For starters, a revocable trust is a changeable, amendable, revocable document. The opposite is not true: It is not true that all irrevocable trusts cannot be changed. This article seeks to briefly explore some examples of the types of irrevocable trusts that can be altered, in what way, and why drafting for flexibility is important.
Some common purposes for REVOCABLE trust planning:
While there are numerous uses for revocable trust planning, some common uses include:
- Probate avoidance.
- Estate tax minimization.
- Asset protection for your children.
- Planning for persons with special needs; and
- Making sure that your assets stay in your bloodline (not to in-laws, subsequent spouses, or stepchildren).
Typically, the parents are the creators of the trust (the “grantors”) as well as the trustees. While both the parents, during their lives, are typically the beneficiaries, the children are typically the beneficiaries only when the parents pass. The parents can, usually by agreement, amend the plan as needed due to changing life circumstances. One thing that a revocable trust generally does not do is protect assets from the cost of long-term care. There is one exception to this rule: Where a revocable trust leaves assets to the estate of the first spouse to pass. These assets are protected for the surviving spouse in a Testamentary Special Needs Trust (SNT). The protection actually comes when the assets pass to the irrevocable SNT at the first death. This planning is beyond the scope of this article, but if you are interested in discussing when that may be appropriate, please give us a call.
When can an IRREVOCABLE TRUST be changed?
The following are some examples of when a client may want an irrevocable trust to allow alteration or change in some way:
- To change trustees – A client may setup an irrevocable trust in order to gift assets and start a “5-year clock” toward qualification for long-term Medicaid payments and protection from the Medicaid lien. Many such “Medicaid protection trusts” allow the Grantor to change trustees, so long as that trustee is replaced with an “independent trustee.” The trust is still “irrevocable,” but allows the grantor (or another) to remove trustees, if needed. Removal of a trustee in this way should not affect the protection of the trust assets from the cost of long-term care.
- To change beneficiaries – Similarly, when placing assets into a Medicaid protection trust, many clients hold onto a power to change beneficiaries (such as to anyone other than themselves, their estate, or creditors of their estate). In this way, although the gift is complete for Medicaid purposes, the clients can adapt to changes in life by changing who gets what, or how they get it.
- To keep capital gains tax exclusion or step-up in basis– Many times a client may hold onto powers in their irrevocable trust so that if the trust sells an asset (real estate, for example), the grantors will have the advantage of their Section 121 capital gains tax exclusion. If assets pass from the trust to a beneficiary at death, the beneficiary will receive a “step-up” in the tax basis, thereby minimizing or eliminating capital gains (and the associated tax). Such powers include the ability to change trustees or beneficiaries, but also to exchange trust assets for assets of equivalent value, or to add charities as beneficiaries.
When should an IRREVOCABLE trust NOT contain such powers?
Sometimes, it is appropriate to make the trust truly irrevocable, without the ability to change anything. For example, a trust should not contain any such powers when the Grantor intends the gift to be complete for estate tax purposes. For instance, the client would like to remove $1 million from his estate to reduce both his federal and/or Massachusetts estate tax liability. In this case, the Grantor must not hold onto powers such as those outlined above or any incidents of ownership. If he does, the asset will not be outside of his estate when he passes, and no tax savings will be achieved. The gift must truly be complete.
Some common purposes for IRREVOCABLE trust planning include:
- Gifting assets to reduce federal and/or Massachusetts estate tax,
- Gifting life insurance to remove the death benefit from the taxable estate (Irrevocable Life Insurance Trust planning),
- Locking-in beneficiaries, such as your children, from a change in plan (usually in second marriages),
- Protecting assets from the cost of your potential long-term care, and
- Protecting assets for a special needs child or grandchild, making the Special Needs Trust irrevocable at your death.
How can we help? We will consult with you to determine what can be done to achieve your goals, including those mentioned above. Please call our office today at 508-994-5200 to set up a consultation. We look forward to working with you through thoughtful planning!