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Irrevocable vs. Revocable: Understanding the Two Major Categories of Trusts

While there are many types of trusts—and each serves various needs and purposes—all trusts fall within one of two major categories. They are either revocable or irrevocable.

Which option you choose should depend on your goals for the trust. Whether a trust is revocable or irrevocable has a major impact on trust administration and, potentially, your beneficiaries, so it is important to consider this decision carefully.

Trusts are the cornerstone of the modern estate plan. They can have many tax and financial implications. It’s not an ideal choice to DIY trust creation, so working with an experienced trust attorney is typically a good option. Find out more about irrevocable and revocable trusts below.

What Is a Trust?

A trust is really nothing more than a contract among three parties. It involves a fiduciary relationship. The word fiduciary means some level of trust and a responsibility to handle matters in keeping with the best interests of someone else.

In the trust arrangement, the parties typically include:

• The Donor. This is the person behind a trust’s creation – the person who creates the trust and gives property or assets to the trust. The Donor, usually with the help of a qualified estate planning attorney, will decide what terms and conditions will be included in the trust agreement (the contract). The provisions of the trust agreement define how assets in the trust should be managed and when and how they should be distributed to beneficiaries. The Donor is often the person who contributes assets to the trust, though trusts can be set up to allow for third-party contributors. Some trusts will have more than one Donor. It has become common for married couples to create a Joint Trust, in which case they are both Donors of the trust. The Donor can be known by other names. The IRS prefers the term “Grantor”. Some states use the terms “Trustor” or “Trust Maker”. Regardless of which title is used, this party is responsible for trust creation.
• The Trustee. This is the person or entity that manages the assets owned by the trust. Think of the Trustee as the equivalent of the CEO of a corporation. The Trustee is tasked with fiduciary responsibility for the trust. The Trustee must manage the trust assets, protect the assets of the trust, make appropriate decisions about investing or using those assets in keeping with the desires of the trustor and the interests of any beneficiaries, and distribute assets to beneficiaries as dictated by the provisions of the trust. The Trustee is responsible for proper trust administration.
• The Beneficiary. This is the person or persons who benefit from the trust. The Beneficiaries get to use and enjoy whatever it is that the trust owns.

It is possible to create some trusts where the Donor, the Trustee and the Beneficiary are, at least initially, all the same person. But in order to have a valid trust, all trusts must have at least one other person involved as at least one of the other parties in the contract. Most trusts created for estate planning purposes will have at least one future interest beneficiary – someone who will be the beneficiary after the Donor has passed away. If the Donor is named as the initial Trustee, most trusts will provide a list of successor trustees who can take over if the initial Trustee becomes incapacitated or dies.

What Is an Irrevocable Trust?

The word irrevocable means that something can’t be changed or cancelled – at least not by the Donor. That’s the idea of an irrevocable trust in spirit. These types of trusts are typically designed so that once the trust is created and assets are put into it, the Donor cannot change the trust terms or have a gift returned. Today, most irrevocable trusts are written with a great deal of flexibility. While the Donor may not be allowed to amend or change the terms of a trust, it is common to give the ability to amend the trust to someone else. Additionally, the Donor may be given the right to “swap” assets with the trust, so that an asset that was given away can be returned for something of equal value. While there can be important tax consequences to including these types of provisions in an irrevocable trust, a properly written irrevocable trust can give enormous flexibility to both the Donor and the Beneficiary.

Keep in mind that a revocable trust, meaning the Donor has reserved the right to amend or cancel the trust, will become an irrevocable trust when the Donor dies. That is because after a death, the Donor can no longer amend or cancel a trust. So once the Donor has passed away, normally the trust will automatically become an irrevocable trust.
Whether or not a trust is irrevocable is determined by state law as well as the wording of the trust itself. If trust documents don’t speak to revocability at all, the IRS notes that most states consider the trust to be revocable.

As mentioned, it is often possible to amend an irrevocable trust. Typically, there are at least four methods to amend an Irrevocable trust. In most states, it is possible to file a court proceeding to amend an Irrevocable Trust. But because court proceedings can be very expensive, it is often the least desirable approach. Under the laws of some states (or if the trust terms permit), irrevocable trusts may be amended by agreement of the Donor (if available), the Trustee and all of the Beneficiaries. More sophisticated trusts may include provisions for a special kind of fiduciary called a Trust Protector. Trust Protectors are often given the ability to amend a trust. But, depending on how the trust is set up in the first place, your options may be limited. Finally, some states permit a method of changing a trust called “decanting”. With this method of changing an irrevocable trust, the assets are removed from the original irrevocable trust and transferred to a new irrevocable trust with improved terms and conditions. Decanting has many rules and restrictions and should only be done with the help of a qualified trust attorney.

Potential Pros and Cons of Irrevocable Trusts

Generally, irrevocable trusts are NOT all-purpose trusts and are not a good tool to use as a Will substitute. Each type of irrevocable trust is used for a very limited, specific purpose. Irrevocable trusts are to estate planners what a toolbox is to a carpenter. Just as a carpenter carries different tools for different woodworking tasks, an estate planner will use the various types of irrevocable trusts as a collection of legal tools tailored to specific financial needs. It’s like having a toolbox filled with saws, hammers, and measuring tools, enabling the carpenter to tackle various projects with expertise and accuracy.

Because the Donor, in his or her capacity as a Donor, doesn’t have direct control or access to the assets in an irrevocable trust—aside from what is written into the trust provisions—this form of trust can provide additional protection against creditors and taxes. This type of trust can even provide potential protection against certain types of future legal claims, such as medical malpractice lawsuits.

However, the same control limitations that can protect you in one circumstance might become a burden in another. If you experience a shakeup in your financial status and suddenly need the assets in your trust to pay for everyday expenses or bills, you may not be able to easily access them.

What Is a Revocable Trust?

The word revocable means that something can be changed or reversed. It’s the opposite of irrevocable, and in many ways, a revocable trust is the opposite of an irrevocable trust. These types of trusts are much easier to amend.

You still transfer assets into the trust and they are still managed according to the trust provisions by a trustee. If you create a trust during your lifetime with yourself as the beneficiary, you can make yourself the trustee or choose to have someone else manage the assets on your behalf, according to your direction, and for your benefit.

