What a Trust Can and Cannot Accomplish for Asset Protection

Many people believe that a trust can automatically protect them from lawsuits, creditors, or other financial liabilities. While trusts are valuable estate planning tools, not all trusts provide asset protection. The type of trust you create—and how it is structured—makes a significant difference. It is especially important to understand the distinction between revocable and irrevocable trusts before relying on a trust for liability protection.

Revocable Trusts: Most Common

The most commonly used trust in estate planning is the revocable living trust. This type of trust is popular because it offers flexibility and practical benefits during your lifetime and after your death. It allows you to avoid probate, which can save your loved ones time, expense, and administrative burden. It also helps maintain privacy, since trust assets generally do not become part of the public record like a will does.

A revocable trust also allows you to remain in full control of your assets. You may amend the trust, change beneficiaries, move assets in and out of the trust, or revoke it entirely at any time during your lifetime. That flexibility makes it an excellent estate planning tool for many families. However, that same flexibility is why it does not provide protection from creditors.

Because you retain complete control over the trust and its assets, the law treats those assets as if they still belong to you. If you are sued or owe money to creditors, they can generally reach the assets held in your revocable trust. In other words, the trust does not create a legal barrier between you and your property.

Irrevocable Trusts: Less Common

An irrevocable trust works differently from a revocable trust. Once assets are transferred into an irrevocable trust, you generally give up ownership and control over those assets. In most cases, you cannot change the terms of the trust or revoke it later. This lack of control is what distinguishes it from a revocable trust.

Because you no longer control the assets, the law may not treat them as yours. Depending on how the trust is structured and when it is created, this separation can provide protection from future creditors. Irrevocable trusts must be carefully designed to achieve the intended level of protection and planning benefits.

Irrevocable trusts may also offer additional planning advantages. In certain situations, assets transferred to a properly structured irrevocable trust are removed from your taxable estate, which may reduce estate taxes. These trusts are also commonly used in Medicaid planning, since assets transferred outside of the five-year look-back period may not be counted when determining eligibility.

Summary:

Overall, a revocable trust and an irrevocable trust serve very different purposes. A revocable trust is primarily a tool for probate avoidance, privacy, and ongoing management of assets, while allowing you to retain full control during your lifetime. Because you maintain that control, it does not protect your assets from creditors. An irrevocable trust, on the other hand, requires you to give up control of the assets placed inside it, but that separation can provide creditor protection and additional planning benefits, depending on how it is structured. Choosing between the two depends on whether your primary goal is flexibility and convenience, or long-term asset protection and advanced planning.