As the conversation around irrevocable trusts evolves, many estate planners and beneficiaries are searching for up-to-date answers on what happens to an irrevocable trust when the grantor dies. With sweeping changes rolling out for estate and tax laws in 2025, the administration and ramifications of these trusts have never been more critical to understand.
Key Points Summary
- IRS regulations update:Â Assets in irrevocable trusts may not get a step-up in basis at death, impacting capital gains tax for heirs.
- Estate tax exemption changing:Â The federal estate tax exemption is set to drop from $13.99 million per person in 2025 to about $7 million in 2026, affecting large estates.
- Trusts avoid probate:Â Irrevocable trusts still allow assets to bypass probate, offering beneficiaries faster access and avoiding some legal costs.
- Reporting requirements and tax rates:Â New rules require stricter reporting and may lead to increased tax rates on trust income starting 2025.
- Modifications possible in limited cases: In some states, if all beneficiaries agree, a trust can be changed or terminated via court petition after the grantor’s death.
New Rules and Shifting Tax Strategies
The biggest adjustment in 2025 stems from the IRS’s recent enforcement on the “step-up in basis” rule. Previously, when beneficiaries inherited assets from an irrevocable trust, those assets received a new value (“step-up”) equal to the fair market value on the date of the grantor’s death. This minimized capital gains taxes if the assets were later sold.
Under Revenue Ruling 2023-2, this has changed dramatically. Now, unless the assets are included in the grantor’s taxable estate at death, there is no step-up in basis. Heirs may inherit assets at the original purchase value, meaning they could face significant capital gains tax if those assets have appreciated substantially over the years. For instance, if a trust holds $1 million in stock now worth $5 million, the beneficiary may owe taxes on $4 million in gains if they sell after inheriting—rather than only on gains after inheritance.
What Happens the Day the Grantor Dies?
- The terms of the irrevocable trust become fixed.
- Control passes from the grantor to the appointed trustee.
- Assets in the trust are administered per the trust document, shielded from creditors and probate.
- In certain jurisdictions, if all beneficiaries agree and the court finds compelling reason, the trust can be modified or dissolved.
Additionally, irrevocable trusts set up for reasons such as asset protection or caring for special needs individuals will continue to serve those roles after the grantor’s passing. However, how the assets are distributed—and taxed—may differ, especially as the new rules go into effect.
Read Also-What Expenses Can Be Paid from an Irrevocable Trust?
Why 2025 Matters: The Estate Tax Exemption Drop
Another urgent development for high-net-worth families is the impending change in the federal estate tax. Starting January 1, 2026, without congressional intervention, the lifetime gift and estate exclusion amount will decrease from $13.99 million to approximately $7 million per person. This means more estates—including those held in trusts—could be subject to a 40% estate tax on amounts above the exemption.
Read Also-What Happens to an Irrevocable Trust When the Grantor Dies?
What Should Trustees and Beneficiaries Watch For?
- Tighter tax reporting:Â Compliance requirements for trusts will increase, and incorrect filings can trigger costly penalties.
- Review estate plans:Â Those with sizable assets in trusts should consult advisors now to determine if early gifts or transfers can minimize tax exposure.
- Consider alternatives:Â Creating new irrevocable trusts or refashioning existing ones may be critical before the exemption drops or further IRS changes roll out.
Benefits and Constraints Remain
Despite tax law shifts, irrevocable trusts still deliver foundational benefits. Assets held in these trusts are protected from the grantor’s creditors, avoid probate, and offer a durable, legally enforceable way to pass on wealth. However, both the lack of a step-up in basis and the lowered exemption underline the need for timely legal and tax advice.
Final Thoughts
The latest changes to how irrevocable trusts operate after a grantor’s death mean that planning is more crucial than ever. As tax laws tighten and estate thresholds shift, reviewing and adjusting your trust strategy with a professional can ensure your legacy is protected. If you have questions or experiences to share about managing an irrevocable trust when the grantor dies, leave a comment below—let’s keep the conversation going as these rules continue to evolve.