Potential Pros and Cons of Revocable Trusts

Revocable trusts provide a lot more control and flexibility. You don’t typically need to go through as much work to make a change to such a trust, and your options for amending a revocable trust are much wider than they are for amending an irrevocable trust. Revocable trusts are the “all-purpose” trust in an estate plan. Revocable trusts are like a Swiss Army knife. They can accomplish many goals with one document. For that reason, they are a great substitute for the traditional Will.

However, revocable trusts won’t provide asset protection to the Donor like an irrevocable trust can.

Which Type of Trust Is Right for You?

The type of trust that is right for you depends on your goals and needs. If you are looking to: (1) pass wealth at death; (2) provide for the right people to be in charge upon your incapacity; (3) avoid the probate process; (4) reduce estate and income taxes; and/or (5) provide protection from divorce, lawsuits, bankruptcy, and future estate taxes on the assets you will leave to your loved ones, then a properly drafted revocable trust might be the right fit for you.

Do you want to protect your assets against your future creditors, reduce your tax burden, or provide funds for beneficiaries that they can only use for specific purposes? Then an Irrevocable Trust might be a better choice. These are just a few common goals related to trust creation, and most people have several goals in mind.

Get Professional Help with Trust Creation and Administration

The best way to understand the type of trust or other estate planning that might be right for you is to speak with an experienced trust attorney. Your legal team can help you explore all your options and make educated decisions about protecting your assets, creating a legacy for the future, and supporting your beneficiaries. Remember that trust creation is only the first step. You want to be sure that the team you choose to help you and your family will have the experience and expertise to help you with trust administration after your trust is signed.

For more information about trusts and to get started on creating yours, reach out to the Law Offices of Boyd & Boyd, P.C., at 508-444-9688.

Is an Irrevocable Trust Truly Unchangeable?

Trusts, both revocable and irrevocable, are incredibly flexible tools that can be used for estate planning, wealth generation, protection, and transfer. They are often the best tool for creating and leaving a legacy that can live on for many generations and can adapt to changes that occur over time, even after you die. But when an estate planner brings up irrevocable trusts, many people wrongfully fear flexibility will be lost. Although the word irrevocable means unable to be changed or revoked, should you take that definition literally when it comes to irrevocable trusts? As with many things involving legal matters, the answer is not what you might think.

All trusts are contracts — agreements among three (3) parties:

All trusts are contracts — agreements among three (3) parties:

(1) A Grantor (our firm uses the term “Donor,” but the IRS prefers grantor; other synonymous terms include “Trustor” and “Trust Maker”). This is the person who creates a trust and gives assets to the trust.

(2) A Trustee. This is the person who manages the trust and the assets it owns. A trustee is to a trust what a CEO is to a corporation.  

(3) A Beneficiary. This is the person who gets to enjoy what the trust owns.

As with any contract, if it is properly designed and drafted, it can have enormous benefits for all of the parties to the contract, while at the same time preventing non-parties (like creditors, divorcing spouses, and even the tax authorities) from having the ability, now of in the future, to interfere with the agreement. 

Discover the difference between a revocable trust and an irrevocable trust below, and learn whether there are any situations that allow for amending or making changes to an irrevocable trust. Then find out how an experienced legal professional can help with trust administration and other tasks.

Revocable vs. Irrevocable Trusts

A revocable trust may be revoked or changed by the grantor. The only requirements to do so are that the grantor must be alive to make the change and must be deemed competent to do so. For example, a grantor who is currently experiencing late-stage dementia may not be able to make changes to a revocable trust because they may be deemed not competent to do so because of their cognitive and memory issues. We often solve this problem by authorizing an attorney-in-fact under a valid durable power of attorney, which gives estate planning powers to amend a revocable trust when the grantor is incompetent.

In comparison, an irrevocable trust appears to be less flexible. Generally, a grantor can’t make any changes to this type of trust. One trade-off is that an irrevocable trust provides more shelter for assets against taxes and creditors than a revocable trust. Most families use irrevocable trusts for specific purposes. Irrevocable trusts are like hex wrenches. Each one works great on the hex nut that it fits and not so well, if at all, on the ones that it doesn’t fit. Certain irrevocable trusts help reduce capital gains taxes; others provide asset protection; and still others are great for making gifts to minors. But an irrevocable trust for gifting to a minor won’t help with your capital gains taxes.

Is It True You Can Never Amend an Irrevocable Trust?

The IRS’s definition of an irrevocable trust is one that “cannot be modified, amended, or revoked.” However, that’s not accurate. An irrevocable trust cannot be modified, amended, or revoked by the grantor. Amending or changing most irrevocable trusts is really very easy – if the trust is built correctly. It just can’t be done by the grantor.

Under What Circumstances Might You Be Able to Change an Irrevocable Trust?

You can always petition the court to approve an amendment to an irrevocable trust. But this is the most expensive and often the least desirable method of amending a trust. The rules for amending through a court petition are usually set out in state statutes or outlined in case law. Generally, all parties related to the trust, including all beneficiaries, must agree to the changes before the court will approve the action. Courts also typically won’t approve changes that clearly fly in the face of the original intent of a trust. That means that beneficiaries of a trust can’t generally conspire to change the trust in such a way that it negates the grantor’s wishes.

Some situations under which the court may consent to the amendment of an irrevocable trust include:

• When circumstances have changed significantly enough that the current trust is creating an undue hardship
• When the trust, as it stands, has requirements that make it exorbitantly expensive and unreasonable to administer
• When federal or state laws have changed and the trust must be amended in order to comply with those laws
• When a mistake was made in trust law when the trust was created and an amendment is required to bring the trust in line with the law

In some states, the laws have authorized amendment by agreement. In states where amendment by agreement is not available by statute, the trust terms may, and often should, include a similar authority. The trust documents can include specific authority for changes if beneficiaries and other parties (such as the grantor or trustee) agree — without the need, cost, and delay of obtaining court approval.

Amendment via a Trust Protector

In some cases, the irrevocable trust includes the option for a Trust Protector. A Trust Protector is given certain authority, as defined by the trust document, and that can include the power to make specific types of changes to the trust.

The Trust Protector typically has limited ability to make changes to the trust. Common authority given to Trust Protectors includes the ability to remove or change trustees or successors, fix a trust so that it is more tax efficient, amend a trust to handle future changes in the law or family situations (like tax changes or a beneficiary who develops an addiction), modify how assets are distributed to beneficiaries in certain situations, and make any amendments to a trust required to satisfy requirements of law.

