Last Updated November 5, 2017: What Are the Tax Advantages of Revocable Trusts?
From our “Ask a Question” mailbag: What Are the Tax Advantages of Revocable Trusts?
Revocable Trusts and Tax Fiction.
A revocable trust, or its more popular name a “Living Trust”, is an increasingly popular estate planning tool. The Living Trust serves many useful purposes. Unfortunately, some professionals tell people revocable trusts reduce taxes. This is not true. A Revocable Trust does not reduce income taxes, estate taxes, gift taxes, generation skipping taxes or inheritance taxes.
In short, Living Trusts provide no tax advantages. If someone is trying to sell you on the idea of forming a Revocable Trust based on tax savings, run away!
Why Do Revocable Trusts Provide No Tax Protection?
Some trusts do create various tax benefits. So why does a Living Trust provide no tax benefit?
In most revocable trusts the grantor (the person who forms the trust), is also the beneficiary. The grantor then transfers assets into the Living Trust. Typically people transfer real property, liquid assets, CDs and bank accounts. The Living Trust holds the assets for the Grantor’s benefit. Further, the Grantor is free to take those assets back at any time. After the grantor’s death, the trust acts like a Will. The trust’s assets pass to others under the trust’s terms.
These trusts are “revocable trusts” because the Grantor expressly reserves the right to revoke. Further, that right extends to amend the trust.
No Income Tax Protection.
Internal Revenue Code (IRC) § 676 considers revocable trust assets as “owned” by the grantor for income tax purposes. Because of the grantor’s revocation rights, the grantor is deemed to own trust assets. As such, any income generated during the trust is reported under the grantor’s Social Security number. The income simply appears on the grantor’s personal income tax return.
The IRS considers a revocable trust to be a “grantor trust” for tax purposes if the grantor has the power to revoke the trust and revest the trust assets (income, principal, or both) in himself. The power to revoke still invokes grantor trust status even if the grantor must exercise this power in conjunction with another person (such as a trustee), unless that other person is an adverse party. IRC Section 672(a) states that adverse parties are someone who (1) has a “substantial beneficial interest” in the trust, including a power of appointment over trust assets, and (2) where the beneficial interest would be adversely affected by the exercise or non-exercise of the power to revoke.
Unless an adverse party must consent to the trust’s revocation, all trust income is reported on the grantor’s personal return.
A revocable trust becomes irrevocable upon the grantor’s death. At death, the revocation right ends. The Trust becomes irrevocable. The irrevocable trust reports any trust income generated after the grantor’s death.
No Estate, Gift or Inheritance Tax Protection.
Additionally, the grantor’s death triggers the question does the grantor’s estate include trust assets?
IRC Section 2038 holds that a decedent’s gross estate includes the value of any trust holding assets transferred into the trust by the decedent during life if the decedent had the power to revoke the trust at the time of death. This means if the grantor retains revocation rights the grantor’s gross estate includes the trust assets. This is true even if the grantor never exercised this power.
Dividing property between the trust and another gives no benefit. IRC § 2040(a) holds that the entire value of property held jointly with the trust and another is includable in the decedent’s gross estate. IRC Regulations § 20.2040-1(b) includes one-half tenants in common property in the grantor’s gross estate.
What Are the Tax Advantages of Revocable Trusts?
Revocable Trusts or Living Trusts serve many useful purposes. Not on that list; income tax, estate tax or inheritance tax reduction.
Click through here to learn more about the positive attributes of Revocable Living Trusts.
In conclusion I tried answering in this Post the question, “What Are the Tax Advantages of Revocable Trusts.” So, let me know how I did. Comments and questions are welcome!
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Throughout our website, klenklaw.com, you may find more information about Revocable Trusts, Living Trusts and many other estate planning tools. Our firm focuses exclusively in the area of estate planning, probate, and the litigation surrounding estate planning and probate including Will Contests and Will Challenges. If you have a Revocable Trust question, please call one of our Experienced Revocable Living Trust Lawyers for a free consultation. We practice throughout New Jersey, Pennsylvania, New York, Minnesota and Florida.
Author, Peter Klenk, Esq.