A spendthrift trust refers to any trust containing a clause where the beneficiary (or multiple beneficiaries) cannot transfer their interests to another party. This simple provision can be enough to bar creditor claims in many instances, but it is only truly effective when other measures are taken to protect assets further.
In addition to a spendthrift clause, the trust can contain a specific schedule of distributions, with the beneficiary unable to access further funds unless they wait. These provisions can prevent the beneficiary from accessing too much of the money at one time, reducing the risk that the money will be misused.
If your goals are to reduce misuse of trust funds, protect assets, or some measure of both, reach out to New Mexico Financial & Family Law. We can provide you with a New Mexico spendthrift trust attorney to review your portfolio, listen closely to your goals, and help you create the best possible estate plans to make those goals become a reality.
Schedule a no-obligation consultation and estate plan review when you call us at 505-503-1637 or contact us online today.
A spendthrift trust can be created during your lifetime, or one can be created at the time of your death using a testamentary trust arrangement. Often, these trusts are irrevocable since a trust creator (called a grantor) might otherwise be forced by a court order to access trust assets to repay debts.
Because many spendthrift trusts are irrevocable or created after the grantor’s death, the grantor should think carefully about their goals and consider a wide range of possibilities. With careful planning, a spendthrift trust can protect the people you care about while still ensuring that they have access to the funds they need to live a comfortable and healthy life.
When you come to New Mexico Financial & Family Law, we will begin the trust planning process with a thorough review of the assets you intend to transfer to the trust. Your New Mexico trust attorney will consider your objectives and go over any concerns you may have regarding future scenarios.
At the conclusion of your consultation, we will make tailored recommendations based on your specific challenges, objectives, fears, and potential risks.
It is important to remember that no one can predict the future with any certainty. The more you restrict the usage of the funds in the trust, for example, the more likely it is that your beneficiaries will not receive the full benefits of the trust as you intended.
In theory, your beneficiary may be unable to make wise investment decisions if they are limited to what is basically a small allowance on an infrequent basis. On the other hand, large disbursements from the trust could encourage frivolous behavior, with the beneficiary becoming reliant on trust distributions because they are unable to develop a sense of financial responsibility.
Your New Mexico spendthrift trust lawyer will help you consider all of these scenarios while offering personalized recommendations. For instance, we may suggest that your trust includes a spendthrift clause but allows for additional disbursement for emergencies at the discretion of the trustee.
By thinking in advance and considering all of the possibilities, you can maximize the chances that your intended outcome will come to fruition. Your spendthrift trust can then be capable of supporting your loved ones without jeopardizing their ability to remain industrious and independent.
A trust comes into existence when the grantor transfers assets into it. The trust may be funded at a specific time, such as when the grantor retires or at the time of the grantor’s death, through what is known as a testamentary trust.
The grantor will also appoint a trustee to oversee it, manage its funds, and ensure that distributions are issued to beneficiaries.
With a spendthrift trust, the appointment of a reliable, intelligent, and informed trustee with sound judgment is particularly important. The trustee may be instructed to examine the beneficiary’s lifestyle and income needs and distribute an appropriate amount based on their assessments.
In many cases, the trustee may be given discretion over distributions, or they may be required to limit distributions based on the actions of the beneficiary. For instance, a trustee may be instructed to only provide distributions from a trust if the beneficiary maintains a specific grade point average at a higher learning institution.
The beneficiary may even be required to submit to a drug test to rule out the possibility of funds being used to sustain an addiction.
Because the trustee should have excellent judgment and an unbiased view, the grantor should consider appointing a neutral third party, such as a professional attorney, accountant, financial manager, or specialist in a firm that manages trusts.
The key characteristic of a spendthrift trust is the spendthrift clause (sometimes called a spendthrift provision).
A spendthrift clause basically states that the trust itself is the permanent and sole owner of the trust’s assets, until such time as they are distributed to the beneficiary. This designation prevents the beneficiary from legally transferring ownership interest of any of the assets to another party.
It can also prevent another party from legally forcing the beneficiary to transfer their interest to someone else.
What this provision does is prevent any situation where a distribution (or all distributions) could be promised to a non-beneficiary in advance. Instead, the beneficiary has to receive their distribution, and only then can they give the money to someone else or have the money taken as part of a creditor claim.
Without these protections, creditors could potentially access funds in the trust directly or designate future distributions to be transferred to them in an arrangement similar to wage garnishment.
