Revocable and Irrevocable Trusts
Quite often, an important part of estate planning involves the establishment of revocable or irrevocable trusts. Those involved in planning for the future should understand the difference between the two.
Both types of trust begin with what is called an inter vivos trust. That is a transfer of property that is set up to go into effect during your lifetime. Of course, the next decision you will have to make will be whether or not the inter vivos trust can be revoked – meaning that you can change your mind about the trust, or if it is irrevocable, which means it can never again be changed by you or anyone else.
With a revocable trust, you can do pretty much anything you want. You can always add more property to the trust, you can remove the property from the trust, and you can even terminate the trust altogether. With an irrevocable trust, however, what's done is done. Whatever property you place into the trust is there forever, and there is nothing you can do about it. In these cases, whatever property replacement of the trust essentially becomes the property of the trust and not you.
There are quite often significant gift tax consequences when an inter vivos revocable trust is established, so make sure your accountant is part of the decision-making process, as well as your attorney. You should also be aware that some transfers that occur within certain time periods before your death can be designated within your estate as "gifts in contemplation of death." Because of this, everyone on your team should be aware of any possible gift or estate tax implications.
Various estate tax considerations are among the most significant differences between establishing revocable and irrevocable trusts. For example, property that has been placed into a irrevocable trust is generally not considered part of your estate. That means the property will generally not be included as part of your estate's value when determining how much estate tax is owed. On the other hand, any property that has been placed into a revocable trust is still considered yours, and the value of that property will be subject to estate taxes. This is because, with the revocable trust you can retrieve your property at any time while you're still alive, which makes the property yours and part of your estate.
Of course, saving on estate taxes is only one consideration when setting up a trust. If the value of your estate is well below the federal estate tax exemption, then estate tax implications probably shouldn't even be part of your plan. If the purpose for setting up a trust has to do with protecting your estate or benefiting charity, that's one thing. But you may also want a measure of protection while you're still alive, to be able to take money out of the trust if your circumstances change.
When setting up a trust, you owe it to yourself to work closely with your accountant and your lawyer to understand all of the tax implications of your decisions regarding property transfers. That should include which type of trust is right for you, so that your heirs can avoid any number of tax-related surprises at the end.