A revocable trust is a popular estate planning tool that offers many benefits, including avoiding probate and maintaining privacy. However, one of the most common misconceptions about revocable trusts is that they provide asset protection from creditors, lawsuits, or long-term care costs.
In this article, we will explore the nature of revocable trusts, their limitations in asset protection, and alternative strategies for safeguarding your wealth. If you need guidance on trust planning, contact us by using our online form or calling 414-253-8500.
What Is a Revocable Trust?
A revocable living trust is a legal entity created to hold and manage assets during your lifetime and distribute them upon your death according to your wishes. Key characteristics of a revocable trust include:
- Control: The person who creates the trust, known as the grantor, can modify, revoke, or terminate the trust at any time.
- Trustee: The grantor often serves as the initial trustee, managing assets as they normally would.
- Probate Avoidance: Assets held in a revocable trust bypass probate, allowing for a smoother transition to beneficiaries.
- Tax Treatment: The trust is considered part of the grantor's estate for tax purposes, meaning no special tax benefits are gained.
While these features make revocable trusts an attractive estate planning tool, they do not inherently offer asset protection.
Comparison of Revocable and Irrevocable Trusts
| Feature | Revocable Trust | Irrevocable Trust |
|---|---|---|
|
Can Be Modified or Revoked? |
Yes |
No |
|
Protects Against Creditors? |
No |
Yes |
|
Avoids Probate? |
Yes |
Yes |
|
Included in Grantor's Estate for Taxes? |
Yes |
No |
|
Can Be Used for Medicaid Planning? |
No |
Yes (with proper structuring) |
|
Provides Asset Protection? |
No |
Yes |
Why a Revocable Trust Does Not Protect Assets
Despite their advantages, revocable trusts do not shield assets from:
1. Creditors
Since the grantor retains full control over trust assets, creditors can still reach those assets to satisfy debts. If a lawsuit is filed or an outstanding debt exists, the assets within the trust remain vulnerable.
2. Lawsuits
A revocable trust does not offer protection against legal claims. If you are sued, a court can order assets in the trust to be used to pay damages or settlements.
3. Divorce Settlements
Because the grantor has full access to trust assets, they may be considered part of marital property during divorce proceedings, making them subject to division.
4. Medicaid and Long-Term Care Costs
Since assets in a revocable trust are still considered part of the grantor's estate, they are counted when determining Medicaid eligibility. This means a revocable trust does not shield assets from being spent on long-term care before qualifying for Medicaid assistance.
Alternatives for Asset Protection
If protecting your assets from creditors, lawsuits, or long-term care expenses is a priority, there are alternative strategies that offer stronger protection than a revocable trust.
1. Irrevocable Trusts
Unlike a revocable trust, an irrevocable trust removes assets from your control, which means they are no longer considered part of your estate. Because you no longer own the assets, creditors and lawsuits typically cannot access them. Some types of irrevocable trusts that provide asset protection include:
- Medicaid Asset Protection Trusts (MAPTs): Designed to help preserve assets while qualifying for Medicaid.
- Spendthrift Trusts: Protects assets from a beneficiary's creditors.
- Domestic Asset Protection Trusts (DAPTs): Available in some states to shield assets from creditors.
Learn more about irrevocable trusts and whether they are right for your estate plan.
2. Limited Liability Companies (LLCs) and Business Entities
For business owners, holding assets in a limited liability company (LLC) or a family limited partnership (FLP) can provide an additional layer of protection. These legal structures separate personal assets from business liabilities, making it more difficult for creditors to access personal wealth.
3. Asset Protection Strategies for Medicaid Planning
If your concern is protecting assets from long-term care costs, proper Medicaid planning can be crucial. Transferring assets to a Medicaid Asset Protection Trust (MAPT) at least five years before applying for Medicaid can help ensure they are not counted for eligibility purposes.
4. Retirement Accounts and Homestead Protection
Certain assets, such as 401(k) plans, IRAs, and homestead property, may have built-in protection under state and federal law. However, the level of protection varies by jurisdiction, so consulting an estate planning attorney is essential.
5. Insurance Policies
Having the right umbrella insurance, liability coverage, or long-term care insurance can help safeguard your wealth from unexpected claims or medical expenses.
Asset Protection Strategies and Their Benefits
| Strategy | Protection Offered | Best For |
|---|---|---|
|
Irrevocable Trust |
Shields assets from creditors, lawsuits, and Medicaid |
Estate planning, Medicaid planning |
|
Limited Liability Company (LLC) |
Separates personal and business assets |
Business owners |
|
Spendthrift Trust |
Prevents a beneficiary's creditors from seizing assets |
Protecting inheritances |
|
Medicaid Asset Protection Trust (MAPT) |
Preserves assets while qualifying for Medicaid |
Long-term care planning |
|
Umbrella Insurance |
Provides additional liability coverage |
General asset protection |
|
Retirement Accounts |
Offers creditor protection in many states |
Retirement planning |
Choosing the Right Strategy for Your Needs
While a revocable trust offers significant benefits for estate planning, it is not a tool for asset protection. If shielding your wealth from creditors, lawsuits, or medical expenses is a concern, alternative approaches like irrevocable trusts, LLCs, or Medicaid planning may be more effective.
To develop a customized asset protection strategy, consult an experienced attorney. Contact Heritage Law Office at 414-253-8500 or use our online contact form to schedule a consultation.
Frequently Asked Questions (FAQs)
1. Does a revocable trust protect assets from creditors?
No, a revocable trust does not provide asset protection from creditors. Since the grantor retains control over the assets, creditors can still access them to satisfy debts or legal judgments.
2. Can a revocable trust help with Medicaid planning?
No, assets in a revocable trust are still considered part of the grantor's estate for Medicaid eligibility. If you want to protect assets from long-term care costs, an irrevocable trust or Medicaid Asset Protection Trust may be a better option.
3. What type of trust offers the best asset protection?
An irrevocable trust generally provides stronger asset protection because the grantor gives up ownership of the assets, making them unavailable to creditors, lawsuits, and Medicaid calculations. Different types, such as spendthrift trusts and domestic asset protection trusts, offer varying levels of protection.
4. Are there any legal ways to protect assets from lawsuits?
Yes, several legal strategies can help protect assets from lawsuits, including:
- Setting up an irrevocable trust
- Forming a Limited Liability Company (LLC) or Family Limited Partnership (FLP)
- Using asset protection trusts in certain states
- Maintaining proper insurance coverage
5. How can I keep my estate private while also protecting my assets?
A revocable trust can help keep your estate private by avoiding probate, but for asset protection, you may need to use an irrevocable trust, LLC, or other legal structures. Consulting an estate planning attorney can help you create a plan that balances privacy and protection.