a beneficiary. Irrevocable trusts, as the name suggests, are distinguished by the fact that the grantor gives up ownership rights to the property and the trust usually cannot be changed.

Understanding the full implications of such a decision is crucial. Below, we delve into the essential advantages and disadvantages of forming an irrevocable trust, providing you with a foundational overview. Yet, it’s important to recognize the limitations of generic advice. Every individual’s situation is unique, and the intricacies of trust law can be complex.

For legal guidance tailored to your specific needs and goals in New Jersey, an experienced trust attorney can help. At The Matus Law Group, our team of New Jersey trust lawyers are ready to assist you with every step, ensuring that your estate planning strategy aligns perfectly with your long-term objectives. Don’t navigate the complexities alone; contact us today at (732) 281 – 0060 to schedule a consultation and secure your legacy with confidence.

Advantages

1) Asset protection

Creating an irrevocable trust in which to hold certain assets is a fantastic way to protect them from the potential seizure of those assets as a result of legal challenges. For example, assets held in trust are generally protected from creditors seeking to collect unpaid debts. They are also usually protected from court judgments against you such as a personal injury lawsuit. So, say you were in a car accident and you were sued by the other driver. If you had assets held in an irrevocable trust, those would likely not be included in the settlement and would be safe for whatever purpose you intended for them.

2) Assets not countable

Eligibility for numerous government benefits like Medicaid and Supplemental Security Income (SSI) is dependant on one’s assets and income. If your aging parent is in need of financial assistance in order to afford the Long-Term Care they need, but he or she has too many assets to qualify, they may have to use up all of their wealth and assets in order to pay those costs themselves, leaving nothing to pass on to their loved ones. Similarly, if you have a special needs child and you leave them assets directly in your will, their inheritance could disqualify them for SSI benefits. Placing assets in an irrevocable trust, however, usually will make those assets non-countable when it comes to those vital government benefits.

3) Estate taxes

Assets held in an irrevocable trust are usually not counted towards your estate or subject to the estate tax. So, if you are someone with a large enough estate that you may have to pay massive estate taxes, placing some assets in an irrevocable trust may allow you to pass them on to your loved ones without their being subject to taxation, or even decrease your estate to a point where you do not have to pay estate taxes at all.

Aspect Advantages Disadvantages
Asset Protection Shields assets from seizure due to legal challenges, safeguarding them from creditors and court judgments. Relinquishes control over assets, limiting flexibility and requiring court intervention for changes or updates.
Assets Not Countable Renders assets non-countable for government benefits eligibility, preserving access to essential benefits without depleting assets needed for Long-Term Care or risking loss of SSI benefits. Trust-generated income is subject to higher income taxes, diminishing overall returns on assets within the trust.
Estate Taxes Excludes trust assets from estate calculations and taxation, facilitating tax-efficient wealth transfer to beneficiaries. Transferring assets may trigger gift taxes on amounts exceeding the annual exemption, requiring careful consideration and tax planning.

Disadvantages

1) Irrevocable

In order to obtain the advantages listed above, you are forced to give up all control over the assets you are placing in the trust. It is irrevocable, meaning you cannot change your mind or update the trust without a court order and some very specific circumstances. Technically, you no longer own the assets. They are owned by the trustee or the trust itself.

2) Income taxed, usually at a higher rate than individuals

Any income generated by an irrevocable trust, such as dividends paid from securities, will be subject to income taxes which the trustee must payout of the trust funds. Unfortunately, taxes on irrevocable trust income are also usually taxed at a higher rate than individual income tax rates.

3) May be subject to gift tax

Placing assets in an irrevocable trust may be legally considered a gift, and in 2016 the gift tax exemption is $14,000 per individual. So, any assets transferred to an irrevocable trust over $14,000 will be subject to the US gift tax.

What is the Greatest Advantage of an Irrevocable Trust?

The greatest advantage of an irrevocable trust lies in its power to provide significant estate tax benefits. By placing assets into an irrevocable trust, they are effectively removed from your taxable estate. This means that these assets are no longer considered when calculating the value of your estate upon your death. Given that federal taxes can apply to estates exceeding a certain value, utilizing an irrevocable trust can result in substantial tax savings, particularly for larger estates.

Beyond the tax implications, an irrevocable trust offers robust asset protection. Once assets are placed in this type of trust, they are shielded from potential judgments and creditors. This is especially beneficial for individuals in high-risk professions or those who may be more likely to face lawsuits, ensuring that their wealth is safeguarded for future generations.

Furthermore, an irrevocable trust can be instrumental in preserving eligibility for government benefits. Assets in such a trust are not counted against you when determining qualification for programs like Medicare or Supplemental Security Income. Consequently, you won’t have to exhaust your personal savings to access these benefits, preserving more of your estate for your heirs.

While revocable trusts offer flexibility and other advantages like avoiding probate, the irrevocable trust’s ability to reduce estate taxes, protect assets, and maintain eligibility for government aid stands out as its most significant benefit. This powerful financial planning tool is especially useful for those with substantial assets who wish to maximize the inheritance they pass on.

A skilled estate planning attorney can help you weigh the benefits and drawbacks of creating an irrevocable trust based on your unique circumstances and goals. Additionally, these planning vehicles can be incredibly complex, so it is not a process that you want to tackle on your own without professional guidance. Contact the Matus Law Group today and let us help!

Christine Matus

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Christine Matus
Christine Matus

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