There are many different types of trusts. The creator of a Revocable Trust, often called the Grantor, retains certain rights with respect to the trust: usually, the ability to revoke or amend the trust, and to use and enjoy the assets. The Grantor may place property in the trust, remove property, and make investment decisions. A revocable trust, sometimes referred to as a family trust or a living trust, is generally used as a comprehensive plan to manage assets of the Grantor during incapacity and to provide a quick transfer of those assets upon death, while retaining control throughout the Grantor’s lifetime. This type of trust avoids probate and allows you to appoint people you know and trust to make your financial decisions when you are no longer able to do so for yourself. This type of trust offers minimal asset protection, but it does the important job of probate and conservatorship avoidance.
An Irrevocable Trust can be a great asset protection tool, but in order to gain this protection you must be willing to give up some control. An irrevocable trust cannot be modified after it has been created. This type of trust can protect your assets if you are usually sued. If a judgment is entered against you, creditors have the right to attach anything in your name. If your assets are in an irrevocable trust, conceptually, creditors can’t touch those assets.
It can be structured as a completed gift under the Internal Revenue Code, so that the value of the property transferred from the trust is removed from the name or the estate of the transferor. This will reduce the value of the estate, which may, in turn, reduce estate tax liability.
Are you concerned about the cost of a nursing home? Currently the law provides that persons seeking assistance from the state to help pay for nursing home care must spend down to their last $2,000. A prudent person may want to gift their assets out of their estate while they are still healthy, so that if nursing home care is needed to assist with all activities of daily living, they won’t have to spend down to their last $2,000 before they can get state assistance.
A better option is to place a portion of the assets in an irrevocable trust, with their children or a close friend as the beneficiary, creating a mechanism for access when the assets are needed. Those are the two main reasons an irrevocable trust is created, but there are other types of irrevocable trusts.
Irrevocable Life Insurance Trust. Many people are under the mistaken belief that life insurance proceeds are not part of their taxable estate. While it’s true life insurance is income tax free it increases the value of your estate and could make your estate subject to estate tax. When insurance agents say that death benefits are tax free, they are speaking of income tax, not estate tax. Once a client comes to understand the distinction between income tax free and estate tax free, they will quickly recognize the benefit of not having proceeds of their life insurance policies included in the value of their estate for estate tax purposes. One strategy is to create an irrevocable life insurance trust, commonly referred to as an ILIT. Having the ILIT own the insurance policy removes the life insurance benefits from the taxable estate of the insured. It allows the grantor to control the disposition of the policy and the death proceeds. We can use the annual gift tax exclusion amount to pay the premium to maintain the life insurance.
You can give away $15,000 a year to any person before it triggers the requirement to file a gift tax return. Every dollar over $15,000 begins to eat into your lifetime gift tax exclusion amount. An irrevocable life insurance trust provides significantly increased asset protection during your lifetime. By removing the death proceeds from life insurance from the insured’s taxable estate, the amount passing to the beneficiaries can be doubled because the proceeds will have by passed the 40% estate tax.
Tennessee Investment Services Trust. This is a trust that was codified in Tennessee law in 2007, making Tennessee a member of a small group of states permitting the creation of a self-settled asset protection trust. This is a great trust for anyone starting up a business venture or someone entering a second marriage who wants to protect pre-marital assets. When properly done, the Tennessee Investment Services Trust shields assets from creditors.
In order to make a claim on trust assets, a creditor faces the difficult task of proving the transferor set up the trust and made the transfer with fraudulent intent to avoid paying their creditors. Once the assets have been transferred to the trust, any lawsuit filed after two years which results in a judgment will not be able to collect against the trust assets. However, the assets in the Investment Services Trust are not protected from certain obligations, like child support and spousal support. A Tennessee Investment Services Trust must be an irrevocable trust, and must contain spendthrift provisions, stating that the beneficiaries cannot assign their interest to their creditors.