The Trust Protector may be named specifically in the trust paperwork. Or, the option to name a Trust Protector may be documented in the trust paperwork so that the position can be filled in the future.

Is Moving the Assets the Trust an Option?

Sometimes there are options for funneling assets from one trust into another. Some states permit something called trust “decanting.” In concept, this is similar to decanting a bottle of fine wine. The contents of the wine bottle are transferred to a decanter.

This aerates the wine to make it more enjoyable. Similarly, when an old trust document is not working well for the beneficiaries, the assets may be “decanted” into a new trust document with better terms and conditions by the trustee.

Several states have adopted decanting statutes that set up the rules for how decanting can work. In Massachusetts, we do not have a state law to guide trustees. Instead, we have Morse v. Kraft, 466 Mass. 92 (2013). As a result of the Kraft decision, decanting is possible for Massachusetts trusts. But the terms of trusts written after the Kraft decision must include authorization for the trustee to decant.

The Best Way to Amend an Irrevocable Trust

Ultimately, the best way to amend an irrevocable trust is with help from an experienced legal professional. A trust attorney can help you understand whether an irrevocable trust can be amended and work with you to make changes that are in line with the law and your goals for the future.

If you’re dealing with an irrevocable trust that isn’t properly serving the needs of yourself or other beneficiaries, we can help. The Law Offices of Boyd & Boyd, P.C., can also help you create trust structures meant to protect your assets now and in the future. Contact us at 508-406-9319 to find out more about our services or make an appointment.

If you reside in a state other than Massachusetts but own real estate or tangible personal property in the Commonwealth, your property here will probably be subject to the Massachusetts estate tax – unless you have sound planning advice and guidance from a Cape Cod estate planning lawyer.

A change of residency can often help you reduce the income tax liability you face as a Massachusetts resident. However, just because you are no longer a resident subject to the state income tax, non-residency does not necessarily mean you are no longer subject to the Massachusetts estate tax.

How does the estate tax in Massachusetts work if you are not a resident but you own real estate or tangible personal property in this state? Is there a way to avoid the estate tax? If you own property in Massachusetts but are not a resident, keep reading to learn the answers to these questions.

How Does the Massachusetts State Estate Tax Work?

The current Massachusetts estate tax exemption is $1 million. For an estate valued at less than $1 million upon the owner’s death, there is no estate tax. For an estate that is valued at or above $1 million, the tax must be paid before any assets may be transferred to the beneficiaries. As with any inheritance, debts and taxes must be paid before an heir may inherit.

However, the state’s estate tax applies to the full value of the estate, not merely to the part of the estate that exceeds the exemption amount. If an estate is worth $3 million, the entire estate – not just the $2 million above the exemption amount – is subject to the estate tax in Massachusetts.

If the value of your estate hovers around the $1 million figure, the wrong estate planning strategy could impose a crushing tax burden on your beneficiaries, but an astute Massachusetts estate planning lawyer can suggest several ways to keep the value of your estate below $1 million.

If your estate is subject to the estate tax in Massachusetts, how much will have to be paid to the state? It’s a complicated question, and the answer to that question is, “It depends.” However, as of 2022, the Massachusetts estate tax rate is a graduated rate that begins at 8% and works up to the highest rate of 16 percent.

How Does the Estate Tax in Massachusetts Apply to Non-Residents?

By statute (MGL ch 65C sec. 4), Massachusetts has the right to tax a resident of another state if they own real estate or tangible personal property located within the Commonwealth of Massachusetts.

Section 4. (a) A tax is hereby imposed on the transfer of a nonresident decedent’s real and tangible personal property having an actual situs in Massachusetts, if such property would have been included in the Massachusetts gross estate had the decedent been a resident.
(b) The tax imposed under subsection (a) shall be an amount which bears the same ratio to the tax that would be due if the decedent had been a resident as (i) the value of all real and tangible personal property, diminished by any mortgage or lien thereon, having an actual situs in Massachusetts, the transfer of which is subject to tax under said subsection (a) bears to (ii) the value of the decedent’s Massachusetts gross estate, diminished by any mortgage or lien or property included therein, determined as if he had been a resident.

Here’s how the Massachusetts estate tax applies to non-residents. Let’s say that you’re a resident of Florida, single, and you own a home in Dennis. Then, let’s say that your estate is valued at $3 million, and your Osterville home represents one-third of your estate because it’s worth $1 million.

If you were a resident of Massachusetts and if your entire estate were located here, your estate tax would amount to $182,000, but as a resident of Florida, your home in Massachusetts constitutes only one-third of your total estate.

You would thus pay one-third of the estate tax that a resident of Massachusetts would pay, or $60,667. If you would prefer not to pay over $60,000 to a state where you’re not a resident, a Cape Cod estate planning attorney can help you plan to avoid the estate tax in Massachusetts.

A Revocable Trust Will Not Protect Your Estate from the Massachusetts Estate Tax

Many of the people who own real estate or tangible personal property in Massachusetts have set up revocable living trusts. Transferring your Massachusetts assets into a revocable trust will avoid probate in Massachusetts, but it may not give those properties protection from the Massachusetts estate tax. Incidentally, the same is true for irrevocable Medicaid Planning Trusts (MPTs).

It’s true that a revocable living trust provides a number of advantages and lets your estate avoid the probate process, but any Massachusetts property that is owned by your revocable trust (and most MPTs) is still considered part of your taxable estate and remains subject to the estate tax in Massachusetts.

How Can Non-Residents Avoid the Massachusetts Estate Tax?

It is often best to keep things simple. For married couples, there is a very easy option. No sophisticated estate planning is needed. A properly drafted joint revocable trust may be used to eliminate the Massachusetts estate tax.

If you are using revocable trusts to avoid probate, your trust may be amended. Most married couples use separate trusts – one trust for one spouse and a second trust for the other. By amending and merging those separate trusts into one joint trust, it is possible to eliminate any Massachusetts estate tax liability. A Cape Cod estate planning lawyer can help you and your spouse establish a joint trust or help you merge your individual trusts into a joint trust.

