Revocable vs. Irrevocable Trusts

By Raul Gastesi

When it comes to safeguarding your assets and ensuring a smooth transfer of wealth, the decision between creating a trust or relying on a will can have far-reaching consequences. Trusts, in particular, offer a range of advantages that appeal to estate planning professionals and financially savvy individuals alike. Many people are familiar with the basics of trusts, especially the two primary types: revocable and irrevocable.

But while the concept of these trusts may be widely recognized, the nuanced differences between them—and the significant long-term implications of choosing one over the other—are often less understood. These distinctions can make all the difference in achieving your financial and estate planning goals.

To shed light on this critical topic, let’s explore the key differences between revocable and irrevocable trusts through real-world scenarios, providing clarity on when each type is most beneficial.

General Differences: Revocable vs. Irrevocable Trusts

Both revocable and irrevocable trusts offer benefits that make them attractive tools for managing and distributing wealth. Those benefits typically include:

Keeping your assets from going through probate.

Easing or eliminating some tax burdens.

Facilitating greater control in how your wealth is distributed.

Helping to fund long-term care for loved ones with special needs.

Revocable trusts, as their name implies, can be altered after they’re established. With these trusts, you can add additional assets, change beneficiaries and make other adjustments over time. Once the grantor passes away, the trust becomes irrevocable and no additional changes are possible.

In contrast, once you establish an irrevocable trust, it cannot be changed, altered or amended by the grantor without a court order or beneficiary consent. When you create an irrevocable trust, you typically lose control of the assets included in the trust and the income they generate.

There are ways to structure an irrevocable trust so you can retain income, but that can sometimes defeat the trust’s underlying purpose, especially for estate tax planning.

For example, irrevocable trusts are often used to hold life insurance policies. If a decedent owns a life insurance policy at the time of their death and it is not included in an irrevocable trust, the death benefit proceeds will be included in their gross estate for tax purposes, which can significantly increase the taxable estate.

Let’s say the decedent’s estate is worth $15 million, and they also own a $5 million life insurance policy that is not included in an irrevocable trust, then their taxable estate would now be $20 million.

By placing the life policy into an irrevocable trust and surviving the transfer by three years, the policy’s value is excluded from the taxable estate, potentially saving millions in estate taxes.

But it’s critical to keep in mind that an irrevocable trust cannot be changed once established. So, while you gain certainty, you lose future control over asset distribution.

Now, let’s look at each trust type in the context of some real-world asset management scenarios.

Preserving Your Assets and Avoiding Probate

As mentioned earlier, both revocable and irrevocable trusts can help you achieve this goal. By creating a trust, regardless of the trust type, assets in the trust are considered owned by the trust and not by the grantor/decedent for probate purposes.

As a result, those assets need not be probated. The choice about which trust type to use in this scenario will come down to whether you prefer the future flexibility a revocable trust provides or the certainty and other benefits of an irrevocable trust, which we’ll discuss in more detail shortly.

Maintaining Future Flexibility Over How Your Assets are Distributed

Without a doubt, a revocable trust is the best way to maintain ongoing flexibility in how your wealth is distributed. If circumstances in your life or in your beneficiaries’ lives change, you always have the option to alter, amend or even revoke the trust.

That’s why the vast majority of my clients opt for revocable trusts. If they have a reason to change their mind about how the original trust was structured, they have the option to add or remove assets and beneficiaries.

With an irrevocable trust, you can’t make those changes. If circumstances or relationships change, your desired goals for wealth distribution might not be met because you can’t change the trust.

Minimizing Risk from Tax Liabilities, Creditor Claims and Lawsuits

An irrevocable trust would make more sense here. Once you transfer assets to an irrevocable trust, they are no longer considered under your control. Therefore, your creditors can’t take them.

In contrast, assets in a revocable trust are still considered yours for estate tax purposes in the sense that you retain control and have the ability to receive income or withdraw assets. As a result, creditors can penetrate a revocable trust.

Just keep in mind that transferring assets into an irrevocable trust within certain time periods before a claim (for example, four years in Florida) can be deemed a fraudulent transfer, and creditors can set those aside.

Navigating Complex Family Dynamics: Divorce or Blended Families

These are the types of situations where a revocable trust often makes more sense. The nature of relationships in blended families can change over time, and revocable trusts offer flexibility if that occurs.

Having said that, there are circumstances you need to carefully think through when using revocable trusts. For instance, be careful if you’re distributing assets to a married child. Using Florida as an example, if that child dies, the child’s spouse may have access to 30% of the assets, known as the elective share in Florida.

If the child commingles inherited assets with marital assets, the inherited assets could be considered marital property in the event of a divorce. So, it’s crucial to advise children to keep inherited assets separate from marital assets and to consider prenuptial or postnuptial agreements.

Providing Long-Term or Extended Specialized Care

A revocable trust makes the most sense in this scenario because of its flexibility. Health care needs and family dynamics can change, so it’s important to have the ability to adjust the trust as those circumstances evolve.

Distributing Proceeds From a Life Insurance Policy

Most clients with estate tax concerns, those with estates above the applicable exclusion amount, will opt for an irrevocable life insurance trust (ILIT) to own that policy.

It’s important to keep in mind that ILITs require Crummey letters, which let irrevocable trust beneficiaries know of any gifts made to the trust and their rights to those assets. Basically, the Crummey letter is a way of keeping those gifts from being considered taxable gifts.

This is a highly technical process, but if done correctly, the death benefit will not be included in your taxable estate if you survive the transfer by three years.

Other Scenarios Where Irrevocable Trusts Make Sense

In most of the preceding scenarios, revocable trusts are the preferred option. So, when does an irrevocable trust make the most sense?

In my experience, irrevocable trusts are typically for the ultra-wealthy—those with estates exceeding $27 million as a couple under the current tax code. These trusts help minimize estate tax exposure.

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Always Partner With an Expert to Help You Establish a Trust

The purpose of creating a trust is to provide peace of mind, ensuring that your wishes for your assets and loved ones are carried out precisely as planned. But achieving that peace of mind requires more than just filling out a form or following a generic online template.

Trusts are inherently complex, with technical details that demand a thorough understanding of both legal and financial nuances. That’s why partnering with an experienced legal professional is not just advisable, it’s essential.

While online templates and DIY services may promise convenience, they often fail to account for the unique details of your situation, leaving you exposed to costly mistakes. I’ve personally worked with clients who turned to me to fix issues stemming from these quick-fix options. Some problems, unfortunately, could not be undone, and those that could were far more expensive to resolve than the cost of hiring a professional from the outset.

Don’t take unnecessary risks with something as important as your legacy. Consult a trusted expert to guide you through the process of establishing a trust that is not only legally sound but also fully aligned with your goals and values. Your future—and the future of those you care about most—deserves nothing less.

About the author: Raul Gastesi

Raul Gastesi founded the firm, Gastesi & Associates in 1997, and in 2019 joined forces with his partners to create Gastesi Lopez Mestre & Cobiella. They represent clients in commercial litigation, real estate transactions, zoning and land use, catastrophic injury, government relations, corporate law, educational law and estate planning. Gastesi has practiced law for almost 35 years, acquiring vast experience in handling commercial, real estate and municipal transactions litigation.