Estate planning is a critical activity as you age, as you’ll need to develop an asset protection plan to ensure your heirs get as much of your wealth as possible. You’ve worked hard to get to your position, and your kids and grandchildren should be able to capitalize on everything you’ve accumulated over the years.
Asset protection involves putting your money and other assets in a place where creditors and the government can’t get them. The process can include giving up ownership of certain assets today to protect them for your beneficiaries in the future.
One of the best asset protection methods you’ll find is an irrevocable trust, though they can have some drawbacks. This guide looks at your options and examines the pros and cons of transferring assets to an irrevocable trust to protect them for your heirs.
What Is an Irrevocable Trust?
An irrevocable trust is an arrangement where a grantor legally transfers ownership of assets to a beneficiary. The grantor gives up ownership of these assets in this scenario, reducing the value of the grantor’s estate for tax purposes while protecting assets from creditors.
Assets a grantor might put in an irrevocable trust include life insurance benefits, real estate, cash, businesses, and investments. Transferring these assets also protects them from legal judgments and lawsuits, ensuring families can hold onto their wealth for generations to come.
Types of Irrevocable Trusts
Several irrevocable trust options are available, depending on your situation. You’ll want to look at each type to determine what works for you. Some common types of irrevocable trusts include the following:
Irrevocable Life Insurance Trust
You can designate a beneficiary for your life insurance policy by establishing an irrevocable life insurance trust. This setup ensures the proceeds from your policy go into the trust when you pass away, helping your heirs avoid estate taxes if you have a sizable life insurance payout coming.
Irrevocable Marital Trust
Transferring assets from one spouse to another involves establishing an irrevocable marital trust. This trust kicks in when one spouse dies, keeping certain assets outside the estate. The grantor gets to decide how much income the living spouse can take from the estate by establishing withdrawal limits, and this income avoids estate tax.
Irrevocable Charitable Trust
It’s possible to pass assets to a charity using an irrevocable charitable trust. A charitable lead trust involves designating certain assets to the charity and others to beneficiaries, while a charitable remainder trust allows you to continue using your assets, with the rest going to a charity when you die. Remember that you can’t change the amount you’ll have access to when using a charitable remainder trust, no matter how your life changes.
These types of irrevocable trusts could be worth looking into, depending on how you wish to allocate your assets. You can also leave other assets directly to a beneficiary, as it all depends on what you want to pass on to your heirs and the assets you have available.
Five Things You Should Know About Irrevocable Trusts
Learning as much as possible about irrevocable trusts ensures you’ll understand what you’re getting into before you start. These arrangements can be beneficial, but they aren’t without risks and downsides. Here’s what you should know:
1. The Assets Are No Longer Yours
One drawback with establishing an irrevocable trust is that the assets no longer belong to you. The trust gains ownership of any assets you protect in this way, with the trustee having the final say over them until the beneficiary takes control. This setup could prove problematic if you decide you need those assets in the future because reestablishing control is a challenging process.
2. There Are Tax Benefits
You will see tax benefits through an irrevocable trust because you are no longer on the hook for the tax liability on the income your assets generate. These assets are also removed from your taxable estate, so your heirs will see tax benefits. The assets no longer belong to you, so you aren’t responsible for any expenses related to them.
3. You Can’t Make Changes
One of the dangers of an irrevocable trust is that you can’t make changes to the agreement without the beneficiary agreeing or a court order. This scenario can cause issues if you have a change of heart or your relationship with the beneficiary changes in the future. The gist is that you’re stuck leaving your assets to the beneficiary, no matter what happens between the two of you down the road.
4. Mistakes Can Happen
Attorneys typically do a good job creating a trust, but mistakes can happen, especially if you use a generalist without much experience dealing with this particular issue. An experienced advisor can guide you through the estate planning process, minimizing the chance of an error occurring. These mistakes could put you on the IRS’s radar, so eliminating them as much as possible is the best path forward.
5. The Grantor Can’t Be the Trustee or Beneficiary
Can a beneficiary add assets to an irrevocable trust? The short answer is no because the grantor is the person putting assets in the trust, and that person can’t be a trustee or beneficiary. You can’t use the trust to shield personal assets you plan to use, so only the grantor can add assets to the trust.
Gathering as much information as possible on irrevocable trusts will help you make the right decision before establishing one. Speaking with an estate planning advisor can also ensure you take the necessary steps to protect your assets.
Estate Planning to Meet Your Needs
Estate planning is all about guarding your assets against creditors and tax collectors, ensuring your heirs can benefit from your hard work. It also guarantees your assets are distributed according to your wishes. Getting expert help streamlines the process.
Bogart Wealth offers estate and multigenerational planning advice in Northern Virginia and Houston, Texas. Our team can help determine if a trust is the best path for your family. Contact Bogart Wealth to speak with an expert about irrevocable trusts.