Revocable or Irrevocable Trust: Which Is Right for You?

A trust is a legal arrangement involving a grantor who creates it, a trustee who manages the assets, and a beneficiary who receives the benefits. Trusts allow for precise control over how your assets are distributed after death. The two primary categories are revocable and irrevocable, each serving different objectives centered on the trade-off between control and protection.

Understanding Revocable Trusts

A revocable trust, also called a living trust, is a flexible instrument the grantor can change or revoke at any time. Because the grantor retains control over the assets, this structure allows for a seamless transition of asset management if the grantor becomes unable to manage their own affairs. The grantor often serves as the initial trustee, with a successor ready to step in upon death or incapacitation.

The main reason to establish a revocable trust is to avoid probate, the court-supervised process for distributing assets. Assets titled in the trust’s name bypass probate, allowing for a private and faster transfer to beneficiaries.

For tax purposes, a revocable trust is a “grantor trust” and not a separate entity. All income is reported on the grantor’s personal Form 1040 using their Social Security Number. This provides no income or estate tax savings, and the assets remain part of the grantor’s taxable estate.

Since the grantor maintains control, a revocable trust offers no asset protection from creditors or lawsuits. If the grantor is sued, the assets inside the trust are treated as their personal property and are reachable by claimants.

Understanding Irrevocable Trusts

An irrevocable trust is a rigid structure that, once created and funded, cannot be altered or terminated by the grantor. When a grantor transfers assets into an irrevocable trust, they permanently relinquish ownership and control. The assets are legally owned by the trust and managed by a trustee for the beneficiaries.

A primary goal for this trust type is estate tax reduction. By transferring assets into the trust, the grantor removes them from their personal estate, which can reduce or eliminate estate tax liability. Another purpose is asset protection, as the structure can shield assets from the grantor’s future creditors.

An irrevocable trust is a distinct legal and tax-paying entity. If income is kept within the trust, it is taxed at compressed trust tax rates, which reach the highest marginal rate at a much lower income threshold than individual rates. For 2025, this highest rate applies to taxable income over $15,650.

If the income is distributed to beneficiaries, the trust can deduct these distributions, and the beneficiaries then report the income on their personal tax returns. This pass-through mechanism often results in the income being taxed at the beneficiaries’ lower individual rates.

The asset protection offered is substantial. Because the grantor no longer legally owns the assets, they are shielded from claims from future lawsuits, creditors, or bankruptcy proceedings. This makes it a powerful tool for individuals in high-liability professions or those concerned with preserving wealth.

Key Factors in Your Decision

If you anticipate your wishes changing or may need to access the assets in the future, the adaptability of a revocable trust is more suitable. The ability to amend or dissolve the trust allows you to react to unforeseen events without legal restriction.

Your potential exposure to estate taxes is a factor. For 2025, the federal estate tax exemption is $13.99 million per person, but this amount is scheduled to be cut by about half at the end of 2025 unless Congress acts. If your estate’s value is near this threshold, or if you live in a state with its own estate tax, an irrevocable trust’s tax-reduction capabilities are a compelling benefit.

Asset protection is another consideration. If you are in an occupation with a high risk of litigation, shielding assets is a priority. An irrevocable trust, by transferring legal ownership away from you, can provide a strong defense against future creditor claims.

Planning for long-term care and eligibility for government benefits like Medicaid is another element. To qualify, individuals must meet strict asset limits, and transferring assets into a specialized irrevocable trust can be a strategy to meet these requirements. These transfers are subject to a multi-year “look-back” period, which could result in a penalty period of ineligibility if not planned correctly.

The Process of Creating and Funding a Trust

The first step is to identify a trustee, a successor trustee, and the beneficiaries. You must also specify how and when beneficiaries will receive assets and prepare a complete inventory of all property to be included in the trust.

An estate planning attorney then drafts the formal trust agreement, which outlines all terms and instructions. The grantor must sign this document in the presence of a notary public to make it legally valid.

The final action is funding the trust by legally retitling your assets in its name. For real estate, a new deed must be recorded transferring ownership to the trust. For financial accounts, the registration must be changed from your name to the trust’s name. A trust only controls assets that have been properly funded.

Because it is a separate tax entity, an irrevocable trust must obtain an Employer Identification Number (EIN) from the IRS by filing Form SS-4. This EIN is used for opening bank accounts and filing the trust’s annual Form 1041 tax return.