Asset Protection Trust

Clients sometimes ask about asset protection, either for themselves or for their kids. Protecting your children’s inheritance from their potential creditors isn’t easy. Even lawyers get confused about asset protection provisions (“spendthrift clauses”) in trusts. Probably because these problems don’t pop up very often, but when they do the consequences can be catastrophic.

In Carmack v. Reynolds, 2 Cal.5th 844 (Cal. 2017) the California Supreme Court said unequivocally that once a gift was due and payable, general spendthrift provisions in the trust no longer control. Here’s how that works: Typical trust says upon the death of the surviving Settlor, the trust estate is distributed in equal shares to my children. This is a gift that is due and payable. If there is a judgment against the beneficiary, then the creditor can force the trust to turn over the beneficiary’s share to satisfy the judgment even if the trust has general spendthrift language.

To protect a beneficiary from creditors requires creating a further Asset Protection Trust for the beneficiary after you have passed away. The Asset Protection Trust can last until your child reaches a certain age (50?) or for their entire lifetime. The key is that the beneficiary is only entitled to discretionary distributions of income or principal. Creditors can still get money once it is distributed, but these trusts can prevent creditors from reaching into the trust to satisfy a judgment or bankruptcy scenario.

There are a lot more factors and legal formalities that I can’t cover here, but if this is a concern then you may want to modify your trust to strengthen the asset protection provisions.