Estate planning involves more than simply transferring wealth. For many clients, protecting that wealth from future creditors is just as important as ensuring their assets are passed on according to their wishes. A well-drafted trust can offer significant protection, but the level of protection largely depends on the trust structure, the terms regarding distributions, and how much control a beneficiary has over the trust.
Outright Distributions vs. Continuing Trusts
Distributions from a will or trust may be made outright or in trust. When a beneficiary receives an outright distribution, they have complete control over the assets, which also makes the assets vulnerable to creditors. On the other hand, assets held in a continuing trust can offer protection, particularly if the trust is drafted with discretionary provisions and includes a qualified trustee structure.
Beneficiary-Controlled Trusts
A common estate planning tool is the beneficiary-controlled trust, which allows a beneficiary to serve as a trustee or co-trustee. While this may provide tax advantages and maintain control for the beneficiary, it can limit asset protection. If the trust allows the beneficiary to control or replace the trustee, creditors may gain access to the assets, especially if distributions are mandatory or the beneficiary has broad powers over them.
Distribution Standards and Creditor Access
Trusts with mandatory distribution requirements expose beneficiaries to greater creditor risk since a court can compel the trustee to distribute assets to satisfy judgments. Conversely, discretionary trusts, where distributions are made only if the trustee deems it appropriate, can offer better protection. The degree of protection increases, when the trustee has broad discretionary powers and the trust includes a valid spendthrift clause.
Under the Uniform Trust Code, assets in a discretionary trust with a valid spendthrift clause are protected from most creditors, except certain “supercreditors” like those seeking child support or tax debts.
The Role of Independent Trustees
Including an independent trustee in a discretionary trust is often necessary to ensure strong asset protection. Independent trustees are not beneficiaries and are not related or subordinate to them. If a beneficiary can remove and replace a trustee without restriction, they are considered to have control, reducing creditor protection and potentially triggering estate tax consequences.
Ascertainable Standards and Tax Considerations
To avoid adverse estate tax outcomes, many trusts limit a beneficiary’s distribution rights to an ascertainable standard such as health, education, maintenance, and support (HEMS). While this can provide some protection and avoid estate inclusion, it may not be sufficient in all states or circumstances.
Costs and Considerations
Independent trustees often come with additional administrative costs and fees, especially if a professional or institutional fiduciary is required. It is essential for clients to consider these costs alongside the benefits of asset protection.
Careful Drafting Is Essential
The right to remove and replace trustees must be carefully considered. If not structured properly, this right can result in estate tax inclusion or exposure to creditors. When replacement is limited to individuals or institutions that are not related or subordinate to the beneficiary, estate tax consequences may be avoided.
At Enoch Tarver Law, we understand that each client has unique needs and goals. Our attorneys work closely with clients to craft trust documents that not only meet their wishes for distributing wealth but also protect that wealth for generations to come.
If you are interested in exploring trust planning options that provide asset protection, schedule a consultation with our estate planning attorneys today. We are here to help you protect what matters most.
Reference
Voge, A. (2025, January 17). Drafting for asset protection. WealthCounsel Quarterly.
