The Benefits of an Irrevocable Living Trust vs Will for High Net Worth Estate Planning
Introduction
For high net worth individuals and families, estate planning is crucial to ensure their wealth is protected and passed on according to their wishes. While many people default to creating a will, an irrevocable living trust can provide several key advantages, especially for those with substantial assets.
An irrevocable living trust is a legal arrangement where the grantor transfers ownership of assets into a trust that cannot be easily changed or revoked[1]. The trustee then manages the assets for the benefit of designated beneficiaries according to the trust terms.
In contrast, a will is a legal document that specifies how a person's assets should be distributed after death[2]. Wills must go through probate, a court-supervised process that can be lengthy, public and expensive.
For high net worth estates, an irrevocable living trust can offer greater control, privacy, tax savings and asset protection compared to a will. However, there are also potential drawbacks to consider. In this article, we'll explore the pros and cons of using an irrevocable living trust over a will in high net worth estate planning.
Advantages of an Irrevocable Living Trust
1. Avoiding Probate
One of the primary benefits of an irrevocable living trust is that it allows assets to bypass the probate process. Probate can take months or even years, and it makes the contents of a will public record. Probate fees, court costs and legal expenses can also eat up a significant portion of the estate[3].
With an irrevocable living trust, the trustee can quickly and privately distribute assets to beneficiaries without court involvement[1]. This saves time, money and the headache of probate. The grantor can also specify when and how beneficiaries receive their inheritance, such as in staggered distributions at certain ages.
2. Reducing Estate Taxes
An irrevocable living trust can provide substantial estate tax savings for high net worth individuals and families. In 2023, the federal estate tax exemption is $12.92 million per individual[4]. However, many states have their own estate or inheritance taxes with much lower exemptions.
By transferring assets into an irrevocable living trust, the grantor removes those assets from their taxable estate[5]. The assets can then appreciate outside the estate, without increasing the grantor's estate tax liability. With proper planning, a married couple can use irrevocable trusts to effectively double their estate tax exemption[6].
3. Protecting Assets from Creditors and Lawsuits
An irrevocable living trust can also provide robust asset protection for the grantor and beneficiaries. Once the grantor transfers assets into the trust, they legally no longer own those assets. This makes it very difficult for the grantor's creditors or lawsuit plaintiffs to reach the trust assets[7].
In contrast, a will does not provide any asset protection during the grantor's lifetime. The grantor's assets remain vulnerable to creditor claims and legal judgments until death. Even after death, the estate assets can still be reached by the grantor's creditors during probate[8].
An irrevocable trust can also protect assets for beneficiaries who may be less financially savvy, have creditor issues, or are at high risk of divorce. The grantor can include spendthrift provisions that restrict beneficiaries from pledging or selling their trust interest[9].
4. Preserving Government Benefits Eligibility
An irrevocable living trust can help beneficiaries with special needs maintain eligibility for government benefits like Medicaid or Supplemental Security Income (SSI). Directly gifting assets to a special needs individual or leaving assets to them in a will could disqualify them from these needs-based programs.
With a special needs trust, the trustee can use the assets to pay for supplemental expenses to improve the beneficiary's quality of life, without affecting their benefits eligibility[10]. The trust can also be structured as a third-party special needs trust to avoid Medicaid payback after the beneficiary's death.
5. Providing Long-Term Property Management
An irrevocable living trust allows the grantor to provide comprehensive property management that can span multiple generations. This is especially useful for assets like rental properties, vacation homes or family businesses that require ongoing oversight.
The grantor can name a professional trustee with expertise managing these assets and include detailed instructions for maintenance, leasing, selling or transferring property. A dynasty trust can even allow trust assets to pass tax-free to grandchildren or great-grandchildren[11].
In contrast, a will only provides property management instructions after the grantor's death and does not allow for the same level of control or direction. The executor named in the will must distribute assets outright to beneficiaries, who then bear the responsibility of managing the property themselves[12].
Disadvantages of an Irrevocable Living Trust
1. Loss of Control and Flexibility
The main drawback of an irrevocable living trust is that the grantor must relinquish control and ownership of assets transferred into the trust. Unlike a revocable living trust, an irrevocable trust generally cannot be amended or revoked once it is established[13].
This means the grantor cannot easily change beneficiaries, alter distribution terms, or reclaim assets if their financial situation or family dynamics change. In some cases, the grantor may even have to give up the right to remove and replace the trustee[14].
A will, on the other hand, remains completely revocable and amendable until the grantor's death. The grantor retains full control and ownership of their assets. They can update their will as needed to reflect life changes like marriages, divorces, births and deaths[15].
2. Upfront Costs and Complexity
Creating an irrevocable living trust is more expensive and complex than drafting a simple will. The grantor will need to hire an estate planning attorney to properly structure the trust, draft the trust agreement and legally transfer assets into the trust.
Trustee fees, appraisal fees and filing fees can add to the upfront costs. The grantor may also need to file a gift tax return if the value of assets transferred exceeds the annual gift tax exclusion ($17,000 per recipient in 2023)[16].
Administering an irrevocable trust is also more involved than probating a will. The trustee has ongoing duties like recordkeeping, tax filings and communicating with beneficiaries[17]. This can result in higher professional fees compared to a one-time executor fee for settling an estate.
3. Medicaid Ineligibility Period
While an irrevocable living trust can protect assets from Medicaid spend-down requirements, transferring assets into the trust can trigger a penalty period of ineligibility for Medicaid coverage of long-term care.
Currently, any assets transferred within five years before applying for Medicaid (the "lookback period") will be counted as available resources[18]. The applicant may be ineligible for Medicaid for a period of months or years, depending on the value of assets transferred relative to the average cost of nursing home care in their state.
To avoid a Medicaid penalty period, the grantor would need to create and fund the irrevocable trust at least five years before needing nursing home care. A Medicaid asset protection trust can also be structured to allow limited distributions to the grantor without affecting eligibility[19].
The Bottom Line
An irrevocable living trust can be a powerful estate planning tool for high net worth individuals and families looking to avoid probate, reduce estate taxes, protect assets and provide for loved ones. However, the loss of control and upfront costs may not be suitable for everyone.
The decision to use an irrevocable living trust over a will depends on each person's unique financial situation, family dynamics and estate planning goals. It's best to consult with a qualified estate planning attorney and tax professional to determine the most appropriate strategy for your needs.
By weighing the pros and cons carefully and implementing a well-designed irrevocable living trust, high net worth individuals can achieve greater peace of mind knowing their hard-earned wealth will be preserved for generations to come.
Meet
Josh Branham
Hello! 👋🏼 I'm Josh, a dedicated financial advisor with a wealth of expertise spanning seven years in portfolio and wealth management. I specialize in providing comprehensive financial planning guidance to a diverse set of clients, including professional athletes.
References
Material prepared herein has been created for informational purposes only and should not be considered investment advice or a recommendation. Information was obtained from sources believed to be reliable but was not verified for accuracy. It is important to note that federal tax laws under the Internal Revenue Code (IRC) of the United States are subject to change, therefore it is the responsibility of taxpayers to verify their taxation obligations.
Savvy Wealth Inc. is a technology company. Savvy Advisors, Inc. is an SEC registered investment advisor. For purposes of this article, Savvy Wealth and Savvy Advisors together are referred to as “Savvy”. All advisory services are offered through Savvy Advisors, while technology is offered through Savvy Wealth. The views and opinions expressed herein are those of the speakers and authors and do not necessarily reflect the views or positions of Savvy Advisors.
