A spendthrift clause is a provision included in a trust document that restricts a beneficiary's ability to transfer, assign, or otherwise encumber their interest in the trust. The clause is intended to protect the trust assets from the beneficiary's creditors and to prevent the beneficiary from squandering their inheritance through reckless spending or bad financial decisions.
In a trust that contains a spendthrift clause, the trustee retains complete control over the distribution of trust assets. The beneficiary cannot compel distributions and has no control over the timing or amount of distributions. This means that the beneficiary's creditors cannot attach or seize the trust assets before they are distributed. However, once the assets are distributed to the beneficiary, they may become subject to creditor claims unless other protective measures are in place.
Spendthrift clauses may differ in their scope and terms. Some might apply only to voluntary assignments or pledges made by the beneficiary, while others extend to involuntary transfers, such as those arising from legal judgments, bankruptcy, or divorce. The specific restrictions are usually outlined in the trust document and must comply with state laws governing trusts.
While spendthrift clauses offer significant protections, they are not absolute. For example, they generally cannot shield trust assets from claims for spousal or child support or from certain types of government claims. The effectiveness of a spendthrift clause also depends on the jurisdiction's laws, as some states may have limitations on the enforceability of such clauses.
When drafting a spendthrift clause, it's crucial to clearly specify which assets or income are subject to the provision. Ambiguity or vagueness in the language can lead to legal challenges that may undermine the trust's purpose and lead to unintended consequences. For example, if the trust consists of both real estate and financial investments, specify whether the spendthrift clause applies to both, or only to a particular type of asset. Clear, explicit terms can help prevent disputes in the long run, and ensure that the trust operates in the manner you intended.
Example: Sarah sets up a trust for her son, Tim, who has a history of making poor financial choices. The trust contains a spendthrift clause that prevents Tim from accessing the trust assets directly or pledging them as collateral for a loan. When Tim incurs substantial credit card debt, his creditors attempt to reach the trust assets. Because of the spendthrift clause, they are unable to do so. However, when Tim receives a distribution from the trust, that amount becomes fair game for his creditors unless he takes steps to protect it.
By including a spendthrift clause in the trust, Sarah ensures that the assets she leaves behind are safeguarded and used as she intended, maximizing the benefit for Tim while minimizing the risks associated with his financial behavior.
