Contents
Estate Planning Basics
How Estate Taxes Work
Wills and Estate Planning
How to Write a Will
Planning Directives
Probate
Estate Planning and Trusts
Types of Trusts
Life Insurance
Charitable Giving
General Gifting
Long-Term Care Planning
Business Succession Planning
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Types of Trusts
Trusts fall into two main categories: revocable and irrevocable. Revocable trusts, also known as living trusts, can be canceled or modified at any point during your lifetime. Irrevocable trusts are “set in stone” once established. All revocable trusts become irrevocable upon the death of the grantor.
Revocable Trusts (Living Trusts)
Revocable trusts are most often used to:
- Avoid probate on major assets, such as homes and other real estate property
- Avoid ancillary probate, which occurs when property is owned in more than one state
- Preserve the full unified credit—the amount of tax exemption your estate gets up to certain amounts ($1 million per individual after 2010, $2 million as of 2006)
- Allow the grantor, trustee, and beneficiary of certain assets to be the same person (that means as an individual you can still have full control over your assets)
Revocable trusts help avoid probate by taking ownership of the assets the grantor wishes to protect. The grantor must retitle major assets to transfer ownership to the trust. This approach works because the act of changing ownership while you are living probates, or proves, that you in fact own the assets. A revocable trust should always be accompanied by a pour-over directive, which covers overlooked assets not owned by the trust at the time of the grantor’s death.
Irrevocable Trusts
There are a number of different types of irrevocable trusts. All of these trusts share two key characteristics:
- Once established, they cannot be altered or canceled.
- The grantor cannot also be both the trustee (who makes investment decisions) and the beneficiary (who receives the benefits from those investments).
The three most important types of irrevocable trusts for you to know are:
- Irrevocable income-only trusts (IIOTs)
- Irrevocable life insurance trusts (ILITs)
- Generation-skipping trusts (GSTs)
Irrevocable Income-Only Trusts (IIOTs)
Irrevocable income-only trusts (IIOTs) are trusts into which the grantor transfers assets on a permanent basis. Once assets are in the trust, they cannot be removed, though the grantor can continue to receive the income that the trust generates. When the grantor dies, the trust’s remaining assets go to the grantor’s named beneficiaries. IIOTs are most often used to:
- Reduce assets subject to Medicaid eligibility limits
- Plan for long-term care income needs
- Shield assets from creditors
- Ensure that funds are available for disabled dependents
Irrevocable Life Insurance Trusts (ILITs)
Irrevocable life insurance trusts (ILITs) are used to:
- Create an estate for your heirs using life insurance
- Shield life insurance payouts from estate tax
- Replace assets given to charities or placed in IIOTs
People often make the mistake of naming their estate as the beneficiary of their life insurance policy. This makes the proceeds of the policy, known as the death benefit, part of the taxable estate. A simple way to avoid tax issues is to transfer life insurance policies into an irrevocable life insurance trust. The value of the insurance remains outside your estate, but you can still name beneficiaries for the trust. If you decide you no longer want the insurance, you can stop paying the premiums on the life insurance and let it lapse, which cancels the ILIT. ILITs can help “replace” any assets donated to charities or placed in IIOTs by providing a lump sum insurance payment to the trust when you die.
Generation-Skipping Trusts (GSTs)
Generation-skipping trusts (GSTs) are used to:
- Extend the unified credit amount for federal estate tax
- Allow remaining assets to pass to future generations
- Provide income to your immediate heirs
With GSTs, your immediate heirs don’t own the assets in your estate, which means that no estate taxes are due upon your death. Your immediate heirs get the income from the assets in the trust, and when they die, the assets go to your grandchildren. The estate taxes are therefore deferred by a generation, allowing your assets to grow for decades without being diminished by estate tax.
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