Irrevocable Trusts

Irrevocable Trusts

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What is an irrevocable trust?
An irrevocable trust is simply a trust with terms and provisions that cannot be changed by the grantor. This is distinguished from a revocable trust, which is commonly used in estate planning and allows the grantor to change the terms of the trust and/or take the property back at any time.

Why would I want to use an irrevocable trust?
Using an irrevocable trust allows you to achieve a number of significant benefits, including minimizing estate tax, protecting assets from creditors, and providing for family members who are minors, financially irresponsible, or who have special needs.

How do I create an irrevocable trust?
To create a trust, the grantor enters into a written trust agreement. He or she names a trustee to hold the property according to the terms of this trust agreement. The trust agreement identifies the beneficiaries and tells the trustee when distributions of trust property (including the original assets placed in trust, as well as the income on such assets) should be made to the beneficiaries. A well drafted trust agreement should plan for certain contingencies, such as what to do if the initial beneficiaries are no longer living.

What are the trustee's duties?
The trustee has two primary duties: (1) to prudently invest and protect the assets of the trust, and (2) to make distributions to the trust beneficiaries according to the terms of the trust agreement. The trustee is required to act at all times in the best interest of the trust beneficiaries. This duty of loyalty is known as a fiduciary duty, and it places a very high (and legally enforceable) standard of care and expectations upon the trustee.

Who should I name as trustee?
Any individual, other than the grantor, may serve as trustee of a trust, including the grantor's spouse, children, family members, or friends. Of course, given the fiduciary duties required of a trustee, you'll want to choose someone who is honest, diligent, and trustworthy (no pun intended!). If you would rather have an independent party act as trustee, there are a number of very well qualified professional trust companies in the community. If desirable, more than one individual may be named to serve as co-trustee.

Who can be a beneficiary of a trust?
Anyone other than the grantor may be named as a beneficiary of the Trust. Different family circumstances may dictate the need to structure the trust for different beneficiaries. Under the Georgia Revised Trust Code of 2010, even your pet may be a beneficiary of a trust.

Can I amend the trust agreement?
As the name implies, once the trust agreement is signed, it cannot be amended or revoked. However, the trust agreement should be drafted in a flexible manner to allow the trustee to address unforeseen changes in circumstances.

What are the tax benefits of establishing an irrevocable trust?
Generally, if you make a gift of an asset to a beneficiary during life, the asset is not included in your taxable estate at your death. An irrevocable trust provides an alternative to simply giving an asset to a beneficiary in order to reduce your taxable estate. With a trust, you can set the timing of distributions (i.e. when the beneficiary attains 30 years of age) as well as the reasons for distributions (i.e. for education only). Therefore, if your estate is close to or in excess of $5 million, including life insurance proceeds, and you are not comfortable making outright gifts to beneficiaries, you should consider setting up an irrevocable trust to take advantage of the substantial estate tax savings such a trust offers.

What are the non-tax benefits of establishing an irrevocable trust?
Another significant benefit of an irrevocable trust is that it provides substantial protection from creditors. Once assets are transferred to the trust, they no longer belong to the grantor, rather, they become the legal property of the trustee to hold for the beneficiaries. This means that the grantor's future creditors cannot place a lien on assets transferred to the trust because those assets no longer belong to the grantor. Similarly, creditors of a beneficiary of an irrevocable trust generally cannot place a lien against trust assets until such assets are actually distributed to the beneficiary.

How much can I transfer into the trust?
There is no limit to how much you can transfer into the trust. Of course, the trust is irrevocable, so once you have transferred the assets, you can't use them or benefit from those assets, and if you do, they will likely be included in your estate for tax purposes. If you transfer over a certain amount, you will be required to file a gift tax return and may be have to pay a gift tax on the transfer.

Is there a way to qualify gifts to a trust for the annual exclusion?
Yes. In order to make a gift to a trust qualify for as a present interest gift, the beneficiary must be given the right to withdraw the transferred funds for a specified period of time after the gift is made. This right to withdraw the funds is often referred to as a Crummey Withdrawal Right (so named after the creator of this technique, Mr. Crummey. Beneficiaries must be notified of this right to withdraw each time a transfer is made to the trust in order to ensure that the transfer qualifies as an annual exclusion gift.

Can I make gifts to the trust that exceed the annual exclusion amount?
Yes. In addition to the annual exclusion gifts, each person may gift an aggregate amount up to $5 million throughout his or her lifetime, tax free. People who have stock or real estate that they believe will appreciate significantly often make larger gifts to the trust to not only remove the asset from their taxable estate, but also to remove all of the future appreciation.

Do I need to file a gift tax return for transfers to the trust?
Gifts to an irrevocable trust are treated as gifts to the underlying trust beneficiaries. If the grantor's aggregate annual gifts to a beneficiary (whether through the trust or outside of the trust) did not exceed the annual exclusion amount (assuming Crummey Withdrawal Rights were given to the trust beneficiaries), a federal gift tax return is not required. However, a gift tax return is required (1) if the grantor made gifts in excess of the annual exclusion; (2) if the grantor desired to use his or her spouse's annual exclusion amount; or (3) if the trust was designed as a "generation skipping trust".

What assets can I transfer to an irrevocable trust?
Frankly, just about any asset can be transferred to an irrevocable trust, assuming the grantor is willing to give it away. This includes cash, stock portfolios, real estate, life insurance policies, and business interests. Of course, some assets are better to place in trust than others.

Can I sell assets to the Trust?
Yes. You may sell assets to your trust for fair market value.

Why would I want to sell assets to the trust?
Irrevocable trusts are often set up as grantor trusts, which simply means that they are not recognized for income tax purposes (all of the income tax attributes of the trust, such as income, loss, gains, etc. is passed on to the grantor of the trust). The trust can therefore purchase a grantor's asset for immediate payment or on an installment basis, with no recognition of gain and no gift tax consequences. The sale of an asset to an irrevocable trust is often recommended if the asset to be transferred is a life insurance policy, or if the asset is in excess of the annual exclusion amount and is expected to appreciate rapidly.

Can I make additions to the trust in future years?
Yes. If the grantor desires the gift to qualify for the annual gift tax exclusion, the trustee must follow the Crummey withdrawal notice procedure each time a gift is made to the trust. A copy of these notices should be kept with the trust records in the event the trust is ever audited.

What is an ILIT?
ILIT is an acronym for irrevocable life insurance trust. It's really nothing more than an irrevocable trust that is designed to hold one or more life insurance policies on the life of the grantor. The trust and tax laws are the same for irrevocable trusts regardless of whether they hold life insurance or any other type of asset. Because life insurance policies are so commonly transferred to (or purchased by) irrevocable trusts, such trusts have received their own name, ILIT.

Can I use a trust to purchase a new life insurance policy?
Absolutely. In fact, it is recommended that you establish the trust and then have the trustee apply for life insurance on your life. However, if you have begun the process and applied for the insurance under your own name, you can still proceed with the trust formation.

How do I get started setting up an irrevocable trust?
The first step is to contact our law firm. We will send you some background information and an initial questionnaire to get you started with the process. We'll then set up a time to meet to discuss your family circumstances, specific estate planning goals, and tax issues.

Contact our law firm today at 770-386-8564 to schedule your free initial consultation.