The Distribution Trustee: How Bifurcating Trustee Duties Can Provide Control and Protection

A paramount goal of estate planning is to protect and preserve your hard earned assets for your loved ones.  Most basic estate planning focuses upon specifying the beneficiaries of your choice, mitigating taxes, and providing an efficient method for the transfer of assets upon death without the unnecessary delay and expense of a formal probate.  A revocable living trust is often the best vehicle for accomplishing these goals.  However, most basic estate plans focus only on the transfer process and do not focus on providing continued protection after your beneficiaries have received their inheritances.    

To provide continued protection for your beneficiaries, you might want to consider providing an “in-trust” inheritance.  Instead of providing that your trust distributes your assets to your beneficiaries outright and free of trust upon death, your trust could provide that separate trusts are established for each of your beneficiaries.  In most states it is generally not feasible to execute your own trust with your own assets for own asset protection purposes.  However, in most states you are generally able to provide third parties with asset protection if you execute and fund the trust on their behalf.  An “in-trust” inheritance takes advantage of this planning opportunity in an effort to provide continued protection for your beneficiaries even after your death.  The degree of asset protection, however, depends upon the identity of the trustee.

The best asset protection for “in-trust” inheritances is to name an independent third party as sole trustee.  Depending upon the distribution provisions, this arrangement makes it extremely difficult for the beneficiary’s creditors to be able to attack the inheritance.  The cost for this protection, however, is the loss of direct control by the beneficiary.  If your beneficiaries do not have any immediate creditor problems, the likely asset protection against possible future creditors is not worth the sacrifice of direct control by the beneficiary.

In an attempt to provide both direct control and asset protection when needed, an “in-trust” inheritance could instead be drafted to name the beneficiary as the sole trustee of the trust and to provide extensive successor trustee provisions.  The idea behind this arrangement is to give the beneficiary control while there are no creditor problems but to provide a mechanism whereby the beneficiary will appoint a co-trustee or resign as trustee if creditor problems later develop.  Although this arrangement provides much less creditor protection than having a third party trustee, the arrangement is still better than an outright distribution and the beneficiary retains full control unless and until creditor protection is needed.  

Some practitioners worry that having a beneficiary as a sole trustee might not provide enough creditor protection, particularly if the beneficiary fails to resign as trustee in time when the prospect of a creditor claim arises.  A third option is to bifurcate the trustee’s duties into two categories: administration and distribution.  The beneficiary would be named as the trustee on title of his or her trust and would have full authority to manage the assets of the trust, including making decisions on how to invest the assets.  However, before being able to distribute any of the trust’s assets, such as to purchase a new car for the beneficiary, an independent third party would serve as a “distribution trustee” and would have to authorize in writing each distribution.  The idea would be that the distribution trustee would likely authorize most trust distributions at the beneficiary’s request but in the event of a creditor claim, the distribution trustee would refuse such authorization.  

Although most trust-makers do not like the idea of giving total control to a third party trustee to protect their beneficiaries from future possible creditors, the idea of using a distribution trustee to balance between their dual interests in providing a stronger degree of creditor protection while simultaneously giving the beneficiaries greater control makes this concept appealing.  Use of distribution trustees is becoming more popular as practitioners and their clients get more comfortable with this creative concept.    

KRASA LAW, Inc. is located at 704-D Forest Avenue, Pacific Grove, California 93950 and Kyle may be reached at 831-920-0205.

Disclaimer: This article is for general information only.  Reading this article does not establish an attorney-client relationship.  Before acting on any of the information presented in this article, you should consult a competent attorney who is licensed to practice law in your community.