Wrong Kind of Trust
By: Barry E. Haimo, Esq.
December 18, 2014
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. In Jerry’s case, he was particularly nervous about professional liability and getting sued.
Jerry, you see, was an incredibly talented and successful plastic surgeon who made gobs and gobs of money transforming people into something different because they thought it would make them happier. Sometimes it did; sometimes it did not. Regardless, he always followed all of the proper protocols and was very good at his job.
But it only takes one mistake, and medical malpractice can be crippling – even if you have good insurance.
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. This way, he was told, it would be safe if he was sued or if he ever had creditors coming for him.
He couldn’t imagine the second scenario ever happening – he 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, and as the years went by, he more or less forgot about it.
Things probably would have continued that way except that 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.
While other surgeons around him invested in the most state-of-the-art equipment that allowed them to offer a wider variety of services at lower prices, Jerry believed that patients were better served by his more hands-on approach. First his profits leveled off; then they started to drop precipitously. By the time he decided to cave in and outfit his office with new equipment, the money just wasn’t there.
Not sure what else to do, he went to his financial advisor and asked about accessing the irrevocable trust. There were ways to do it, he was told, 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?
It was. It was not just because of the use of an irrevocable trust; but particularly because the trust was not set up correctly. Jerry’s trustee was his ex-brother-in-law – though the “ex” hadn’t been there when the paperwork was being drawn up, and at that time, they were very close. Ten years and a contentious divorce later, his interest in helping Jerry out was not very high. “I’m just not sure changing things around is the best thing for your kids, Jer,” he just kept saying. Use of a trust protector would have helped Jerry considerably. A trust protector is someone who has special but limited powers, often to replace and appoint a successor trustee. It would have been helpful to Jerry in this case.
In the end, Jerry was able to save his business, but not before he brought in a partner and secured a rather large loan. He was happy that his money was going to be kept safe for his children, but definitely wouldn’t take that route again if he could do everything over.
Irrevocable Trusts Aren’t for Everyone
There are a number of good things about irrevocable trusts, but they are definitely not for everyone. Jerry is an interesting case because he went through a number of big life changes that made his decision to opt for an irrevocable trust one that ultimately hurt him. Still, 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.
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.
Middle class folk looking to save money. Yes, 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, but with it now being permanently set at 5 million (with changes for inflation), 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 – or, in simpler terms, hiding your money because you knew it was in danger.
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. While it is possible to do so, it is difficult and the process 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.
Barry E. Haimo, Esq.
Strategic Planning With Purpose
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