Did you ever wonder what happens to most inheritances after they are received? An Ohio State University study determined that those who receive an inheritance spend half. One-third of those who received an inheritance spend it all within two years and end up with negative savings. Unfortunately, a typical inheritance does not provide sustained financial security to many beneficiaries.
What Is a Spendthrift Trust?
A spendthrift trust protects an inheritance against creditors who might seek to seize a beneficiary’s assets to satisfy unpaid debts. If properly drafted, it can also protect an inheritance against divorce and against a beneficiary’s careless spending. Moreover, it provides assistance to beneficiaries who need help managing their finances. But in order to enjoy the protections of a spendthrift trust, a trustee, not the beneficiary has authority to make financial decisions.
The trust preserves the beneficiary’s inheritance for use over an extended period. A trustee manages the trust assets and distributes funds to the beneficiary for their needs and support.
The trust’s terms outline the trustee’s discretion in making distributions, which can be limited or flexible. The creator of the trust, called a “settlor” or “grantor”, may leave the timing and amount of distributions up to the trustee. Or, they may opt to establish a fixed schedule.
These restrictions prevent the beneficiary from squandering the assets.
The Spendthrift Clause
An essential feature of a spendthrift trust is the spendthrift clause, which protects the contents of the trust. Under the clause, the beneficiary cannot satisfy debts with their interest in the trust. Should the beneficiary have debts or a civil judgment against them, the creditors cannot obtain the trust assets.
Why Would Someone Create a Spendthrift Trust?
You may want to provide for a loved one but have concerns about how they will use the money. This is where a spendthrift trust can serve as a suitable option.
Spendthrift trusts can benefit the following individuals:
- Children – Parents often have concerns about how their minor and young adult children will use an inheritance. Minors typically need more life experience to make independent financial decisions. Some parents want to provide for college-age adult children but worry about giving them full access to the funds. Parents can determine when their children receive the funds (for instance, when the child reaches a certain age).
- People who are not good with money – Some adults struggle with financial planning and impulse control. For these individuals, a spendthrift trust can ensure a steady source of support.
- Vulnerable individuals – People who are susceptible to external influences that threaten their financial well-being can benefit from the security and structure of a spendthrift trust. If your loved one has been taken advantage of before, you may worry that they will be exposed to improper influence again.
- Those with addiction disorders – A spendthrift trust could prevent a beneficiary from exhausting the trust fund to support an addiction to gambling, illicit substances, or compulsive spending.
What Are the Benefits and Drawbacks of Spendthrift Trusts?
Spendthrift trusts have several benefits:
- Shielding assets from creditors and lawsuits.
- Providing your loved one steady income stream without allowing them to exhaust the trust through overspending. This can be particularly helpful if you have concerns about your loved one’s ability to make money independently.
- Preserving generational wealth and preventing your loved one from blowing a significant portion of their inheritance.
Yet these types of legal arrangements can also have drawbacks for some.
- They can be expensive to create and maintain. But for many, the cost is worth the benefits, as they protect their loved ones’ financial future.
- Legal disputes may arise. If the beneficiary wants to receive all the funds prematurely, they could challenge it in court. In instances with multiple beneficiaries, they may fight over the contents of the trust.
- As the trustee has significant discretion, the trust can be vulnerable to mismanagement. Selecting a trustworthy individual or entity to serve as a trustee is crucial. A properly-drafted trust will include the appointment of a “trust protector” to monitor and supervise the performance of the trustee and replace the trustee if appropriate. Alternatively, if no suitable person can be found to serve as a trust protector, the trust instrument can include provisions authorizing the beneficiary to replace a trustee under appropriate circumstances.
Consult With Your Attorney
Vasiliadis Pappas Associates have extensive experience with drafting and administration of spendthrift trusts. Call us. We can help you decide if one is appropriate for you and help you set one up.