One downside is that the Grantor of the trust cannot serve as trustee of the trust. The trustee must be a Tennessee resident, bank, or trust company. When people don’t have a connection in Tennessee with someone they trust to be their trustee, and feel that the services offered by a trust company are cost prohibitive, they may delay creating one of these trusts until they have a qualified candidate to act as trustee. One of the great things about the Tennessee Investment Services Trust is that the grantor can still retain the ability to direct, consent to, and disapprove the trustee’s investment decisions.
The Grantor can retain veto power over trust distributions and determine who the ultimate beneficiaries of the trust are going to be, despite that fact that it’s an irrevocable trust. The grantor can reserve the right to receive trust income, and they may receive additional distributions subject to a trustee’s discretion. Often with an irrevocable trust, a trust protector is named. A trust protector can assist the trustee, and, if necessary, remove and replace the trustee and modify the administrative provisions or trustee powers. The tax consequences are nil in this type of trust because the assets are generally included in the grantor’s estate and are still subject to federal estate inheritance taxes, but most individuals aren’t going to pay those because of the extraordinary estate tax exclusion amount.
A Standalone Retirement Trust, also referred to as an IRA legacy trust, is another type of asset protection trust. The goal is to protect the retirement accounts from your children and their inability to manage the money. It could also be created to protect the money from a child’s divorce. If your child is in a divorce proceeding, was in a car accident, or is being sued under similar circumstances, your retirement account could be seized to pay your child’s debts after you have passed away.
During your lifetime, your retirement accounts, like an IRA or a 401(k), have substantial asset protection – they can’t be taken in a lawsuit. Immediately after your death that protection evaporates, and your hard-earned money can be legally snatched by third parties in the courts. As an estate planning attorney, I constantly look for ways to protect our clients, their loved ones, and their assets. If a client has a substantial amount of money in a retirement account, we will at least discuss a Standalone Retirement Trust, which can be structured as a revocable or an irrevocable trust and is popular because it protects inherited retirement accounts from beneficiaries’ creditors.
It can be structured to allow for experienced management of the assets via a professional trustee; protect the assets from the beneficiaries’ reckless spending or gambling; protect special needs beneficiaries and allows you to name minor beneficiaries without a court supervised guardianship. Another type of trust is a Charitable Remainder Trust, which is a tax-exempt trust governed by the Internal Revenue Code. The remainder interest passes to a charity upon the death of the one creating it. A Charitable Remainder Trust commits the grantor to giving their assets to a charity upon their demise.
The IRS rewards the creator of a Charitable Remainder Trust by granting them three tax benefits: First, the IRS forgives any capital gains tax that they would pay on the sale of assets contributed to the trust. Second, this trust grants the client an immediate charitable deduction on their tax return and it requires the trustee of the trust to invest the sale proceeds in a tax free investment environment, much like a retirement account.
Special Needs Trust. A First-Party Special Needs Trust is created with the Grantor’s own assets for their own benefit, but needs to make those assets unavailable to qualify for needs based benefits.
Why would I do this? Perhaps I just received settlement proceeds from a lawsuit or I just inherited some money but I do not surmise to protect the social security income that I am receiving. You can create a special needs trust to protect those assets. There is the least amount of protection with a first party special needs trust. Normally, the beneficiary of the trust must be irrevocable, as it is an irrevocable trust. One of the beneficiaries of your trust must be your state’s Medicaid agency, so that they are reimbursed for any payments they pay out throughout your lifetime, and then whatever is remaining in the trust tends to pass to your beneficiaries.
There is also a Third-Party Special Needs Trust: this type of trust is usually set up by a parent, grandparent, or sibling for a loved one with special needs, and is funded with other people’s assets. This can provide for management of the trust assets, if your special needs person lacks the capacity to manage those assets. With this type of trust, there is no payback required to the state Medicaid agency or to the social security administration. There is no look back rule in trying to qualify for the benefits because they are not your assets; they originate from the third party who transfers assets to the trust. These types of trusts can be created inside of a revocable living trust or it could be part of an irrevocable standalone special needs trust.
For more information on Different Types Of Trusts In Estate Planning, an initial consultation is your next best step. Get the information and legal answers you are seeking by calling (615) 628-7775 today.