With a joint trust, at the death of the first spouse, the Massachusetts real estate may be allocated to an irrevocable portion of the trust (sometimes referred to as a credit shelter trust), as long as the net value of the real estate is less than $1 million. Because the irrevocable trust is built in a way that the surviving spouse can use the real estate but not “own” it under the tax code, the Massachusetts real estate will not be a part of the survivor’s estate at death. This effectively allows a widowed spouse to avoid the Massachusetts estate tax on Massachusetts real estate when the second spouse dies.

What if you are not married? Or what if my Massachusetts real estate is worth more than $1 million?

However, an out-of-state resident who owns property in this state may have several other practical alternatives for avoiding or reducing the Massachusetts estate tax. A Cape Cod estate planning attorney can help you determine which technique makes the most sense for you and your family.

Out-of-state residents who own investment real estate in this state may consider setting up a limited liability company, which is one strategy for avoiding the Massachusetts estate tax. When you transfer your real estate in Massachusetts into your LLC, the LLC becomes its legal owner. By statute, Massachusetts levies a tax on real or tangible personal property “owned” by a decedent and located in the Commonwealth.

Massachusetts does not subject the intangible personal property of a non-resident, including limited liability company membership shares, to its estate tax, so any of your properties that legally belong to your limited liability company would no longer be considered a part of your taxable estate.

But be warned: just creating an LLC and transferring your real estate to an LLC is not enough. Your LLC must have a legitimate business purpose, that includes generating some form of revenue. So your LLC will need to charge fair market rent on the real estate it owns to be legitimate. The trick is how to structure the rent so that it does not create taxable income in Massachusetts. There are many other considerations that your Massachusetts estate planning attorney can help with.

What Are Your Other Alternatives?

If you are an out-of-state resident who owns a home or other real estate in Massachusetts, another strategy for avoiding the Massachusetts estate tax is the creation of one of several types of irrevocable trusts.

Some examples of irrevocable trusts include:

(1) the sale of the Massachusetts real estate to a deceased spouse’s credit shelter trust (this preserves ones federal estate tax exemption but that this may have a capital gains tax consequence),

(2) the sale of the real estate to a Massachusetts Estate Tax Avoidance Trusts (this technique preserves your federal estate tax exemption and has no capital gains tax exposure), and

(3) transfers to a Qualified Personal Residence Trust (QPRT). A QPRT is a special type of irrevocable trust into which you give your primary or secondary home and reserve the right to use the home for a term or period of years. QPRTs use a portion of your federal estate tax exemption and do not expose you to capital gains taxes (but your heirs will receive your cost basis). QPRTs also have a risk of failure. If you die before the term ends, the real estate will be pulled back into your estate, thereby subjecting your estate to the estate tax you were trying to avoid.

These are just a few examples of the types of irrevocable trusts that may be used to eliminate the Massachusetts estate tax. Which technique will work best for you depends on your particular needs and circumstances.

What Is a Spousal Access Trust?

If you are married, a trust like a Spousal Access Trust allows you to give your Massachusetts real estate and tangible personal property to a trust for your spouse. And you can be sure that your spouse will greatly appreciate the gift!

A spousal access trust is an irrevocable trust prepared by one spouse for the other’s benefit. A spousal access trust is funded by gifts from the donor spouse while both spouses are still alive. It may be written in such a way that if your spouse dies before you, the assets owned by the trust may be transferred to an irrevocable trust for your benefit.

What Option Is Right For You?

Several other types of trusts – and several other estate planning approaches – may allow an out-of-state resident who owns tangible property or real estate in Massachusetts to reduce or avoid this state’s estate tax.

The option that’s best for you can only be determined by consulting a Massachusetts estate planning lawyer. Your estate planning lawyer will evaluate your assets and properties and recommend the best way for you to reduce or avoid having to pay the Massachusetts estate tax.

In November of 2022, the state’s constitution was amended to add a new tax. Article 44 of the Massachusetts Constitution was amended by adding the following paragraph at the end thereof:

To provide the resources for quality public education and affordable public colleges and universities, and for the repair and maintenance of roads, bridges and public transportation, all revenues received in accordance with this paragraph shall be expended, subject to appropriation, only for these purposes. In addition to the taxes on income otherwise authorized under this Article, there shall be an additional tax of 4 percent on that portion of annual taxable income in excess of $1,000,000 (one million dollars) reported on any return related to those taxes. To ensure that this additional tax continues to apply only to the commonwealth’s highest income taxpayers, this $1,000,000 (one million dollars) income level shall be adjusted annually to reflect any increases in the cost of living by the same method used for federal income tax brackets. This paragraph shall apply to all tax years beginning on or after January 1, 2023. (emphasis added)

This constitutional change means that every taxpayer, whether a person, corporation, or trust, will now have to pay an additional 4% on annual income that exceeds $1 million. As a result, Massachusetts ranks among the states with the highest income tax rates.

Millionaire’s Tax Avoidance Planning: Fortunately, for most taxpayers, the Massachusetts millionaire tax is completely avoidable with proper planning. There are several techniques available for individual taxpayers (or for married couples filing a joint return).

