Creating an irrevocable trust is a matter of great care. This trust once created cannot be revoked. Hence, its pros and cons should be clearly understood before creating it.
As the words explain through themselves, an irrevocable trust is a trust that cannot be retracted. It has been defined by the IRS as, "An irrevocable trust is a trust, which, by its terms, cannot be modified, amended, or revoked."
How It Works
Irrevocable trust is a permanent transfer of assets to an individual/individuals or organization. Once it is signed by transferrer, and assets are distributed to respective parties, an account is to be filed with the court. Beneficiary gets the entitlement to assets, after the transferrer expires or after beneficiary attains a certain age, as per the trust.
The transferrer can transfer the assets to the beneficiary/beneficiaries at one go or even after a certain duration. The taxes and other payments on the assets transferred are made by the transferrer, unless otherwise prescribed in the trust.
Pros of an Irrevocable Trust
1. Reduction in Tax Liability Once the transferrer transfers his/her assets to an entity, his/her taxes on the estate are reduced. This is because, those assets will no longer be included in his personal assets anymore.
2. Reduction in Financial Liability By creating an irrevocable trust, transferrer's assets are protected from his/her financial liabilities. In case he/she defaults, or undergoes bankruptcy, the assets in the irrevocable trust cannot be confiscated for any legal action.
3. Free from Court Intervention After the death of the transferrer, the court does not need to be involved in the process of transferring of assets, unless some dispute has occurred regarding it.
Cons of an Irrevocable Trust
1. Permanent Transfer of Estate Because it's a permanent transfer, a transferrer cannot change his/her decision of making the transfer.
2. Transferrer Immediately Loses His Right on the Assets The transferrer loses his right on the assets mentioned in the trust from the moment he signs the trust/document.
3. Transferrer is Deprived of the Income Generated Not only does the transferrer lose his ownership on the assets, but is also deprived of the income generated from it.
4. Transferrer Cannot Make Any Changes If the transferrer wants to add or amend something written in the trust, he will not be able to do so.
Irrevocable trusts are mostly used by those having large estates to themselves. This is because, when the estate is large it can be profitable to avoid estate taxes, and legal, financial liabilities. It is not a very useful option for those whose estates are not large because, if value of an estate is below a limit, it is free from the estate tax.
An irrevocable trust needs to be made with great care and vigilance. This is because, the transferrer will not get a chance to change his decision, once made. The only way in which an irrevocable trust can be terminated or broken is, if both the parties are in agreement for the same.
The final decision of the termination lies in the hands of the court. Take help from a lawyer before making an irrevocable trust. Understand the mentioned pros and cons thoroughly, and then come to a decision.
Disclaimer: Please note that laws pertaining to irrevocable taxes can vary from state to state. If you are planning to create an irrevocable trust, please consult a financial adviser or a lawyer to understand the associated clauses clearly.