A revocable or living trust is set up by a grantor for his benefit prior to death, and for the benefit of his surviving beneficiaries after death. A grantor may deposit some or all of his assets to the trust, and maintains control over the management of these assets for the time he is of sound mind.
Asset Ownership in Grantor Trusts
The U.S. government sees no difference between assets held in a revocable trust and those held by the grantor directly. Because the trust can be declared null at at any time, the assets are considered taxable to the grantor, and are considered part of her net worth in any lawsuit.
Debt Incurred and Payable During the Life of the Grantor
If a grantor incurs a debt, he does not have to use trust assets to pay it. However, if the debt goes into default and the grantor is taken to court, he can be ordered to revoke the trust in order to repay the debt.
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Debt Payable After Death of Grantor
If a grantor dies with debt, her probate estate will be used to pay off the debt. If the probate estate does not contain enough money to cover the debt, creditors can sue the trust for repayment.
Debt Payable by Trust Beneficiaries
Once the grantor of a revocable trust passes on, the trust becomes irrevocable. At this point, it is a separate legal and taxable entity. Beneficiaries of the trust cannot be forced to use trust assets to settle their own debts because they are not considered owners of the assets. If trust rules allow, however, they may choose to use the distributions they receive to settle with creditors.
Notice to Creditors
Trusts do not require that trustees give notice to creditors upon the death of the grantor. In some circumstances it may be advisable, however, especially if the grantor's credit situation is unknown.