• Change of Residency – moving to a state with lower income taxes. For many MA taxpayers, Florida is the preferred choice because there is no income tax, no estate tax and generally a lower cost of living. In order to avoid Massachusetts Income Tax (and the Millionaire’s Tax) you must be out of the Commonwealth for at least 183 days of the tax year. Remember that partial days in Massachusetts count as a full day. In order to change residency, at a minimum you must (1) get a driver’s license in your new state of residence, (2) register your car there and (3) register to vote in the new state.
• Use of Married Filing Separately – some married couples may avoid the tax by changing their filing status. By choosing “Married Filing Separately” married taxpayers may often bring the income below the $1 million threshold.
• NING Trusts – NING stands for Nevada Incomplete Non-Grantor Trust. This is a special type of irrevocable trust into which you may gift an income producing asset using Nevada law. The way the trust is set up the income from the trust owned assets escape MA income tax. The trust is taxed under Nevada law and Nevada has no state income tax on trust income. This is often a trust that is beneficial to someone who will be in the highest US tax bracket (37% in 2023 but will revert to 39.6% in 2026).
• Like Kind (1031) exchange – Used for investment real estate a like-kind exchange is essentially a swap of one real estate investment for another. Because of a specific provision in the Internal Revenue Code taxpayers who comply with the requirements of Section 1031 do not have to recognize any capital gain on the transaction.
• Qualified Personal Residence Trusts (QPRTs) – This type of irrevocable trust offers a way to transfer the home of a client at a discounted price. The client reserves the right to live in the property for a term of years. At the end of the term the ownership of the home transfers to an irrevocable asset protection trust usually for the benefit of one or more of the children.
• Domestic Asset Protection Trusts (DAPTs) – DAPTs are recognized in about 17 states in the US. By transferring assets that will create a large income event (like a business that is going to be sold, or a stock portfolio with large unrealized gains) to a DAPT the income caused by the sale of the asset can be moved to a state with a lower income tax, or no income tax at all.
• Entity Wrapping – By placing real estate or a business into an LLC that is organized in a state with lower or no income tax, then placing the first LLC into a second LLC organized in the same state as the first LLC, and then selling the first LLC (not the real estate or the business owned by the first LLC), the asset sold is the LLC organized in a state other than MA and therefore is not subject to the MA income tax. For example, if Mr. & Mrs. Jones owned a $2 million home in Osterville with a cost basis of $500,000, if they sold the real estate they would be subject to the millionaire’s tax. But if they first placed the home into a South Dakota LLC #1, then placed LLC#1 into South Dakota LLC #2 and then sold LLC#1 which owns the real estate, the income for the sale of LLC#1 belongs to LLC #2 and will be taxed in South Dakota, not Massachusetts. LLC#2 may distribute the proceeds in such a way that the income of Mr. & Mrs. Jones spread out over multiple years keeping the Jones’ income below $1 million. Because there are several options for taxation of LLCs, a client considering entity wrapping should consult with an advisor to be sure that the correct tax status for the LLCs is chosen.
• Charitable Remainder Trusts (CRTs): A CRT is a special type of Trust through which capital gains may be spread out over a period of years, thereby lowering the amount of income recognized in any given year. This may be used to eliminate the Massachusetts Millionaire’s Tax AND it can lower the US Capital Gains taxes on assets placed into the trust before a recognition event. Often dubbed a “Capital Gains Avoidance Trust” CRTs do not actually avoid capital gains, but instead they spread the capital gains and the tax thereon over a period of years – sometimes over the lifetime of the beneficiaries of the CRT – that is usually the person or persons setting up the trust. CRTs are often chosen because they can turn an income tax into a tax deduction. That is because CRTs include a charity to inherit whatever is left (if anything) after the death of the beneficiaries.
• Installment Notes: When selling real estate or a business most people will receive the full amount of the purchase at the closing. However, if you wanted to spread the recognition of capital gain out over a period of years you might chose to accept payment through an Installment Note. With a properly drafted Installment Note you pay tax on the income from the sale as you receive installment payments from the buyer. This approach has been used for many years to reduce the federal capital gains tax on the sale of real estate or the sale of a business. This approach has been used for many years to reduce the federal capital gains tax on the sale of real estate or the sale of a business. Additionally, after sale service software in US plays a vital role in maintaining customer satisfaction by streamlining post-purchase support, warranty management, and service requests. By delaying receipt of the proceeds from the sale the seller is also delaying the income tax liability. As long as the annual payments to the seller under the installment note keep the income (including the gain attributed to the payments from the sale) below $1 million no millionaire’s tax will be due. Many people set up the payments so that their income stays below the 20% US capital gains tax rate.

The Massachusetts millionaires tax may be avoided by C-Corporations and irrevocable trusts through many of the same techniques as individual taxpayers. In addition, C-Corps and trusts might employ income splitting techniques. For example, corporations might consider a spin-off of a division to reduce the income of the business to less than $1 million.

Irrevocable Trusts are normally treated as separate taxpayers, requiring a tax identification number (TIN), and special tax returns (US Form 1041 and MA Form 2). But when the terms of a trust require division into sub-trusts, each sub-trust can obtain a new TIN and file a separate income tax return. By creating sub-trusts for (1) individual beneficiaries or (2) marital deduction planning (in Massachusetts, we often use A-B-C planning) or (3) even to divide into shares for purposes of reducing the US Generation Skipping Transfer (GST) Tax, each sub-trust can file a separate income tax return, splitting the trust’s income into smaller pieces. By dividing trust income into small pieces, the Massachusetts Millionaire’s Tax can be avoided at the trust level.

Because capital gain income will unexpectedly push families into the Massachusetts Millionaires Tax, it is critical that trusts be written to take advantage of a “step-up in cost basis” whenever possible – not just when the donors pass away. There are techniques through which a step-up may be obtained when a beneficiary dies. This technique, called the Optimal Basis Increase Trust (OBIT) provisions, may be added to trusts that are multi-generational or dynasty trusts. Visit our OBIT provisions page to learn more.

If you think you may be subject to the Millionaire’s Tax in Massachusetts, it is critical that you meet with a qualified tax advisor, like Boyd & Boyd, P.C., as soon as possible. Which, if any, of the above-mentioned techniques may be right for you can only be determined after your advisor understands your particular needs. The above list is not exhaustive either. There may be other approaches that better fit your needs. The bottom line is that avoiding the Millionaire’s tax requires professional assistance. Seek out help as soon as you realize your income might exceed $1 million.

Look for more information about the Massachusetts Millionaire’s tax coming soon to our website, boydandboydpc.com, our YouTube Channel and our Facebook, Instagram, and LinkedIn pages.

 

Is there anything you can do to prevent your adult child’s spouse from taking half of your child’s inheritance through a divorce after your death? The answer to that question is yes. Scheduling a consultation with a Cape Cod estate planning attorney is the first step you should take.

Many people who have prepared a will or established a trust in Massachusetts simply leave their assets directly to their children, but that may not be the wisest strategy. If a beneficiary receives 100 percent of his or her inheritance directly and at once, the inheritance has no protection.

Massachusetts estate planning attorneys have seen all of the ways that an inheritance may be lost. The right attorney will offer you experience, guidance, and helpful insights. Keep reading to learn about the most effective ways to protect the assets that your children will inherit.

What Can Happen When Your Child Receives His or Her Inheritance?

Creditors have the right to take legal action to collect what they are owed. If your child has filed a pending bankruptcy petition when he or she receives the inheritance, creditors must be notified of the inheritance, and they can take what they are owed.

If your adult child is married when he or she receives the inheritance, and if the inheritance funds become commingled with the spouse’s assets, it is conceivable that your child’s spouse, with a sharp divorce lawyer, could take half of that inheritance in a divorce proceeding.

