Article Uncovering the Potential of an Irrevocable Trust
| Publication year | 2015 |
| Pages | 36 |
| Citation | Vol. 28 No. 6 Pg. 36 |
November, 2015
Scott M. McCullough, J.
Traditionally, the irrevocable trust was most commonly used to hold life insurance proceeds out of a client’s taxable estate. However, if properly drafted, an irrevocable trust can be used to effectively meet many of your client’s additional estate and asset-protection planning goals. The intent of this article is to briefly outline the diversity of the irrevocable trust and explain how one irrevocable trust may be used to accomplish a broad array of estate and asset-protection planning strategies, each of which could be the subject of an article all on its own.
The primary concept of an irrevocable trust is a permanent transfer of assets by the client (grantor) to an independent trustee – so that the grantor no longer owns or has any legal rights or control over the assets. Furthermore, per the definition of irrevocable, and with few exceptions and creative tools, the trust cannot be changed or altered once established.
An irrevocable trust can be established for gift and estate-tax purposes in one of two ways: (1) a completed gift trust, where the assets are considered outside of a client’s taxable estate, where gift and estate taxes have to be considered, and where all future appreciation of the assets are held outside of the client’s taxable estate; or (2) an incomplete gift trust, where the trust provides asset protection but where no gift and estate issues need to be considered and the assets are still included in the client’s taxable estate upon death.
An irrevocable trust can also be established in a variety of ways for income-tax planning. A trust can be: (1) a grantor trust, where all income is taxed back to the client (the trust is ignored for income tax purposes); (2) a simple trust, where all income must be distributed to the beneficiaries and they pay the income tax; or (3) a complex trust, where the trustee can determine how much of the income to distribute out to the beneficiaries and therefore determine who pays the tax (the trust or the beneficiaries who receive the income). There are advantages and disadvantages of each option so the taxation selection must match the client’s goals and objectives.
Transferring assets to the irrevocable trust or funding the trust appropriately depends on the tax treatment of the trust. If an incomplete gift trust, assets can be transferred without consideration of gift or estate-tax issues. If a completed gift trust, assets can be transferred by either gift or sale (or both). If done by gift during life, the client must either use his or her annual gift exclusions with proper Crummey notices, making sure such gifts qualify for the annual gift exclusion as a present interest gift, or he or she must use part or all of the lifetime gift exemptions and file a 709 gift tax return. If selling assets to the irrevocable trust, the transaction must occur at arms-length, with full fair market value, a promissory note with interest must be executed, and payments must be made. One major consideration in transferring assets to an irrevocable trust are the fraudulent conveyance...
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