Revocable vs. Irrevocable Trust: Which One is Right for Your Minnesota Estate Plan?

Revocable versus irrevocable trusts in Minnesota: which one fits you and your estate plan? We'll look at the two different types of trusts and go through some pros and cons for each, so you can decide what makes the most sense for you. At the end, though, you want to make sure you're speaking with a professional so you understand your specific situation and what makes the most sense for you and your family.

The first type of trust that we run into, that is a pretty common trust and probably can fit most folks in Minnesota, would be a revocable trust. So a revocable living trust does a few things pretty well. It avoids your assets going through probate. It handles your incapacity, with the successor trustee who can manage trust assets for you. It keeps your things private, so when somebody passes away, those assets don't go through probate court and the workings of the trust are not public knowledge. And finally, by having a revocable trust, you stay flexible, so it can be changed. We have new kids, somebody gets divorced, we have a falling out with somebody, the trust can be amended.

What a revocable living trust doesn't do: it doesn't give you any creditor protection. So if you're alive, revocable trust property is subject to creditors. Second, it's not going to help you on the estate tax side of things, so the assets still count in your taxable estate. And finally, it doesn't give you any protection for Medical Assistance. So if you're in Minnesota and you end up on Medical Assistance, you need to spend down certain assets before the state is going to pay, and the assets in your revocable trust will count towards that spend-down.

It's also important to note that your revocable trust only works if you fund it, meaning you actually put money into it. If you don't put any money or any assets in your trust, you just have a pretty piece of paper that probably cost you a lot of money.

The other type of trust is what we call an irrevocable trust. It's not something you can easily change. You can't really cancel it. So what happens in this situation is you're giving your assets to the trust, and someone else will usually serve as the trustee, and they will administer the trust based upon the terms that you create.

Loss of control is really the whole point. When the assets aren't yours anymore, they fall outside of your taxable estate and beyond the reach of creditors. So, some common reasons in Minnesota you may want to use an irrevocable trust: to reduce the estate tax. Minnesota taxes estates over three million dollars, which is much lower than the federal, which is currently at around fifteen million dollars. If you're doing planning for long-term care, assets in a properly drafted irrevocable trust may not be counted against your application for Medical Assistance, but you need to make sure that transfer happened more than five years before you apply.

It's also a good vehicle for holding life insurance. An irrevocable trust, we usually call it an ILIT, an irrevocable life insurance trust, keeps the death benefit out of your taxable estate. And finally, it's a good way to protect beneficiaries. We can create a supplemental needs trust for a disabled child, or a spendthrift trust for a child who can't, or shouldn't, get a lump sum. One way we can use these trusts is so it can't be changed down the road.

The big issue you're going to run into here, though, is flexibility. You can't just change your mind. You can't just get the money back. It's less permanent than it sounds. There are certain situations where it can be changed, but generally you're losing that control. That's something you want to consider before you go down that road.

So here in Minnesota, one of the main reasons to look at the different types of trusts is because our estate tax kicks in at only three million dollars. That's lower than New York, for example, at seven and a half million dollars, or the federal, which starts at fifteen million plus and goes up. So while three million sounds like a lot, it's not a lot when you add in your paid-off house, a few retirement accounts, a brokerage account, and life insurance. Plenty of middle-class Minnesotans will quickly cross that three-million-dollar line without thinking of themselves as rich.

And so we need to understand the way Minnesota's estate tax will affect your particular estate and your legacy, and whether or not that irrevocable trust, the one you can't change, makes sense for you and your estate.

As I mentioned before, we also have to keep an eye on Medical Assistance. There's a sixty-month, a five-year, look-back period. What happens is the state of Minnesota looks at transfers made before you apply, for the sixty months prior to that. So if you created that trust fifty-eight months ago and then you apply for Medical Assistance, they can actually come in under the trust and treat those assets as part of your estate. Now, going under the trust doesn't mean they're going to necessarily break it apart and take the money back. They're going to say you don't qualify, because those assets would have been yours had you not made the transfer. When you're dealing with that piece of this equation, you definitely want to make sure you are working with professionals who can advise you on the best way to handle those applications.

Another big benefit of the irrevocable trust is the creditor protection. As I said, when we have a revocable living trust, it's not going to protect you from creditors, but the irrevocable trust means that asset is out of your name and out of your control, so creditors cannot go after it. So there may be reasons why you'd want to set up an irrevocable trust for your assets.

And when we're looking at probate court, it's not the nightmare that a lot of the East Coast states can be, but it still requires court filings, notice to creditors, and a public record. A well-funded trust skips this. So no matter what trust you use, revocable or irrevocable, the assets in that trust, if it's properly set up, will avoid having to go through probate court.

So people often ask me, "I've got this situation or that situation, which one do I need?" Let's give you some real generalizations that might help you out. If you own a home, have kids, and want to keep your family out of probate court: revocable trust. That's what most people are dealing with. Let's say you're married and your combined estate is three million dollars or close to it: probably still a revocable trust, maybe with some credit shelter planning built in.

Let's say you're single or you're widowed, with an estate well over three million dollars. We'd start with a revocable trust, but we want to talk about some lifetime giving and possibly an irrevocable trust to shrink your tax bill.

If you're in your sixties or seventies and worried about nursing home costs eating into your savings: a revocable trust for everything you need, and possibly an irrevocable trust for assets that you're sure you won't need. Five years is the key thing to remember. Let's say you have a child with a disability who receives benefits. You want to look at a supplemental needs trust, typically built into your trust.

If you own a business, the revocable trust is usually the way you're going to want to go, because using an irrevocable trust means you lose control of your business. So what I commonly will see is a revocable trust coordinated with the operating agreement or buy-sell agreement of your business, so your successor trustee can step in and manage that business for you.

If you've got more questions, you can set up a quick Legal Strategy Session on my website, or click the link below. Head over to YouTube for more videos. Hit the like or thumbs-up button below. And remember, there's a difference between a revocable and an irrevocable trust, and you want to make sure you're talking to a professional to understand which one makes the most sense for your situation.