If your child receives government benefits and abruptly inherits your assets, the inheritance may disqualify your child for further benefits. And if your child is dealing with personal issues such as abuse or addiction, passing your wealth directly to that child simply may not be a wise idea.

What Can You Do – Now – to Protect Your Child’s Inheritance?

How can you protect your child’s inheritance from creditors, divorce, and a number of other risks? You will be able to protect those assets by setting up a Personal Asset Trust℠ with the advice and guidance of a Cape Cod estate planning lawyer.

A Personal Asset Trust℠ gives you control – even after your death – over the assets that your beneficiaries will inherit. You can stipulate in the trust particular conditions that will protect your assets so that your children do not lose the wealth that you intend for them to inherit.

A Personal Asset Trust℠ may be created as a part of your revocable living trust. It is literally a “trust within a trust.” It protects your assets and lets you control the transfer of assets so that your estate will pass to your grandchildren – and not to in-laws or people who are strangers to you.

How Does a Personal Asset Trust℠ Work?

Rather than transferring your assets directly to your beneficiaries, when you have set up a Personal Asset Trust℠, you move the assets that your beneficiaries will be inheriting into the Personal Asset Trust℠.

The trust, not the beneficiary, owns the assets, so no benefits are lost, and the assets are protected from divorce, judgments, and debt collection. Generally, the child/heir will be named the Trustee, so he/she will have complete control over the inheritance. If you do not believe your child makes responsible choices, you can name someone else as the trustee to oversee the trust and the distributions.

You’ll be able to set conditions for how your assets are distributed. For example, you can require your child to reach a certain age or to graduate from college before allowing access to the funds.

A Personal Asset Trust℠ may also include provisions that allow the trust to be flexible, in case the laws that govern trusts change or in case your child chooses to reside in a state other than Massachusetts.

Is a Personal Asset Trust℠ Right for Your Family?

The Personal Asset Trust℠ has emerged as a popular asset protection tool, often used for inheritances of more than $100,000. It lets you protect your assets for your loved ones if they are on the wrong side of a divorce or a lawsuit or if they simply do not currently have the skills to manage the assets properly.

Everyone’s personal and financial situation, of course, is unique. However, if you have not added a Personal Asset Trust℠ to your existing revocable living trust, there are a number of good reasons to consider taking that step as soon as possible.

Creating a Personal Asset Trust℠ starts by consulting a Cape Cod estate planning attorney who will discuss your family situation and your estate planning goals with you and set up the customized Personal Asset Trust℠ that achieves the goals that are important to you.

Because a Personal Asset Trust℠ is a part of your revocable living trust, you will be able to make changes if necessary. You should review your living trust regularly with your Cape Cod estate planning lawyer to ensure that it is up-to-date and still reflects your goals and wishes.

Do You Have a Comprehensive Estate Plan?

An estate planning attorney can familiarize you with a number of other asset protection tools that include how to protect a retirement account for your heirs, establishing an irrevocable trust or setting up a limited liability company or a family limited partnership to shield your assets.

Proper estate planning takes thoughtful consideration. It can’t be done in haste, but if you need to set up a Personal Asset Trust℠ – or if you do not already have a revocable living trust in place – it is time to speak with a Massachusetts estate planning attorney.

If you have not already established a comprehensive estate plan, planning for what will happen after you pass away is essential for your family, if you are a business owner, or if others count on you for support.

Even if you do not consider yourself affluent but have a net worth of more than $200,000, you may need to establish a revocable living trust, and if you have children, you should consider a Personal Asset Trust℠. Other documents – a health care proxy, a durable power of attorney, and a contract to will, for example – may also be a part of your plan.

How Can You Learn More?

You can’t know what the future will bring, but you can plan for it. You can give your assets – and your loved ones – the protection they need. Remember the key to asset protection is to be sure to establish your asset protection plan before there is a problem and asset protection is needed.

To set up a Personal Asset Trust℠, a revocable living trust, a comprehensive estate plan, or if you would simply like to learn more about estate planning and the estate planning process, reach out promptly to a Massachusetts estate planning lawyer.

Here in Massachusetts, smart estate planning requires the guidance of a Massachusetts estate  & trust administration attorney to help you create the documents you’ll need. Keep reading to learn the basics about Trusts, how they work, and why you likely should create a Trust as part of your estate plan. One common question is, “can an irrevocable trust be changed?”

If you have loved ones who rely on you, now is not too early to start planning your estate. Put simply, estate planning is about making wise choices and putting those choices in binding legal documents to ensure that your instructions are adhered to faithfully at the time of your death.

Wills and Trusts are key estate planning documents that perform many of the same functions, but if you have assets or real estate holdings (that are worth roughly $100,000 to $200,000), a well-drafted and adequately funded Trust ensures that your assets and properties will be handled and distributed according to your wishes.

Eventually, all Trusts become irrevocable. A Trust is irrevocable when the Donor (the person who creates the Trust) is no longer able to amend it. Some Trusts are set up as irrevocable from the start. Others start out as revocable (meaning the Donor may alter, amend, or even cancel the Trust), but become irrevocable at the death of the Donor.

 

Whichever path you choose for your Trust, it is imperative that your Trust be flexible – able to adapt to changes in the law, changes in family circumstances, or changes in the way the Trust should be managed.

What is Modification by Consent?

It is possible for an Irrevocable Trust to be amended – just not by the Donor. Over the past decade or so, multiple methods for amending Irrevocable Trusts have become popular. In Massachusetts, there is statutory authority for amending Irrevocable Trusts (Massachusetts General Law Chapter 203E § 411).

If the Donor and all the beneficiaries agree, they may petition the Probate Court for permission to amend an Irrevocable Trust. If the amendment will not frustrate the original purpose of the Trust, the Court will typically allow the amendment.

What is Amendment by Agreement?

Some Trust documents will permit amendment by other means. Irrevocable Trusts may be amended without Court approval, but only if the terms of the Trust agreement are governed by the laws of a state that allows such action or if the Trust agreement permits amendment by agreement within its own terms.

What is Amendment by a Trust Protector?

Alternatively, some Irrevocable Trusts use the role of a Trust Protector. A Trust Protector is usually an independent party, not related to the Donor or the trust beneficiaries, who is given special powers that a Trustee is not given.