A spendthrift clause can also block a beneficiary from basically trading their future interest in a trust for cash or assets now. This ability can prevent the use of future trust distributions as a form of payment for transactions like a home purchase or cash loan.
A spendthrift clause can only protect against certain types of creditor claims.
According to New Mexico law (NM Uniform Trust Code Article 5 §502(C)), if the spendthrift trust bars both voluntary and involuntary transfers of a beneficiary’s interest, then “a creditor or assignee of the beneficiary may not reach the interest or a distribution by the trustee before its receipt by the beneficiary.”
However, the law also provides a number of exceptions. According to §503 (b) and (c), a spendthrift trust created in New Mexico cannot prevent claims related to:
Note, also, that any distributions made to the beneficiary are fair game for creditors to access.
Technically, nearly any type of trust can include a spendthrift clause, including both revocable and irrevocable trusts.
However, if a grantor has access to a revocable trust, then they could theoretically be forced to make a transfer by changing the terms of the trust per a court order. While this scenario is not likely, it is possible, so many spendthrift trusts are irrevocable, leaving the trustee with the sole power to make a distribution.
Examples of possible trusts that can include a spendthrift clause include a:
Notably, some informational sources incorrectly state that a spendthrift trust is mutually exclusive from a discretionary trust. In fact, both types of trusts can be combined in order to provide maximum protection of assets from misuse or creditor claims — although these overlapping protections may not be necessary.
In a discretionary trust, the trustee has sole discretion to make distributions from the trust. They may be given suggestions, known as standards of distribution, such as a request to pay a beneficiary a certain amount at the beginning of every month.
Since the trustee has sole discretion in making distributions, they cannot be forced by any third party to pay a beneficiary so a creditor can recover money owed. Again, there are exceptions to this protection if the claim is related to child support, spousal support, and certain federal and state claims.
In addition, if the trustee has been found to have abused their discretion, the beneficiary may be able to order a distribution if it is in line with the standards of distribution given to the trustee (NM Uniform Trust Code Article 5 §504 (2)).
By including both a spendthrift clause and giving the trustee extensive discretionary powers, a grantor can build in multiple layers of protection for the assets against misuse or creditor claims.
Using both may not be necessary in order to achieve these goals, however, so review your intentions with a New Mexico spendthrift trust lawyer to ensure that your trust uses an efficient structure with only as much administrative overhead and legal complexity as is necessary.
Any spendthrift trust that is created during the grantor’s lifetime will have the effect of removing the assets contained within it from the grantor’s estate, regardless of whether the trust is revocable or irrevocable. These assets will then avoid probate.
On the other hand, if the trust is created through a testamentary provision, then the assets must first pass through probate (potentially fielding creditor claims or a will contest) before they can be transferred into the trust.
Yes, a grantor can designate themself as the trustee or co-trustee of the trust during their lifetime.
However, this arrangement may not be advisable. For one, the grantor may be subject to emotional or psychological pressures that would not affect a third party since they would know the beneficiary personally.
In addition, some claims can be so far-reaching as to compel a grantor to make a distribution to the beneficiary so that a debt can be repaid. While such an event isn’t likely, grantors wanting to protect the assets from creditor claims may elect to create an irrevocable spendthrift trust with a neutral third-party agent or organization named as trustee.
All income transferred to the beneficiary must be reported as individual income on their yearly tax return.
For income that remains in the trust, the trustee (or an appointed professional) must file a tax return for the trust, declaring the income and paying taxes on it at the trust tax rate. Because spendthrift trusts restrict access to trust assets until a distribution is made, they are likely to generate income that must be accounted for within the trust’s tax filings.
Note that trusts pay taxes at a higher rate in lower brackets than individuals, so this arrangement can lead to a higher tax burden than if the income was guaranteed for use by the trustee. Accordingly, you may decide to balance guaranteed distributions with instructions to withhold money in the trust so as to control the amount of trust-retained income and the resulting tax burden.
Between their ability to prevent abuse by beneficiaries and block creditors from getting at the entire contents of the trust, New Mexico spendthrift trusts have many advantages. Creating one can be an ideal choice for families, especially in situations where the trustee is a younger person or someone who may need help making responsible financial choices.
New Mexico Financial & Family Law is eager to discuss your opportunity to set aside a legacy for your loved ones — while avoiding some of the pitfalls that can come with it. Call us at 505-503-1637 or contact us online today to schedule your no-obligation discussion with an experienced New Mexico spendthrift trust attorney.
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