A trust is a way to protect the wealth you’ve built over a lifetime. It’s a legal entity that holds and manages assets according to your wishes.
Whether you want to avoid probate, protect assets, or create a lasting legacy, trusts offer different solutions for different needs.
I’ve seen firsthand how choosing the right trust can make all the difference.
Last summer, I worked with a physician who wanted to protect his practice's assets while ensuring his three children would have resources for college.
He initially leaned toward an irrevocable trust after reading about asset protection online. But after discussing one child's special needs and his plans to eventually sell his practice, we realized he needed the flexibility that only a revocable trust could provide.
Understanding revocable and irrevocable trusts will point you toward the right solution for your situation.
Revocable Trusts
A revocable trust is a way to manage your assets during your lifetime and decide how they should be handled after you pass away.
The key word is revocable, which means you can change, update, or even cancel the trust at any time as long as you’re alive and mentally capable. Your trust document can be modified to reflect changes in your circumstances. This means you maintain complete control over your trust assets.
Many people use revocable trusts to avoid probate, which can be expensive and time-consuming for their heirs. Unlike a will, a trust keeps your financial matters private.
Benefits of a Revocable Trust
- Simplifies the inheritance process by avoiding probate court
- Gives you flexibility to make changes as your life evolves
- Maintains privacy of your financial arrangements
- Provides a backup plan if you become unable to manage your assets
What is the Downside of a Revocable Trust?
- Offers no protection from lawsuits or creditor claims
- Provides no estate tax benefits for your heirs
- Requires more upfront cost and maintenance than a basic will
Common Scenarios for Use
A revocable trust makes sense in a lot of real-life situations. Here are some common ones:
- Blended Families: Business owners with blended families can use revocable trusts to direct how their business and investments flow to biological children and stepchildren. A will alone often can't achieve this level of control.
- Owning Property in Multiple States: A revocable trust avoids the hassle of multiple probate processes.
For many people, a revocable trust is about control and convenience. But if asset protection is a bigger concern, an irrevocable trust might be a better fit.
Irrevocable Trusts
An irrevocable trust is different from a revocable trust because once you put assets in you transfer your ownership interest completely. You can’t take them back or make changes. That lack of control might seem like a downside, but for some people, it’s actually a good thing.
Irrevocable trusts can also help you qualify for Medicaid without requiring you to spend down your assets. If you own a life insurance policy, placing it in an irrevocable trust can keep the payout tax-free for your heirs.
One thing that often surprises clients is the timing of setting up an irrevocable trust for Medicaid planning. Many come to me just months before they need nursing home care, but the five-year lookback period means we needed to have this conversation half a decade earlier. This is why I now discuss long-term care planning with every client over 60, even if it feels premature.
The biggest downside is control. Once the trust is set up, it’s difficult or impossible to make changes. If your financial situation changes, you may not be able to access the money when you need it.
Setting up and maintaining an irrevocable trust also requires careful legal and tax planning. Without proper guidance, mistakes could lead to unexpected financial consequences including potential capital gains taxes if not structured correctly.
What Should You Put in an Irrevocable Trust?
When deciding which trust assets to place in an irrevocable trust, consider:
- Property and real estate that needs protection from legal claims
- Life insurance policies to ensure tax-free benefits for beneficiaries
- Investment accounts when federal estate tax reduction is your priority
What Assets Should Not Be Placed in an Irrevocable Trust?
- Money needed for everyday expenses and regular bills
- Retirement accounts that could trigger unnecessary tax penalties
An irrevocable trust can be a smart move in the right situation, but it’s not for everyone.
When They Are Most Effective
An irrevocable trust makes sense when protecting assets or lowering estate taxes is the priority. It’s a good option for people who want to keep wealth safe from lawsuits, creditors, or nursing home costs.
If you have a large estate, an irrevocable trust can help lower or avoid estate taxes by moving assets out of your name. If you’re worried about long-term care costs, putting assets in an irrevocable trust can help you qualify for Medicaid without using up your savings.
It’s also useful for life insurance planning. If your life insurance payout could push your estate over the tax limit, placing the policy in an irrevocable trust keeps the money tax-free for your heirs.
Comparing Revocable and Irrevocable Trusts
Understanding the revocable vs irrevocable trust comparison is crucial for making the right choice. Each type of trust serves a different purpose. The key differences come down to control and protection.
With a revocable trust, you maintain complete control. You can change or cancel it anytime, but this control means no asset protection. Creditors can still reach these assets, and they count toward Medicaid eligibility.
Irrevocable trusts flip this equation. You give up control, but gain protection. Assets in these trusts are shielded from creditors and don't count toward your taxable estate. For Medicaid planning, these assets may be protected. Just remember that crucial five-year lookback period.
Probate Avoidance and Estate Taxes
A revocable trust keeps your assets out of probate. That means when you pass away, your heirs won’t have to go through the court process to access what you left them. This saves time, cuts legal fees, and keeps things private. But a revocable trust doesn’t reduce estate taxes because the assets are still considered part of your estate.
An irrevocable trust also avoids probate, but it does more than that. Since you no longer own the trust assets, they aren’t counted for estate tax purposes. This can be a big deal if your estate is large enough to owe taxes.
Both types of trusts help your heirs avoid probate, but only an irrevocable trust lowers estate taxes. Which one makes sense for you depends on your goals.
Choosing the Right Trust
When comparing revocable and irrevocable trusts, it comes down to a fundamental question:
Do you want to maintain control of your assets, or do you need comprehensive asset protection?
Trusts aren’t just for the ultra-wealthy. They’re for anyone who wants to make sure their money, home, or investments go exactly where they want without court delays or unexpected costs.
Key Factors to Consider
When deciding between a revocable or irrevocable trust, it’s important to think beyond the basics. The right trust should match your long-term goals and protect what matters most.
- Estate Size: If your estate is large enough to face estate taxes, an irrevocable trust can help lower them. If that’s not a concern, a revocable trust may be enough.
- Need for Flexibility: Life changes. If you want the ability to adjust your plan, a revocable trust gives you that option. An irrevocable trust does not.
- Risk Exposure: If you work in a profession where lawsuits are common or want to protect assets from creditors, an irrevocable trust offers stronger protection.
- Tax Implications: Revocable trusts don’t reduce estate taxes, while irrevocable trusts remove assets from your taxable estate. This is most important for high-net-worth individuals.
- Long-Term Care Planning: If Medicaid planning is a concern, an irrevocable trust can help, but it must be set up well in advance.
A well-designed trust balances protection with your future plans.
Sorting through these details can feel overwhelming, but you don’t have to do it alone. Here's how we guide clients through the estate planning process:
Our Role in Estate Planning & Trusts
While we don't draft legal documents, we guide you through the complex decisions of trust planning.
Our process starts with understanding your specific tax situation, family dynamics, and long-term goals. We help create customized estate plans that align with your specific needs. Working alongside your estate attorney, we structure a trust strategy that protects what matters most to you.
Estate planning isn't a one-time event. As your financial situation evolves, we help adjust your strategy. Some clients need robust asset protection from potential lawsuits. Others focus on minimizing estate taxes or smoothing the transfer of a family business. Regular reviews ensure your trust continues serving its intended purpose.
Every family's situation is unique. Through our wealth transfer planning services, we help you understand your options and create an estate plan that protects what matters most to you.
Schedule a consultation to explore your trust planning options.