Often, a Trust Protector will be permitted limited authority to amend an Irrevocable Trust. This authority might include the ability to change the Trust due to changes in tax law, or to remove a Trustee, or to take other actions that are intended to protect the Trust assets from negative outside influences.

What is “Decanting” an Irrevocable Trust?

Finally, an Irrevocable Trust may be amended by “decanting”. In Massachusetts, Trust decanting is permitted if the Trust instrument authorizes the Trustee to remove the assets from one Irrevocable Trust and place them in a new Irrevocable Trust with the same trust beneficiaries.

Some states have statutes that authorize Trust decanting, but Massachusetts does not. Instead, estate planning attorneys in Massachusetts rely on case law (the case, Kraft v. Morse, 466 Mass 92 (2013), involved the Kraft family – the owners of the New England Patriots).

Under the Kraft decision, Trustees who have authority under an Irrevocable Trust to make discretionary distributions may distribute the Trust assets to a new, Irrevocable Trust with the same beneficiaries and with terms and conditions that better fit the needs of the beneficiaries. While not exactly amending a Trust, decanting an Irrevocable Trust has the same effect.

How Does a Revocable Trust Work?

A good estate planning lawyer can help you decide if your estate plan should be based on a will, a Revocable Trust (also known as a Living Trust), or an Irrevocable Trust. With a Revocable or Living Trust, you can move assets into the Trust’s ownership while you retain control of those assets.

In order to understand how a Revocable Trust can help you and your family, you should understand what a Revocable Trust is. Essentially, a Revocable Trust is a contractual agreement among three parties: (1) a Donor – the person who creates the Trust and gives some property/asset to the Trust; (2) a Trustee – the person who will manage and control the assets of the Trust; and (3) a beneficiary – the person (or persons) who will get the use and enjoyment of the assets in the Trust.

Initially, most people set up their Trust and take on all three roles. But in order to have a valid Trust there must be at least one other person involved in the Trust. An easy way to add another person is to add a future interest beneficiary – someone to be the beneficiary after you pass away.

This is typically a spouse, if you are married, followed by the children (or whomever you wish to receive your wealth at the time of your death). This achieves your testamentary disposition needs.

What is the Role of a Successor Trustee?

Additionally, a Trust will provide for a Successor Trustee, someone to be the Trustee if you are no longer able to act in that capacity. If you are ill or unable to act as your own Trustee, your Successor Trustee may step in to manage the Trust assets on your behalf.

Eventually the Successor Trustee will manage the assets of the Trust after you pass away, making sure the inheritance is quickly and efficiently available for your heirs, the future interest beneficiaries.

You may modify or cancel a Revocable Trust as you wish, and the assets that are owned by your Revocable Trust at the time of your death will transfer to or for the beneficiaries without being subjected to the often costly and lengthy probate process.

For example, an IRA Inheritance Trust ™ is a Revocable Trust that becomes the beneficiary of your IRA (individual retirement account) after your death. It provides your beneficiaries with protection from creditors, divorce, bankruptcy and estate taxes, all while allowing for distributions over a beneficiary’s lifetime.

How Does an Irrevocable Trust Work?

Irrevocable Trusts are often created for very specific, sometimes limited purposes, such as asset protection, estate tax reduction, income tax reduction, gifting, or eligibility for certain government benefits. Often, when you create an Irrevocable Trust, you give up the ownership and control of whatever assets are placed in the Trust.

A properly designed Irrevocable Trust will consider a number of variables, such as:

1. Whether the assets of the Trust should be included in the estate of the Donor for important income tax benefits, or whether the assets should be \excluded from the estate of the Donor for estate tax savings;

2. Whether the transfer to the Trust should be a completed gift (often requiring the filing of a gift tax return – Form 709) or should be an incomplete gift – meaning the Donor may change who will ultimately receive the gift;

3. When the income of the Trust is received by a beneficiary, whether the income tax liability will stay with the beneficiary or be shifted to the Donor. When the tax is paid by the Donor, it is done so without a gift tax consequence, which can significantly increase the perceived value of the assets given to the Trust;

4. After the death of the Donor, whether the income taxes should be paid by the Trust or by the beneficiary (often Trust tax rates are quite high, so having the beneficiary bare the tax planning burden – even if the income is retained by the Trust – is a money-saving choice);

5. Where the Irrevocable Trust should be established – in Massachusetts or in a state with more favorable Trust laws;

6. The choice of Trustee – the beneficiary or a professional Trustee; and

7. What distributions should the Trust authorize? Generally the best asset protection can be achieved if the Trust is purely discretionary – so that the Trustee may decide what, if any, distributions will be made and when they will be made.

Each decision will impact how the Trust will work and the degree of benefit it can convey. But if you create an Irrevocable Trust, you must remember that it is not reversible. Generally, the assets you gift to an Irrevocable Trust cannot be given back to you.

However, in some Irrevocable Trusts, the Donor may be given the power to “swap” assets with the Trust. But possessing such a power does have income tax consequences, and it is not advisable to include a swapping power in an Irrevocable Medicaid Planning Trust.

What Are Some Specific Examples of Irrevocable Trusts?

Irrevocable Trusts can hold and then distribute assets to a beneficiary weeks, months, or even years after your death. Examples of Irrevocable Trusts include:

#1: A Capital Gains Avoidance Trust

A Capital Gains Avoidance Trust is an Irrevocable Trust to which you give highly appreciated assets. The Trust then sells the highly appreciated asset. Normally, the sale would trigger a capital gains recognition, resulting in income taxes.

But because of the way this Trust is designed, after the sale, the entire proceeds from the sale of the highly appreciated asset may be reinvested without payment of capital gains taxes. Instead, an income stream is paid to the beneficiary (who is usually the Donor), and as the income is received, capital gains taxes are paid on a portion of the income payment.

When the beneficiaries die, whatever remains in the Trust, if anything, is paid to a charity of the Donor’s choice. This Trust lets you avoid the capital gains tax when you sell appreciated real estate, stocks, or other capital assets. This type of Trust can be structured so that the capital gain is spread out over many years, thereby reducing the total tax paid. This Trust is also sometimes called a Charitable Remainder Trust.

#2: An Irrevocable Life Insurance Trust

An Irrevocable Life Insurance Trust is a Trust designed to own a life insurance policy. It controls and owns your life insurance policy while you are alive, and it manages and distributes the proceeds from the policy after your death.

