Using a Specially Written Trust to Shield an Inheritance from Creditors
Interested in Understanding How to Protect Your Assets for One’s Children and Loved Ones?
Many individuals, including parents, grandparents, good friends and family members want to leave their assets to their children, spouse, partner and other loved ones. Some of their strategies are well-intentioned but fail miserably at achieving their stated goals which is to protect their inheritance(s) from creditors, predators, in-laws (aka out-laws) and the IRS. Here are some examples of their thinking.
- Outright Distribution – This plan (it’s really not a plan at all) allows for the automatic distribution of your assets to your beneficiary upon your death or the death of a second parent. It is a technique commonly used in a will or trust. This method offers zero asset protection. Once the assets are distributed, they are included in your children’s estate, making them subject to creditors, ex-spouses, and other interested parties. In New Jersey, once these assets are distributed it is too late for your children to create a trust to protect these assets.
- Income & Support Trusts – This type of trust involves establishing a trust for the support of a beneficiary. An independent trustee (not related to the creator of the trust) is appointed and directed to distribute trust income for the health, education, maintenance, and support of the beneficiary. This trust provides support for the beneficiary throughout their life and protects your assets until they are distributed. However, mandatory distributions are not protected from creditors. This means that if your child has a right to income based on the language in the trust, your child’s creditors may assert a claim to those funds, leaving your assets vulnerable.
- Staggered Distributions From An Irrevocable Trust – This type of trust involves appointing an independent trustee to distribute your trust assets according to a timeline established by you in the trust document. You create the trust and a trustee. However, instead of giving the trustee discretion to give the funds to a minor (be it a child or someone else) when they believe necessary or when the child needs it for support, health, education, or other reasons, this trust provides strict instructions requiring the trustee to distribute trust funds as directed. This means that if you dictate that your child shall receive $50,000 upon graduation from college, your children’s’ creditors may assert a claim to that money once they graduate from college, since the beneficiary is entitled to that money.
Use of a Discretionary Trust with creditor protection designed under the Uniform Trust Code is a favored technique because it protects your assets before they are distributed. It provides safeguards and a firewall against creditors and others while also allowing your beneficiary to receive the benefits of your assets without technically “owning” them. This trust has become an increasingly popular tool used by many individuals today in their estate planning to ensure their assets go to who they intend them to.
Shielding an Inheritance from Creditors with a Trust
Are There Disadvantages to Using a Discretionary Trust?
Almost every strategy and trust has some limitations. But they are often manageable. It is important to be aware of the downsides of a Discretionary Trust, when debating whether to create such a trust. Since Discretionary Trust can protect assets from creditor claims as long as they remain in trust, one downside is that if the assets are distributed to the beneficiary, they then are considered part of their beneficiary’s estate and subject to claims of third parties. However, this is the case with all trusts, not just with Discretionary Trusts. Furthermore, if the assets are passed to a separate trust in which the child is the sole trustee, the child must be careful not to resign as trustee unless an independent trustee is in place. Such action will subject the assets to vulnerability of claims.
Creating a pure Discretionary Trust often makes sense. It is a vehicle to ensure a loved one receives your assets. It is important you consult with a knowledgeable Estate Planning attorney to assist you in establishing such a trust, as there are many specific guidelines that must be followed, especially under the Uniform Trust Code.
Please call Fredrick P. Niemann, an experienced NJ Estate Planning Attorney, today toll-free at (855) 376-5291 or email him at firstname.lastname@example.org. He would be happy to help guide you through the process and answer any questions you may have. He looks forward to hearing from you.
Written by Fredrick P. Niemann, Esq. of Hanlon Niemann & Wright, a New Jersey Estate Planning Attorney
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