Trusts are some of the most common tools used in estate planning, financial and retirement planning, and inheritance planning. As such, when choosing an appropriate trust for yourself or your clients, it is extremely important to understand the differences between the various types of trusts available. Most of these are created for specific needs such as caring for a disabled person, contributing to charities or philanthropic organizations, or providing for care of beloved pets. In this post, we will discuss some of the major types of trusts used by estate planners and financial advisors, mainly revocable and irrevocable trusts.
A Revocable Trust, also knowns as a Revocable Living Trust or Inter Vivos Trust, is basically a trust that can be changed and amended at any time. This will allow you to change the provisions of the trust as you change your mind or as surrounding circumstances change. These changes or modifications are added to the trust through trust amendments. A revocable trust will also allow you to cancel or change the entire content of the trust. This is usually done through a restatement of trust.
The flexibility of a revocable trust is one of its major benefits. However, on the opposite side, the assets which are used to fund the trust will be considered your own personal property for the purposes of protection from creditors and estate taxation. This is because you can make changes to the trust, such as who maintains and utilizes the assets, how the assets are supposed to be distributed, or because you could even revoke the trust in its entirety at any time. Therefore, the trust’s assets are viewed to be under your full control and thus are not given any protection.
There are areas where the use of revocable trust is still beneficial. One major area would be to avoid probate proceedings. Assets which are held in a revocable trust at the time of a trustee’s passing will pass directly to the beneficiaries named in the trust outside of the probate proceedings. Also, avoiding a probate proceeding will allow your trust agreements and assets to remain private and not become part of public records for everyone to know, unlike a will which will become part of public records.
An Irrevocable Trust is generally a kind of trust that cannot be changed except in a few instances. An irrevocable trust can be created in two main ways. For one, an irrevocable trust can be created and signed as an irrevocable trust from the very beginning. Alternatively, a revocable trust can become irrevocable upon satisfaction of a specific condition stated in the trust. Irrevocable trusts provide protection against creditors since the terms of the trust, rather that your personal preferences, dictate how the assets are to be treated. This has caused irrevocable trusts to be one of the major tools used in asset protection. Irrevocable trusts are also used to help reduce estate taxes. There two main forms of irrevocable trusts used in this field: AB trusts and ABC trusts.
AB trusts are relevant to married couples. In an AB trust, a revocable trust or a trust created through a will is broken into parts A and B at the time the first spouse passes away. The B Trust, also known as Bypass Trust or Credit Shelter Trust, is funded by a portion of the assets equal to the applicable federal estate tax exemption and becomes irrevocable. The A Trust, also known as Marital Trust, QTIP Trust, or Marital Deduction Trust, is funded by the remainder of the assets and remains revocable. This division of the assets will allow for a deferment of payment of estate tax on the assets which are beyond the estate tax exemption until the second spouse passes. Thus, there will be no estate taxes imposed when the first spouse passes. When the second spouse passes, the assets in the A trust will be taxed on the amount that is over the applicable federal estate tax exemption and the assets in the B trust will pass to beneficiaries without any estate tax imposed.
During his or her lifetime, the second spouse has access to the A trust and can use the assets for his or her benefits. However, the assets in the B trust can still be used to meet the second spouse’s need if the A trust assets are not sufficient.
ABC trusts are created in ways similar to AB trusts. They are mostly beneficial in areas where the state also imposes an estate tax or where the married couple’s assets far exceed the federal estate tax exemption. ABC trusts are much more complex but work in a very similar manner to AB trusts. For example where a state also has estate tax, when the first spouse passes away, the assets equal to the amount of state estate tax exemption will fund the B trust, the assets equal to the difference between state and federal estate tax exemption will fund the C trust, and the remainder of assets will fund the A trust. Similar to an AB trust, this format will result in no state or federal estate taxes to be imposed at the time of first spouse’s passing.
Due to the many complexities involved in creating these trusts and their possible effects on protection from creditors and tax consequences, it is strongly advised that you consult with a qualified estate planning attorney to determine which trust is appropriate for you circumstances. If you are interested in receiving advice regarding estate planning or creating appropriate trusts for your needs, contact us at 1-844-HOLBORN and one of our estate planning attorneys will be happy to assist you.
Disclaimer: This post is meant for general informational purposes only, and it is not to be construed as legal advice. As with any laws, the information in this blog post may change at any time and may apply differently in different jurisdictions. The post may constitute Attorney Advertising as defined by the rules of professional responsibility of some jurisdictions. Holborn Law is based in Orange County and Riverside. The attorneys of Holborn Law APC are active members of the State Bar of California and licensed to practice law in California. All services relating to immigration and naturalization provided by Holborn Law APC are provided by active members of the State Bar of California or by a person under the supervision of an active member of the State Bar of California.