Considering the Dangers of Irrevocable Trusts
By: Barry E. Haimo, Esq.
August 30, 2021
People put money into trusts for a number of reasons. They want to avoid probate. They’re nervous about creditors getting their money. They believe their private affairs should stay that way. Some trusts are the right fit, while others might not be. Let’s examine someone who didn’t consider the benefits and dangers of irrevocable trusts before making a huge financial decision.
Jerry was an incredibly talented and financially successful plastic surgeon. But he was particularly nervous about professional liability and getting sued. Jerry aimed to make his patients happy and always followed all of the proper protocols. However, it only takes one mistake, and medical malpractice can be crippling.
An Irrevocable Trust Seemed Like the Answer
After talking to some colleagues and meeting with a financial advisor, he decided to put the vast majority of his money into an irrevocable trust. He was told it would be safe if he was sued or if he ever had creditors coming for him.
Jerry had plenty of money to pay his bills and never carried a balance over. But the fear of someone suing him was enough to make an irrevocable trust appealing. Without delay, Jerry set it up. Over time he more or less forgot about it.
Jerry’s business slowly started to die off a little over a decade later. He had been worried about a disgruntled patient suing him, but it turned out that the real danger was his resistance to newer plastic surgery technologies. By the time he decided to outfit his office with new equipment, the money just wasn’t there.
The Dangers of Irrevocable Trusts
Jerry went to his financial advisor to access the irrevocable trust. But it was going to take a lot of maneuvering – and that would take time. His trustee and all of his beneficiaries would need to sign off. The proper forms had to be filed. Would that be a problem?
In short, yes. And additionally, the trust was not set up correctly. Jerry’s trustee was his ex-brother-in-law, who wasn’t his ex when the paperwork had been signed. Ten years later his interest in helping Jerry out was not very high. A trust protector, someone who has special but limited powers to replace and appoint a successor trustee, would have helped Jerry considerably.
Jerry was eventually able to save his business, but not before he brought in a partner and secured a rather large loan. He had learned the hard way about the dangers of irrevocable trusts.
Irrevocable Trusts Aren’t for Everyone
There are a number of good things about irrevocable trusts, but they are definitely not for everyone. Considering the benefits and dangers of irrevocable trusts is crucial before you open one. Jerry went through a number of big life changes that made his decision to opt for an irrevocable trust a harmful one. But his reasoning for setting one up in the first place made sense, because he had a large amount of liquid assets that he wanted to protect from liability.
With that in mind, here are some examples of people who should (and should not) set up an irrevocable trust.
Irrevocable Trusts Can Be Beneficial For:
Billionaire founder of a software company. If you have a large fortune to manage, irrevocable trusts can help you to save on taxes, avoid probate, maintain your privacy, and keep creditors and litigious individuals at bay.
Caretaker for a disabled dependent. Anyone who takes care of a disabled individual and wants to ensure they continue to get the help they need after you’re gone should look into an irrevocable trust.
Those with “shopper” spouses. Are you afraid your spouse will quickly burn through any money you leave them and end up in debt? Setting up an irrevocable trust with them as a beneficiary can help ensure they continue to have money to live on while keeping it protected from creditors.
Irrevocable Trusts May Be a Poor Fit For:
Middle class people looking to save money. You’ll save on probate costs, but that’s not enough of a reason to choose an irrevocable trust . Especially when you consider the fact that you’ll be paying someone to maintain the trust. This was more worthwhile when the federal estate tax exemption wasn’t so high. With it now being permanently set at 5 million, most people won’t save on taxes.
Businessman who needs to keep assets fluid. Once you put assets into an irrevocable trust, they are no longer owned by you, but by the trust itself. That means you can’t just dip into them whenever your business has a downturn or a medical emergency occurs. There are plenty of other, better ways to protect your money and still keep it accessible.
Individual with high credit debt. If you attempt to set up an irrevocable trust because you know that creditors are about to start coming after you, there’s a high likelihood you’re going to be accused of using a fraudulent conveyance.
So Is It the Right Trust for You?
The real takeaway here is that irrevocable trusts should only be used when people are truly sure they are not going to want to change them during their lifetime. One of the dangers of irrevocable trusts is that it the process to change one can be long, complicated, and frustrating.
If you believe there’s even a chance you might want to make an alteration, a good estate planning attorney should be able to provide you with a number of other viable options.
Originally published 12/18/2014. Updated 08/30/2021.
YOU ARE NOT OUR CLIENT UNLESS WE EXECUTE A WRITTEN AGREEMENT TO THAT EFFECT. MOREOVER, THE INFORMATION CONTAINED HEREIN IS INTENDED FOR INFORMATIONAL PURPOSES ONLY. EACH SITUATION IS HIGHLY FACT SPECIFIC AND EXCEPTIONS OFTEN EXIST TO GENERAL RULES. DO NOT RELY ON THIS INFORMATION, AS A CONSULTATION TO UNDERSTAND THE FACTS AND THE CLIENT’S NEEDS AND GOALS IS NECESSARY. ULTIMATELY WE MUST BE RETAINED TO PROVIDE LEGAL ADVICE AND REPRESENTATION. THIS INFORMATION IS PROVIDED AS A COURTESY AND, ACCORDINGLY, DOES NOT CONSTITUTE LEGAL ADVICE.