My Brother is Bankrupt: Can his Creditors Seize our Family Trust?

siblings

Unfortunately, many families go to battle over inheritance money every day, which only underlines the importance of having a solid Estate Plan in place. Your Estate Plan can help your surviving family members remain united instead of divided and can eliminate a lot of stress for all who are involved in dividing up your assets.

What happens, though, when one sibling (or beneficiary) declares personal bankruptcy (Chapter 7) if there is a family trust involved? Can this sibling’s creditors seize part (or all) of the funds and property that is named in the family trust?

One of the main reasons trusts are set up are specifically to avoid the creditors or a bankruptcy of a child or beneficiary. However, the trust in question must have been set up correctly, utilizing the correct language in order for it to be completely safe if a bankruptcy occurs.

A spendthrift trust, under New Jersey law, is often set up specifically so that bankruptcy trustees cannot access any of the trust’s funds or assets. A spendthrift trust is a type of trust that is established to help keep the trust’s money safe from a beneficiary with either a lot of creditors or a spending problem. This type of trust is typically initiated by someone who wishes to include someone in their will, but also wants to ensure that the beneficiary in question won’t spend it all at once or have it all taken by creditors due to a bankruptcy.

Rather than giving this beneficiary direct access to the trust funds, a spendthrift trust prevents him from spending all of the money or promising it to someone else (in this case his creditors). In order for the sibling in question to receive any monies from the trust, he will typically be paid in installment payments or in the form of goods and services that are property of the trust.

Reasons for setting up a spendthrift trust are usually one (or more) of the following:

  • A beneficiary who has a history of making poor financial choices;
  • A beneficiary who suffers from an addiction of any kind, as addictions require high amounts of money to maintain.
  • A beneficiary who is easily tricked or may have mental problems that prohibit him from making sound money decisions;
  • A fear that the beneficiary in question may file for bankruptcy (if  he hasn’t already) at some point in the near future

Naturally, you’ll want to confer with an experienced bankruptcy attorney who also does estate planning work in order to decide if a spendthrift trust is the right decision for your family.

The only way creditors would have access to any portion of a family’s trust funds would be if the grantor (likely one of the parents in the scenario set out here) passes away less than 180 days after one of the siblings (beneficiaries) files for bankruptcy. In this case, only that sibling’s funds would be touched, and he would lose half of his interest in the trust in order to help repay his priority and unsecured debts. The rest of the trust funds would not be affected.

 

Image credit: Renee

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