How Protected Are Trust Assets?
Florida law provides that certain types of assets are exempt from creditor claims. It is well known that homestead property is exempt from creditor claims. Other assets, such as life insurance, annuities, prepaid tuition plans and retirement accounts, are exempt as well. No special formalities are required to obtain these exemptions. A debtor simply has to own one of these assets in order to claim the exemption.
The problem that confronts many people is how to protect other types of assets. For example, how might someone protect cash, money market accounts, mutual funds, stocks or bonds? These types of assets are appealing to creditors because they are highly liquid and are not protected under Florida law.
In many instances, the best way to protect these types of assets is to place them into a creditor protected trust. Florida law specifically provides that an interest in a trust is protected if the trust contains a “spendthrift provision”. A “spendthrift provision” is a trust term that restricts a beneficiary from making transfers of trust assets before they are distributed. Almost every trust in Florida contains this provision, thereby making the assets of most trusts beyond the reach of creditors.
The asset protection benefits of a trust may be undone if the trust requires mandatory distributions. For example, many trusts require that assets be distributed once a beneficiary reaches a certain age or attains a certain goal (such as graduating from college). Once a distribution is made to a beneficiary, however, creditor protection is lost. Creditor protection is optimized when a trust is a “discretionary trust” (i.e. a trust whose terms provide that all distributions are subject to the trustee’s discretion). Under Florida law, a creditor may not compel a distribution from a discretionary trust.
It is important to add several words of caution. A transfer to a trust can be undone or reversed if it is in violation of Florida’s fraudulent transfer laws. In addition, Florida law provides that a creditor can reach assets in a trust to the same extent that the settlor (i.e. a person forming a trust) can reach those assets. For that reason, assets placed in a revocable trust are subject to the claims of the settlor’s creditors during his or her lifetime. With respect to assets placed in an irrevocable trust, a creditor of the settlor may reach the maximum amount that can be distributed to or for the settlor’s benefit. In certain situations, however, it may be possible to structure an irrevocable trust so that assets may be returned to the Settlor and still remain creditor protected. Please feel free to contact me for more information.