Many people know that life insurance death benefits are generally not subject to income tax, but when life insurance is owned by the insured, it is a part of the owner’s taxable estate and therefore subject to estate taxes.

By having your life insurance owned by an Irrevocable Life Insurance Trust, not only will the death benefit pass free of income tax, it will also pass free of estate tax.

#3: A Domestic Asset Protection Trust (DAPT)

A Domestic Asset Protection Trust is a self-settled Irrevocable Trust that is intended to protect your assets from potential future creditors. Currently nineteen states recognize some form of a self-settled Asset Protection Trust, but Massachusetts is not one of those states.

Even though Massachusetts does not yet recognize these Trusts, the use of DAPTs can have an important role in your estate plan. These Trusts can be used to reduce the Massachusetts estate tax in addition to providing asset protection.

#4: A Spousal Limited Access Trust (SLAT)

A Spousal Limited Access Trust is another tool that may provide asset protection and estate tax reduction benefits in Massachusetts. This type of Irrevocable Trust is similar to a By-Pass or Credit Shelter Trust that is established as a lifetime gift instead of a gift to the spouse at the time of the Donor’s death. Trust assets are available for the needs of a spouse but are not owned by the spouse.

Because Massachusetts does not have a state level gift tax, and because the federal lifetime exemption is so high, using SLAT can have significant Massachusetts estate tax reduction benefits by exempting Trust assets from the estates of both the Donor and the Donor’s spouse.

#5: A Medicaid Planning Trust (MPT)

A Medicaid Planning Trust, sometimes called an Irrevocable Income Only Trust (IIOT) is a special Trust with a very limited purpose. A Donor will establish this kind of Trust if s/he intends to preserve the estate from the cost of nursing home care.

COVID-19 has certainly done some damage to this type of Irrevocable Trust – a recent article in the Boston Globe revealed that nearly 62 percent of all COVID-19 related deaths in Massachusetts occurred in nursing homes and rest homes.

Since this type of Irrevocable Trust is set up to make the Donor eligible for state-paid nursing home care, it is now less attractive to use this kind of Trust, given the deadly mix of virus-susceptible nursing home residents and COVID-19.

Unfortunately, what most people who use this Trust don’t realize is that the principal placed into this type of Trust is NEVER available for the use of the Donor or the Donor’s spouse. The Trust assets may only be used to produce income for the Donor or the Donor’s spouse. Five years after the assets are given to the Trust, the assets are protected from the Medicaid look-back rules (the “five-year look-back”).

What is the Main Problem With an MPT?

However, the problem with this type of Trust is its lack of flexibility. An MPT can not include any provisions for amending the Trust. Furthermore, it should not include any ability for the Donor to “swap” assets with the Trust.

While assets in these Trusts are protected from nursing home expenses after the five year look-back period has passed, the assets can not be used for most assisted living arrangements (which most people need before they need nursing home care).

Additionally, most people desire in-home care, but the assets in an MPT are not available to be used that way, in most cases. However, these Trusts may make sense if you have a diagnosis that will definitely require you to reside in a nursing home.

Understanding the Limitations of an MPT is Imperative

But before setting up this kind of Trust, you must understand the limitations on you and your spouse. If you die first, your spouse will need to live with the restrictions of this Trust – and the assets will still be unavailable to your spouse.

Consider this: the average cost of nursing home care in Massachusetts is approximately $130,000 to $150,000 per year (as of 2020). The average stay is approximately two years. So, the total cost is approximately $300,000.

Certainly, that is a lot of money. But what is the total value of your estate? Add up the value of everything you own – real estate, retirement accounts, investments, bank accounts, life insurance, etc. Does it make sense to you to give away the total value of your estate, making it forever unavailable for the needs of you and your spouse, to save a rough average of $300,000?

If you answer “yes,” then this type of Trust may be appropriate. The bottom line is this: if an attorney is suggesting an MPT for you, be sure to ask a lot of questions. Make sure you understand the lifetime ramifications of this kind of Trust.

If you are told there is a back door, or that there can be a tacit understanding with the kids that the assets of the Trust may somehow be returned to you, then Massachusetts (MassHealth) will take the position that the assets ARE available to pay for your nursing home care. Yogi Berra said it best: “If you don’t know where you are going, you’ll end up someplace else.”

What Steps Are Required to Create an Irrevocable Trust?

To establish an Irrevocable Trust in Massachusetts:

1. Identify the properties and assets that you want to move into the Trust.
2. Determine your beneficiaries.
3. Determine who is qualified to act as the Trustee.
4. Have a qualified Massachusetts estate planning lawyer prepare the Irrevocable Trust.
5. Transfer the appropriate assets to the newly formed Irrevocable Trust.
6. Let the Trustee manage the Trust – don’t try to manage it for the Trustee.

Is It Really Irrevocable?

To create an Irrevocable Trust and to take advantage of the benefits it offers, the terms of an Irrevocable Trust must prevent you from revising or amending it. Can an Irrevocable Trust ever be changed or amended? The answer is no, not by the person who creates it.

In rare cases, however, beneficiaries or the Trustee may be able to make a change to an Irrevocable Trust when such a change is in the best interests of a beneficiary and is not in conflict with the intentions of the person who created the Trust (the “Grantor” or “Donor”).

For example, if you designate assets for a child’s or grandchild’s education, but after your death the child or grandchild develops a serious medical condition that requires costly treatment, your Trustee may seek a modification that will allow the Trust’s funds to pay for necessary treatment.

Upon a Grantor’s death, a Trustee becomes responsible for the administration of the Trust. By working with the right Cape Cod estate planning attorney, a Trustee in Massachusetts can obtain the sound legal advice needed for proper administration of the Trust at every stage of the process.

What’s Right for You?

Every estate plan is unique, so an Irrevocable Trust may or may not be right for you. But without the right estate plan, the Internal Revenue Service (IRS) or the Massachusetts Department of Revenue may be able to take a significant portion of your family’s assets after your death.

A good estate plan is a smart idea for everyone, regardless of age, health, or financial status. Although no one knows what tomorrow may bring, the proper estate plan will provide for your loved ones and put them in the best possible position to deal with whatever the future holds.

The right Massachusetts estate planning attorney will answer your estate planning questions, address your concerns, and provide the legal services and personal assurances you need to help you create the best possible estate plan for you and your family.