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Asset Protection: Irrevocable Trusts And Annuities


Two key options for asset protection in the golden years include irrevocable trusts and annuities.

Annuities are a form of insurance which a person secures, then chooses dates for fund disbursement. It’s a tax-deferred tool that allows you to sock away more money, and you can decide to have funds disbursed for the rest of your life or for a set amount of time. However, for many retirees, protecting assets is just as important as securing them. Annuities can be part of an irrevocable trust.

As the name implies, an Irrevocable Trust can’t be changed or canceled by anyone except the beneficiary. The grantor, or person who establishes the trust, gives up all ownership rights of both the trust and assets he or she transfers into the trust. There are also “revocable trusts,” which do let the grantor change or cancel the trust.

Why choose an irrevocable trust for asset protection? It’s usually for tax and estate protection. Since the grantor no longer has ownership of the trust, the assets are no longer considered part of the grantor’s taxable estate. It also removes any tax liabilities from income the assets might generate. Exact tax implications can vary state to state, but such benefits usually can’t be enjoyed if the grantor still owns the trust. Assets can include a number of items including cash, businesses, life insurance policies and investment assets.

The best part? Grantors can still earn interest on the assets.

The Three Parts of an Irrevocable Trust

Irrevocable trusts require three parties—the grantor, trustee, and beneficiary. The grantor “grants” assets into the trust. When assets are placed in the trust, it’s officially a gift and cannot be taken back. The grantor is in charge of the rules, terms and uses of all assets, and both the trustee and beneficiary must agree to the grantor’s wishes in order to move forward with the process. The trustee is the person in charge of managing the trust and carrying out the grantor’s wishes.

Technically, the trustee is also the “owner of the assets” until the beneficiary(ies) qualifies to take ownership. When the grantor transfers assets into an irrevocable trust, they’re really transferring ownership to the trustee (of which there can be more than one). Trustees have the legal title to assets, while beneficiaries have the equitable title. The grantor no longer has any title to the assets at all. It’s a big step, particularly when a trust is irrevocable. The only way to revoke such a trust is if both the trustee(S) and beneficiary agrees.

In most cases, a person’s most valuable asset is their estate (but not always). As such, it makes sense that preserving an estate to maximize its distribution is paramount. Irrevocable trusts can help optimize estate tax exemptions by eliminating an estate’s taxable assets. Irrevocable trusts can stop beneficiaries from misusing assets. Registered Financial Consultant Hal Hammond says, “Assets can be kept in trusts under a variety of conditions as dictated by the grantor. A common example is waiting until a beneficiary reaches a certain age before they can access the assets.”

Although tax liabilities are removed from income earned by the assets, that doesn’t mean the assets stop earning income. Assets which earn income while held in the trust can still be enjoyed by the grantor (or beneficiary if that’s the wish of the grantor). The freedom to grant assets and/or remove assets from an estate while keeping the income they earn can be a huge benefit for a grantor.

Financially savvy parents want to do more than leave their children an inheritance—ideally, they do so under favorable tax conditions. Gifting children a home (residence) via an irrevocable trust comes with better tax rules.

Putting a life insurance policy in an irrevocable trust separates any death proceeds from the estate, maximizing the payout to beneficiaries. Many times, beneficiaries of life insurance policies are spouses and/or children. An irrevocable trust, particularly when housing estates and life insurance policies, can be a key part of estate planning.

The Finer Details

It’s no surprise that an irrevocable trust is more complicated than a revocable trust. There might be income and estate tax implications both now and in the future to consider. Like any estate planning, working with a reputable and professional estate or tax attorney is vital. Ultimately, irrevocable trusts can be a fantastic approach to gift-giving, but like any “threesome” it takes proper planning and execution.

Most grantors who set up an irrevocable trust have an impressive amount or value of assets. They want to ensure their beneficiaries make the most of their inheritance—but that can be easier said than done. What if the beneficiaries don’t’ have strong financial literacy? According to Cory Lagerstrom Principal at Change Path, “if the grantor worries about the beneficiary being too young, inexperienced, or tempted to “blow the inheritance,” an irrevocable trust can help protect both the assets and the well-being of the beneficiary.”

According to the National Endowment for Financial Education, 70 percent of people who win the lottery or otherwise snag a windfall end up bankrupt or broke in just a few years. Grantors want to ensure their estate and assets, which they often worked hard their entire lives to build, are responsibly enjoyed by their loved ones. They want to be certain that the inheritance and legacy they leave are a help, not a burden.

How Asset Protection Benefits the Grantor

Helping beneficiaries make the most of their inherited assets is a big part of an irrevocable trust, but not the only benefit. Sometimes, grantors want to qualify for key benefits like Medicaid. Choosing an irrevocable trust instead of simply “spending down assets” can be a much healthier approach. These trusts can also safeguard inheritances from sticky situations like divorce, or grantors might want to make sure their grandchildren have a college fund.

There’s no one size fits all form for setting up an irrevocable trust. Choose a form, preferably from a licensed professional, which can be customized to individual needs. Once all assets are selected, from stocks to annuities, real estate to CDs, the next step is getting a tax ID number. The IRS assigns numbers which must be attached to the irrevocable trust. Finally, the assets are officially transferred into the trust, and the grantor gives up all ownership.

Are there any downsides to an irrevocable trust to protect assets—besides the fact that this arrangement can’t be revoked? Grantors might be surprised by the cost of an independent trustee. However, trustees can be any suitable adult. Selecting a trusted loved one is a great way to keep trust costs low.

There are numerous benefits to an irrevocable trust compared to an outright gift. Without an irrevocable trust, the grantor has no say in how or when beneficiaries receive and sometimes spend the inheritance. Although the trust can’t be revoked, the grantor can keep the right to change beneficiaries as he or she wishes.  The grantor can also keep the income the trust produces. Those types of perks certainly aren’t built in to an arrangement where “just” a gift is made.