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Irrevocable Trust Trustee – Selection, Powers and Duties

Irrevocable Trust Trustee
An irrevocable trust trustee is appointed by the person who made the trust and has a lot of discretion over managing the trust. An irrevocable trust, from the name itself, is a trust that cannot be revoked. It is created by the grantor, where the grantor transfers assets to the trust for the benefit of beneficiaries, and the grantor generally cannot take back the assets anymore nor can he modify the terms of the trust. In essence, the grantor loses ownership and control over the trust assets. Because of the difficulty in modifying an irrevocable trust, the selection of a trustee is very important to the success of a trust.

Powers of an Irrevocable Trust Trustee

Although an irrevocable trust cannot generally be revoked, there are ways to modify it, depending on the state of the trust situs. A trust can be modified with the consent of the trustee and all the beneficiaries (including the remainder beneficiaries). An irrevocable trust can also be modified by court order by petition of the trustee and/or beneficiaries on the ground that the circumstances have changed, making the administration of the irrevocable trust unreasonably expensive, or the purpose of the trust has become outdated. A trustee can also modify a trust without court involvement or beneficiary consent through decanting – transfer of trust assets from the original trust to a second trust with more favorable terms. Some states have also now recognized the power of a trust protector (a third party who is not the trustee), who is given by the grantor a power of appointment, to modify the terms of the trust.

Basically, the trustee’s powers are enumerated in the trust document, and can be very broad or very limited, depending on how the trust document is written. The trustee can be given the power to determine when to make distributions, to make a distribution of the principal, and to invest the principal, to name a few. It is always better to allow the trustee flexibility, especially in an irrevocable trust, because it allows the trustee more freedom to react and act in accordance with any change in circumstances.

Because of the many powers a trustee can have, especially in more modern flexible trusts, the selection of a trustee is important in the success of a trust, especially an irrevocable trust.

Selection of an Irrevocable Trust Trustee

Some grantors decide to appoint a family member as a trustee. These family members normally do not even charge any compensation for the work of a trustee. However, being a trustee is a serious responsibility, and for these reasons, the following points should be considered by a grantor when appointing a trustee: (a) appoint an independent trustee (CPA, corporate trustee, bank, or attorney) together with a co-trustee (who is a family member); (b) appoint a corporate trustee, such as a bank or trust company, with more safeguards in place; (c) require a bond for the performance of the trustee’s duties; (d) engage a good attorney in drafting the trust document to ensure that the trust document can withstand the test of time and can provide for modifications or even a return of the assets back to the grantor without destroying the trust’s non-grantor status; (e) check the location of the trustee to make sure it is the same as the location of the trust situs to ensure easier management of the trust; (f) ensure that the trustee and the grantor share the same judgment with regard to values, virtues, and spending habits; (g) consider the age of the trustee to make sure that he will be available to administer the trust even when the grantor is gone; (h) consider investment experience to ensure that the assets of the trust will grow; and (i) trustee fees.

Reasons for Having One

There are only three logical reasons why a person would set up an irrevocable trust: (a) to protect one’s assets from creditors; (b) to minimize estate taxes; and (c) to become eligible for government programs, such as Medicaid.

Because the grantor loses ownership and control over the trust assets in an irrevocable trust, the trust assets are not considered part of the grantor’s assets anymore. Thus, they cannot be reached by creditors, in the absence of showing that such transfer was made to defraud the creditors. Persons who utilize this type of trust are those who are in professions that make them vulnerable to liability and lawsuits, such as doctors and lawyers.

Only eleven states have estate tax. In New York, the estate is not liable to pay estate tax if the taxable estate (assets less liabilities) is $5,930,000 or less. However, any amount above the taxable estate is taxed at a staggering rate ranging from 100% to 245%. For this reason, if a person has amassed an estate equivalent to an amount higher than the estate tax exemption, estate planning is a must.

Lastly, government programs, such as Medicaid, are usually only available for low-income adults. In order to avail of these programs, the applicant must show that his or her assets are below the asset limit. Because the grantor completely loses ownership over assets transferred to an irrevocable trust, these trust assets are not counted as assets of the grantor, thereby making the grantor eligible for these government programs.

Taxation

Because the trust assets in an irrevocable trust are not considered the grantor’s anymore, the trust pays for its own income taxes. The trustee in an irrevocable trust needs to apply for the trust’s Employer Identification Number (EIN) with the Internal Revenue Service (IRS), as opposed to a revocable trust where the grantor continues to report the income of the trust using the grantor’s own Social Security Number.

The trustee files Form 1041, the US Income Tax Return for Estates and Trusts, if the trust has any taxable income or gross income of $600 or more or a non-resident alien beneficiary. If distributions have been made to the beneficiaries, the trustee files Schedule K-1, which reflects the beneficiaries’ share of the trust’s income, deductions, and credits. The beneficiary pays for the income distributed to him using his tax bracket with Schedule K-1 as his reference. If no distribution has been made and the income is retained by the trust, the trust pays for the income tax using a higher tax bracket. To give an overview of the tax brackets, individuals enjoy a tax rate of 37% for taxable income of $523,601 or more, as opposed to a trust that has a tax rate of 37% for taxable income in excess of $13,050.

During the first 65 days after the calendar year has lapsed, the trustee can also make distributions to the beneficiaries and elect to have that distribution be considered paid or credited on the last day of the preceding taxable year under IRC § 663(b). This can result to significant income tax savings for the trust.

If you are interested in establishing an irrevocable trust or are having an issue with one, and have questions about an irrevocable trust trustee, we at the Law Offices of Albert Goodwin, are here for you. We have offices in New York, NY, Brooklyn, NY and Queens, NY. You can call us at 718-509-9774 or send us an email at attorneyalbertgoodwin@gmail.com.