How to protect your children’s inheritance from divorce, creditors, and lawsuits

Family in front of home

As divorce rates rise and society becomes increasingly litigious, asset protection has become an increasingly important aspect of estate planning. While most people understand the more common estate planning goals such as probate avoidance and limiting estate tax exposure, did you know that a carefully tailored estate plan can also provide asset protection for your children’s inheritance?

Outright Distribution

If your children receive their share of your estate as an outright distribution through either a will or a living trust, it may be subject to claims of divorcing spouses, plaintiff’s attorneys, and creditors. It is a parent’s worst nightmare to imagine the fruit of their life’s work falling into the hands of an adult child’s estranged spouse. Equally alarming is the thought that your child may lose his or her inheritance to creditors or lawsuits.

The Solution

Create asset protection for your children’s inheritance by establishing a living trust with built-in separate share trust provisions. This type of arrangement is commonly referred to as a lifetime inheritance trust. Instead of providing for outright distributions to children, the terms of your trust will cast the gift in the form of a separate share trust for each child. There are two primary ways to accomplish asset protection at the level of a child, dependent on the child’s level of financial responsibility.

  • Spendthrift Trust

Webster’s Dictionary defines a spendthrift as “a person who spends improvidently or wastefully.” In other words, your child spends money like a megabucks lottery winner. For a spendthrift child, the lifetime inheritance trust is structured with someone other than the child named as trustee. This is often a corporate trustee such as a bank or trust company. The trustee is given broad discretion to make trust distributions based on the child’s health, support, education, and maintenance. A spendthrift trust ensures your child will not blow through his or her inheritance and protects trust assets from the reach of creditors.

  • Beneficiary Controlled Trust

For more financially responsible adult children, the lifetime inheritance trust can be structured as a beneficiary controlled trust. This type of trust is typically designed to permit the child to become trustee after reaching a certain age. This allows the child to maintain complete control of trust assets (including distributions), while providing creditor protection, so long as the assets are held in trust.

Start Planning Today

Unless the size of the estate is too small to warrant the additional complexity, I typically advise my clients to include provisions creating lifetime inheritance trusts. If you are going to spend the time and money on an estate plan, why not take the extra step of providing asset protection for your legacy?

For more information on creating or updating your estate plan to incorporate asset protection provisions, contact Jesse Beier at 612.336.9339 or jbeier@lommen.com.