What is a Trust?

A living trust is one that you create during your lifetime (as opposed to a testamentary trust which is created in your last will and testament) and provides for management of your assets during your life and disposition of your assets at your death. When you create a trust, you are essentially signing an agreement between yourself as the Grantor and the Trustee, the individual that will manage your assets.

A trust can be Revocable or Irrevocable. Upon your death, the assets held in either of these Trusts would be distributed to your beneficiaries. If your Trust is properly funded, it could enable your loved ones to avoid the probate process altogether.

Should you later become incapacitated after establishing either type of trust, they both can provide for a seamless transition in the management of your financial affairs. Thus, either Trust would help avoid the need for the court appointment of a Guardian to manage your property.

What is a Revocable Trust?

A Revocable Trust is designed to give the grantor flexibility and, sometimes, to avoid probate. Although it may initially cost more to create a Revocable Trust than it does to execute a Will, a Revocable Trust may ultimately save attorney’s fees and time delays for your beneficiaries since there is no court supervision over the distribution of the assets.

In addition, since you may act as your own Trustee, you can maintain your autonomy and independence. If you are acting as your own Trustee, you will maintain control over those assets you chose to transfer to the Revocable Trust. You can transfer assets into and out of the Trust, amend or revoke the Trust at any time, and make all decisions with reference to the Trust as absolute owner.

If you should become incapacitated, a Revocable Trust can provide for a seamless transition in the management of your affairs. The person(s) you have selected as successor or co-Trustee, will simply take over the management of your assets and affairs. This will avoid the need for the appointment of a Guardian and a potentially costly and acrimonious guardianship proceeding.

A Revocable Trust will not change your lifestyle or the way you handle your day-to-day affairs. It is important to note, however, that despite some notions to the contrary, there is no income tax or estate tax savings when using a revocable trust.

If you have a simple estate, do not own out of state property and you are not disinheriting your spouse or your children, then the probate process can be very simple. However, if your wish is to disinherit a child, children, or spouse, you may be opening your estate up to a probate battle. The problem is further exacerbated if you have no spouse or children, and missing heirs as they would need to be located and the cost can be enormous. Additionally, if you have out of state real estate your executor will most likely have to bring an ancillary proceeding in the state where the property is located. In any of these mentioned situations, a living trust might be a good alternative.

What is an Irrevocable Trust?

By contrast, in an Irrevocable Trust, you would name a third-party (not a spouse) as trustee, and the principal is no longer accessible to you or under your control. However, you as Grantor are entitled to any income the Trust generates. Assets commonly transferred into these Trusts include residences and investments such as bank accounts, certificates of deposit, stocks and bonds. You as the Trust creator (Grantor) continue to earn all income (interests, dividends, etc.) generated by either Trust. You also retain any property tax exemptions you were entitled to prior to the transfer.

A key difference between these two types of Trusts is that the Irrevocable Trust allows for asset protection should you require long term skilled nursing care, a Revocable Trust does not. Once a five-year period has elapsed from the date of the transfer of an asset to the Irrevocable Trust, the transfer of that asset will no longer impact your Medicaid eligibility.

Today, not even the comfortably well off can afford the $12,000 to $14,000 a month cost for nursing home care on Long Island and upwards of $20,000 for nursing home care in New York City. Most individuals do not want the money they have worked their whole lives for to be used to pay for their nursing home care were they to become ill. There are several ways to protect your assets in the event you are struck with a catastrophic illness requiring long term care, and an Irrevocable Trust is just one of these vehicles.

While many individuals are uncomfortable with losing “control” over their assets, they may still want to consider establishing an Irrevocable Trust in which to place their residence, as it will not change their lifestyle. Despite the recent decline in real estate value, more often than not the residence is a major portion of an estate. The benefit of the Irrevocable Trust is that you retain the right to live in the home for their lifetime yet the house could be sold if necessary and the Trust can purchase replacement property without the asset being considered available to the Grantor for Medicaid eligibility purposes. You would also retain your STAR and any Veteran’s exemption. Title to the property does not pass to one’s heirs until the Grantor’s death and the termination of the trust.

The Irrevocable Trust is structured so that any income generated by the Trust will be taxed at your tax bracket and the trust income will be reported on your individual Form 1040. The Trustee may be required to file “informational” fiduciary income tax returns for the Trust.

There are no gift taxes due on transfers to the Irrevocable Trust because the transfer is deemed to be an incomplete gift. In contrast, if you were to transfer assets to your beneficiaries outright, any income from those assets would be taxable to the recipients at their tax brackets. In addition, placing assets in an Irrevocable Trust rather than transferring to beneficiaries outright protects those assets from that beneficiary’s creditors and/or personal problems.

Both the Revocable and Irrevocable Trusts direct distribution of your assets at your death. At death, the trust assets will not be subject to a probate proceeding, saving probate, legal, and executor fees. The Trust assets will, however, be includable in your estate for estate tax purposes. This will enable your beneficiaries to obtain a step-up in basis (fair market value at the time of death) as to any appreciated assets as opposed to receiving your original cost basis had you gifted the appreciated property to them. For example, if the residence were held in the Irrevocable Trust, your heirs would receive a step-up in basis for income tax purposes which would minimize the taxes due on the subsequent sale of the premises. Your Irrevocable Trust may also provide protection against your own creditors after your death.

While not appropriate for everyone, an irrevocable trust is one vehicle available to protect your assets and/or residence while providing an income for the Grantor and, at the same time, allowing the Grantor to qualify for Medicaid benefits. There are many things to consider before creating a trust and there are several different provisions that can be used to protect your interests in the trust property. The question is whether the strategy is good for you. As always, you should consult with an attorney or financial planner to further explore whether a Trust is appropriate for your particular situation.