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Asset Protection for Trust Beneficiaries

The Law Office of Libby Banks > Wills & Trusts  > Asset Protection for Trust Beneficiaries

Asset Protection for Trust Beneficiaries

Protect Your Children’s Inheritance    

 The revocable living trust is a great estate planning tool. Putting your own assets in a revocable living trust doesn’t protect those assets from your creditors. The assets in your trust are still considered your assets because you continue to have complete control over them.  

However, you can use your trust to provide asset protection for your beneficiaries after your death.  

How can you do that? When you pass on your assets to your beneficiaries, you pass them on in a trust for each beneficiary. Instead of giving them of all the assets outright, where they put it in their own bank account or in their own name, at death we create an irrevocable trust for each beneficiary. 


Trusts Can Keep an Inheritance Out of the Hands of Creditors   

If we don’t hold a beneficiary’s inheritance in trust, the beneficiary’s creditors can end up with all your hard-earned money. Let me give you a real-life example (with details changed to protect confidentiality). Son started a business, but in the economic downturn, it didn’t make it. He filed bankruptcy. Within a few months after filing, Mom passed away, leaving him everything in an outright distribution. It was all his. Except it wasn’t his. Instead, because he had filed bankruptcy, it all went to his bankruptcy trustee. 

Had Mom given him the assets in trust, he could have completed the bankruptcy without using the assets in the trust. Then, when the bankruptcy was over, the assets in the trust could have given him a fresh start.  

A Special Note About Inherited IRAsNot long ago, the U.S. Supreme Court ruled that inherited IRAs are not exempt in a bankruptcy proceeding, and the bankruptcy trustee is permitted to take those funds to pay a debtor’s creditors. However, nine states have laws that protect inherited IRAs in a bankruptcy. Arizona is one of those states. Keep in mind that a child, even an adult child, may simply cash in an IRA, however, and lose that protection. A separate trust to hold your IRA and distribute it can prevent that.

Trusts Can Protect an Irresponsible Heir From Himself and Still Provide for His Welfare 

When we create trusts for your beneficiaries at your death, we provide protection from beneficiaries who might not manage the inheritance well. Maybe it is a child who is a spendthrift (or has a spouse who spends money like there’s no tomorrow). Perhaps a parent is protecting a child with addiction issues from literally killing themselves with drugs using the inheritance left to them, or saving a beneficiary with a gambling addiction from losing everything.   

Leaving the money in trust doesn’t mean you don’t provide for them. The trust will allow for discretionary distributions to your heirs. Generally, we write in the trust that the trustee has discretion to provide for the health, education, maintenance and general welfare of the beneficiary. That way, the beneficiary still benefits from your assets, but doesn’t have full access. This takes away any opportunity to overspend or get into trouble with the assets you left. 


Trusts Can Protect the Inheritance in Case of Your Beneficiary’s Divorce or Death   

If a beneficiary has a rocky marriage or is going through a divorce, leaving the inheritance in trust can assure that your beneficiary keeps your money in a divorce. By keeping assets in trust, you can ensure that your trust assets do not go to a son-in-law or daughter-in-law in a divorce, or to their children from a previous marriage.  

An inheritance is a separate property, meaning that your beneficiary’s spouse isn’t entitled to it in a divorce. However, if your beneficiary commingles his inheritance with assets of the marital community, they are no longer separate. When you leave your assets in a beneficiaries’ trust, the assets remain separate property, and are protected from being divided up in a divorce.  

The Trust may protect the inheritance in the event of your heir’s death as well. Your beneficiary’s spouse may be entitled to half or more of the beneficiary’s separate property at death, even if they wouldn’t be entitled to any of it in a divorce. Thus, if your beneficiary dies owning the assets you left him outright, his spouse may take the assets instead of your grandchildren or other heirs. On the other hand, if you give him assets in a trust, you can state who is to receive the remainder of the assets after your beneficiary dies. You can even include the spouse if you wish, while assuring that what is left of his or her death goes to your grandchildren, and not someone else. 


The Arizona Advantage for the Responsible Heir  

In Arizona, we have the somewhat unique law that permits a beneficiary to be a trustee of his or her own trust and still have the asset protection we’ve discussed in this article. That means the beneficiary has control over the trust and all the assets in it, while still getting the advantages of creditor protection and divorce protection. That’s an advantage you should take advantage of! 

Planning with continuing trusts can assure that your heirs are the ones who get your inheritance and that it’s used for their support no matter what life brings their way.  

Asset protection planning for your heirs is a substantial benefit to using a revocable living trust as your primary estate planning tool. If you don’t have a revocable living trust, consider talking to your estate planning attorney or contact my office soon. Visit my website at www.libbybanks.com, email me at Libby@libbybanks.com or call me at 602-375-6752. 

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