An irrevocable trust is a useful estate planning tool that allows you to protect and control assets. But what exactly does it mean to have assets in an irrevocable trust? This guide will explain everything you need to know.
An irrevocable trust is a complex legal arrangement that requires careful consideration. Once created, it cannot be changed or revoked, so it’s critical to understand how assets in an irrevocable trust work before establishing one. Read on to learn the key characteristics, benefits, and potential drawbacks.
What Exactly is an Irrevocable Trust?
An irrevocable trust is a legal entity created during one’s lifetime to hold assets. The creator, called the grantor, transfers ownership of assets to the trust.
Once created, an irrevocable trust cannot be changed or revoked. The grantor gives up all ownership rights to the assets placed in the trust. A trustee is responsible for administering the assets per the provisions of the trust for the benefit of the beneficiaries.
Irrevocable trusts are often used for estate tax planning and to protect assets from creditors. However, giving up control over assets requires careful planning.
How Does an Irrevocable Trust Work?
Here is a high-level overview of how assets in an irrevocable trust work:
- The grantor establishes the irrevocable trust and names a trustee to manage the trust assets.
- The grantor transfers ownership of assets to the trust by retitling them in the name of the trust. This may include real estate, cash, investments, life insurance, etc.
- The trustee manages the assets for the benefit of the beneficiaries named in the trust document. The grantor can be a beneficiary.
- The terms of the trust specify how and when the assets are distributed to beneficiaries, such as upon the grantor’s death.
- The grantor no longer controls the assets and cannot dissolve the trust. The assets now belong to the trust.
- Any income generated from assets in the trust is taxed to the trust if structured as a grantor trust.
The key is that once placed in the trust, the assets belong to the trust, not the grantor. The trustee controls them according to the trust terms.
Who Owns the Property in an Irrevocable Trust?
When you transfer a property into an irrevocable trust, the trust becomes the legal owner.
You no longer personally own or control the property. The trustee manages it according to the trust terms. And beneficiaries receive distributions according to your wishes.
But no single person directly owns or controls the assets while they are in the trust.
You Don’t Own the Property Anymore
As the person who establishes the trust and transfers property into it, you are called the grantor.
But you relinquish ownership rights when you complete the transfer. The property is no longer yours.
You cannot sell, mortgage, or otherwise control the property. Only the trustee can take these actions in the best interest of the beneficiaries.
The Trustee Doesn’t Own the Property
The trustee is responsible for managing the property in the trust. But they don’t actually own it, either.
They have a fiduciary duty to administer the trust according to its terms. They cannot use trust assets for personal gain.
The trustee may live in a property held by the trust. Or use it if that meets the trust’s goals. But they must always act in the interest of the beneficiaries.
The Beneficiaries Don’t Own the Property
The people who may receive distributions from the trust are called beneficiaries. Typically, children or other loved ones.
Beneficiaries have no direct ownership or control over the property either. They have an interest in the trust assets. However, the trust owns the assets until they are distributed to beneficiaries.
The trustee distributes assets according to the trust terms. Beneficiaries can use distributions but cannot control assets in the trust.
Can You Sell a Property in an Irrevocable Trust?
Given that you don’t own the property anymore, can you still sell a house or other property held in an irrevocable trust?
The short answer is no. Only the trustee can sell assets in the trust.
As a grantor, you cannot sell or even mortgage a property once transferred into the trust. Even if you originally purchased and transferred that property into the trust.
However, the trustee may be able to sell trust properties depending on the situation:
- Trust terms – The document may permit or restrict property sales
- The benefit of beneficiaries – Sales proceeds could be invested for the greater benefit
- Taxes or expenses – Sales may help pay trust costs to preserve assets
- Changes in circumstances – A different property may better suit the trust’s goals
So, while you cannot initiate a sale, the trustee may sell trust properties in some cases. The proceeds remain in the trust for beneficiaries.
What are the Downsides of an Irrevocable Trust?
While irrevocable trusts can be very useful, the loss of control and lack of flexibility present downsides:
- The grantor gives up all access to and control over the assets. You cannot change your mind later.
- Mistakes or changes in circumstances cannot be corrected if the trust terms are problematic.
- Beneficiaries and trustees must adhere to the trust restrictions and instructions.
- There may be ongoing administrative burdens and costs to maintain the trust.
- Transferring asset ownership can trigger gift taxes if not structured carefully.
An irrevocable trust should only be established with professional guidance and extensive planning with an experienced estate planning attorney, like the team at The Titus Law Firm. Otherwise, unintended consequences can result.
Who Pays the Taxes on a Property in an Irrevocable Trust?
Taxes also work differently with an irrevocable trust. But who ends up paying taxes on a trust property?
In most cases, the trust itself pays taxes on assets held in the trust. This includes:
- Property taxes – The trust pays annual property tax bills
- Income taxes – If rental income is generated, the trust files and pays taxes on it
- Capital gains taxes – The trust pays these taxes if assets are sold at a profit
The money to pay these taxes comes from within the trust, usually from earnings generated by trust assets or cash holdings.
As a grantor, you no longer pay taxes on trust properties. However, the trustee must handle all required tax filings and payments.
What Happens to the Property When I Pass Away?
Irrevocable trusts are commonly used for estate planning purposes. But what happens to trust assets after you pass away?
The terms of the trust document dictate what happens. Here are some possibilities:
- Beneficiaries receive distributions – Assets may transfer directly to named individuals
- Trust continues – It may continue for beneficiaries still living
- Trust terminates – Remaining assets are distributed to beneficiaries, then it closes
In any case, assets in the trust avoid probate. They transfer according to your wishes in the trust, not through your will.
This ensures your loved ones receive trust assets quickly and privately. And it saves your estate money by avoiding probate.
Is an Irrevocable Trust Right for My Property?
While relinquishing control may seem extreme, there are many situations where using an irrevocable trust makes sense for property ownership.
Benefits may include:
- Peace of mind if you become incapacitated
- Keeping assets safe from creditors
- Tax minimization
- Probate avoidance
- Control over inheritances
Weigh the pros and cons carefully. An irrevocable trust offers powerful benefits. But make sure you fully understand what it means to give up ownership before moving forward.
If you need help deciding whether to use an irrevocable trust, contact The Titus Law Firm in Houston today to set up a consultation. They can review your situation and goals to determine if it is the right option.