AB Trust and an Irrevocable Trust: Differences Pros and Cons
- February 10, 2015
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Our estate planning blog will review why many people may consider an AB Trust when estate planning. Once a popular way for married couples to manage and distribute their assets. While this used to be an excellent tool for maximizing a couple’s estate tax exemption, recent changes to the tax law have rendered the AB trust unnecessary. As a result, an irrevocable trust may be a better option for many people.
The way an AB trust worked is that it would be funded when the first spouse passed away, using that spouse’s estate tax exemption to avoid or reduce taxes paid by the surviving spouse. Then, when the surviving spouse passed away, that spouse’s estate tax exemption would be used to transfer the assets to heirs at a reduced estate tax (or no tax at all). However, the IRS now allows spouses to combine their estate tax exemptions. Any exemption not used when the first spouse passes may be used by the other spouse later. Thus, if the sole purpose of creating an AB trust is to reduce or eliminate estate taxes, the trust no longer serves a purpose for that couple.
AB Trust and Irrevocable Trust Differences
One of the primary differences between an AB trust and an irrevocable trust is that an irrevocable trust allows the spouses to protect their hard-earned assets from being taken by creditors or to pay frivolous lawsuits, like those arising out of a motor vehicle accident. Funds in an irrevocable trust no longer belong to the couple, they are owned by the trust. As a result, the assets cannot be taken to pay debts. With an A/B trust, the couple may access funds or revoke the trust at any time. That means a judge can order that those assets be used to pay when creditors come knocking.
Similarly, the government can require the couple to use funds in the AB trust to pay for their medical expenses before they will become eligible for Medicaid. Couples with substantial assets usually would prefer not to see all the money spent on long-term medical care or nursing home bills, but that is exactly what will happen if the money is in an AB trust. It varies by state, but in most areas, Medicaid will not be granted unless a couple has less than $1,500 to $2,000 in assets. With an irrevocable trust, as long as the assets have been in the account longer than the five year look back period, the money is protected and need not be used up before the couple may receive Medicaid.
Any couple that seeks to use an A/B trust to avoid paying debts or frivolous judgements will be sorely disappointed when the judge orders them to withdraw trust assets to make payments. With an irrevocable trust, that’s not possible. An irrevocable trust is the best way for a couple to preserve assets for their heirs.
If you need help strategizing a plan specific to you and your family’s needs, email us at firstname.lastname@example.org or call (888) 538-5872 for a free 30 minute consultation.