How to Safeguard Assets from Creditors of Beneficiaries

Using a trust to shield assets is a useful strategy that the wealthy employ for protective purposes. This can be done for a variety of reasons including to protect the assets from any creditors of the intended beneficiary (for simplicity, we refer to a singular beneficiary, however, multiple beneficiaries are equally valid too).

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Here are some ways that assets can be protected.

Use an Independent Trustee for Trust Management

When storing assets inside a trust, it’s sometimes useful to appoint a professional as the trustee, not the ultimate beneficiary. It creates an expectation that they will act in the best interests of the trust while making decisions that protect it from the sometimes ill-advised actions or decisions of the beneficiary.

Indeed, with a discretionary trust, it usually removes any decision about distributions away from the beneficiary and places it in the hands of the trustee. Because there’s no automatic distributions or ones that a beneficiary can instigate, creditors find it difficult to gain access to a trust’s resources.

Trust law varies from state to state. For instance, when in the Sunshine state, it’s certainly worth consulting with a Florida asset protection lawyer to understand the local ramifications.

Include a Spendthrift & Anti-alienation Clause in the Trust Agreement

A spendthrift clause is a legal strategy through a trust agreement that specifically aims to stop the beneficiary’s creditors from gaining access to the trust’s assets.

Using a clause that deals with anti-alienation prevents a trustee from moving the trust’s assets to anyone who isn’t the beneficiary. The legal terminology expressly excludes any party that is seen as being opposed to or widely differing from the interests of the beneficiary. This can include parties such as a creditor, the IRS, or a former spouse.

It’s worth pointing out that limitations exist too. Not all states recognize or support provisions relating to spendthrift or anti-alienation. As such, claims by creditors including from the IRS, or in a bankruptcy, or divorce proceedings may not be avoided.

Use Sprinkling Provisions to Go Farther

For trusts that are likely to stay enforced for a decade or longer, adding sprinkling provisions is highly recommended. These are useful if it’s unclear at the time of drafting how the income or taxation for the beneficiary will result.

The additional provisions allow the trustee to change the distributions from the trust. It can be decided to prevent the distribution of income and/or principal which may last for the full trust’s duration. This too makes it extremely difficult for creditors to reach these assets.

Drafter’s Skill as it Relates to Asset Protection

With writing trusts, much like with the drafting of wills, the level of protection is not sacrosanct. Its breadth and depth largely depend on what’s protected under state law and how well (or poorly) a trust was drafted in the first place.

For instance, with a trust where the language used leaves some degree of ambiguity, this may open the door to a legal challenge. While trusts cannot protect previous income distributions from creditors eager to get to them, the skill in drafting is evident in how well it covers the specifics and what protection it provides to the beneficiary.

To properly safeguard from potential creditors, a trust must be drafted well to avoid losing whatever protections are possible. This affords the beneficiary greater protection than they would have without it.

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