Creating an estate plan is a task that every adult should undertake. There’s more to the estate planning process than just writing out a list of assets and naming who to give them to. For example, for some people, setting up trusts is a way to pass down assets in a more controlled way.
There are two broad categories of trusts, each of which is defined by the control of the creator once the trust is established. The creator of a revocable trust can alter, change or revoke it at any time. In contrast, an irrevocable trust can’t be altered, amended or revoked by the creator.
Control and flexibility
Revocable trusts offer the creator significant control and flexibility over the assets and the terms of the trust. The creator can modify the trust’s provisions, change beneficiaries or terminate the trust entirely.
Irrevocable trusts don’t offer this level of flexibility. Once the trust agreement is signed and the trust is funded, the creator relinquishes control over the assets and can’t make changes to the trust.
Tax implications
With revocable trusts, the creator continues to be treated as the owner of the assets for tax purposes. This means all income generated by the trust’s assets is taxable to the creator.
Irrevocable trusts are considered to be separate entities for taxes. The trust is responsible for paying taxes on any income it generates, potentially leading to different tax planning opportunities and consequences.
Asset protection
Irrevocable trusts provide a higher level of protection than revocable trusts when it comes to protecting assets from creditors and legal judgments. Since the creator gives up control of the assets placed into an irrevocable trust, those assets are generally considered outside creditors’ reach.
Revocable trusts, because they can be altered or revoked by the creator, don’t offer this level of protection. The assets within can be subject to claims by creditors.
Both types of trusts can be used as tools for estate planning. Trust assets can bypass the probate process for a smoother and potentially quicker transfer of assets to beneficiaries.
