The spendthrift trust is an irrevocable trust which is managed consistently by the designated trustee, from its creation until the time of the trustor’s death. Many of the other different types of trusts would close down once the trustor has died. However, with a spendthrift trust the assets will not be immediately distributed — instead the trust remains open per the provisions that have been outlined.
The main reason for this type of trust is that it allows you to identify when and how assets will be distributed to the beneficiaries. The idea for this is to try and prevent the assets from being misused in some way — if you suspect that this could be the case. If you have fears about your heirs running through their inheritance in a short period of time, a spendthrift trust would be a good solution to help ease these concerns.
How Does A Spendthrift Trust Work?
A spendthrift trust operates through the same mechanisms as other trusts — it involves the same parties and is created in similar fashion. The main caveat is that instead of having direct access to the trust, the beneficiary receives benefits via the trustee. This could be a regular payment or some sort of goods or services bought for the beneficiary through the trustee.
Similar to any other trust, a spendthrift trust has the following parties involved:
- A Trustor: Someone who creates the trust and sets up the spendthrift provisions on behalf of the Beneficiary
- A Trustee: Someone who manages the trust on behalf of the Beneficiary from creation until end of the trusts terms
- A Beneficiary: Someone who has been designated as the main recipient of the trusts assets
Who This Type Of Trust Is For?
Someone young or someone irresponsible with money/life choices. With this trust, you can make sure that the funds last for a much longer period of time.
Who Is This Type Of Trust Not For?
You cannot name yourself as beneficiary in order to avoid creditors. You cannot shield yourself from claims made as this is against the law.
How It’s Created
A spendthrift trust is created similarly to any other trust. The main difference is that it must include a specific spendthrift trust provision. In the provision, you detail how the trustee is to control the access of the trust by the beneficiary.
Different states may have their own rules about spendthrift trusts. For example — some debts like child support, spousal support or government claims may be exempt from the typical trust rules. For advice on the specifics of these exceptions, it is best to contact an estate planning professional or financial advisor.
Reasons To Create A Spendthrift Trust
The leading reason someone would create a spendthrift trust is If you think your funds will be misused by your heirs. The precautionary step would be to try to get ahead of this costly misstep by establishing this type of trust in the best interest of your beneficiary. Let’s take a look at a useful scenario.
Hypothetical situation — you leave your lone son an inheritance of $3M dollars, but he is kind of inept with money or has many debts. You can make the terms of the trust state that he can draw 4% on this as income annually — which would come out to $120,000. Your son cannot pledge to take on debt using the $3M trust assets as collateral. If he took out a mortgage or other loans that would be in excess of what that annual income could cover — the creditors would not be able to come after his assets that are within the trust.
Pros and Cons Of Spendthrift Trusts
As with any type of trust, there can be both benefits and downsides associated with them. Let’s review what each are with this type of trust.
Pros of A Spendthrift Trust
This type of trust is a great tool for a person who wants to ensure long term stability for their family. If you see potential for your life’s work to be thrown down the drain in a very limited time, prevent this from happening with this type of trust. Some of the other pros for this type of trust include:
- The originator of the trust gets to determine how these payments are executed — you can provide control for the lifetime of the trust
- Since the funds technically belong to the trust, not the beneficiary — creditors cannot gain access to them
- Protect your heirs from themselves — If they are not adept with money, in debt already (or susceptible to falling in debt), or have issues that could lead to wasted money (addiction, greedy spouse, etc.)
Cons of A Spendthrift Trust
Depending on which side of the trustor/beneficiary relationship you are on, the cons could be a difference of opinion. Limited access to the account could be looked at positively for the trustor, and negatively for the beneficiary. Some of the other cons for this type of trust include:
- Beneficiary cannot get access to, or promise assets to anyone else, outside of the predetermined arrangements within the trust
- This type of trust is Irrevocable. The originator cannot gain access to the assets once they are placed in this trust
- Ongoing trust maintenance costs
Final Thoughts: Start Planning Your Estate
Research shows that people who gain an inheritance lose half of it due to bad investing or poor spending choices. This fact itself is reason enough to consider a spendthrift trust, even if you think your heir has decent judgement. However, if your loved ones are irresponsible with money, a spendthrift trust would be a good consideration. This puts restrictions on the principal for the beneficiary.
With your help, this will help save your beneficiary from harming their long term financial future. It is important when deciding whether to establish this type of trust to enlist the help of a professional. No matter what you think is for the best, getting advice never hurts. We suggest reaching out to financial advisors with questions regarding spendthrift trusts and how they help you and your family.