Third-Party Irrevocable Trusts: The Forgotten Asset Protection Tool

Piggy Bank Surrounded by Barbed Wire Representing Third Party Irrevocable Trust

If you have accumulated significant assets during your lifetime, you may be thinking about the best way to preserve them from future creditors, including lawsuit creditors. A third-party irrevocable trust could be the answer, but it's not right for everyone. How can you tell if it is best for your asset protection needs?

First of all, what is a third-party irrevocable trust? Let's break down the name. Any trust involves a person creating the trust (the grantor) entrusting property to someone (the trustee) to manage for the benefit of someone (the beneficiary)

If a trust is a "third-party" trust, that means that the grantor who is creating and funding the trust is not the beneficiary; in other words, unlike an Ohio Legacy Trust, the trust is created and funded by a third party. If the third-party trust is irrevocable, that means that the grantor cannot revoke the trust (at least not without permission of all beneficiaries) and take back the assets in it. So, although an irrevocable third-party trust has advantages we will discuss below, you should be very, very certain about your plans before you commit assets to a third-party irrevocable trust.

Still confused? Let's look at an example. Suppose you create an irrevocable trust and name your spouse as trustee and beneficiary. If you get sued, no judgment creditor can attach the funds you placed in the trust. In certain circumstances, you can even give your spouse or descendants the power to appoint trust assets to you during your lifetime. Oftentimes, these third-party trusts are not used for estate tax purposes but instead are purely for asset protection.

What Are the Advantages of a Third-Party Irrevocable Trust?

As far as asset protection is concerned, the primary advantage of a third-party irrevocable trust is that it removes assets from your ownership, so that they cannot be reached by creditors.

One note about using irrevocable trusts to protect against creditors: depending on your circumstances, this move may not be effective. If you already owe a judgment debt, have a lawsuit pending against you, or have committed an act for which you could have liability, transferring money into the trust will likely be viewed by a court as a fraudulent conveyance. That said, if you are a professional such as a doctor or lawyer, who faces a nebulous but real risk of some future malpractice suit, a third-party irrevocable trust would put assets beyond a future judgment creditor's reach. Not only can a third-party irrevocable trust protect assets from your potential creditors in the future, but from your children's and grandchildren's. These trusts contain a "spendthrift" clause preventing beneficiaries from assigning trust assets to creditors before they have been distributed to beneficiaries.

How Can I Create a Third-Party Irrevocable Trust?

Third-party irrevocable trusts are more complicated than the revocable living trusts that many people have. With a third-party irrevocable trust, you are giving up ownership and control of what is likely a significant amount of property. In return for that sacrifice, you want to be certain that you are getting all of the benefits you intend.

In other words, even more than most estate planning, this is not a do-it-yourself project. Speak with an attorney who is experienced in creating this particular type of trust. You need to be fully aware of whether a third-party irrevocable trust will meet your intended goals, and what you are giving up in order to achieve those goals.

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Categories: Trusts