A Story of Family Financial Planning and Asset Protection in New York
Imagine a couple, Mary and John, who have been married for over 30 years. They have built a comfortable life together in New York, raising two children and nurturing their successful small business. As they approach retirement, they start to think about their legacy and how to ensure that their hard-earned assets provide for their family in the years to come. This leads them to a crucial decision: establishing an Irrevocable Spousal Trust (IST).
Why Mary and John Considered an IST
One evening at their kitchen table, Mary and John discuss their financial future and how they can protect their assets from potential threats. They worry about college tuition bills for their children, unexpected medical expenses, and, most importantly, ensuring that their family wealth remains intact should one of them pass away first.
Mary recalls overhearing a friend discussing the benefits of an Irrevocable Spousal Trust. Intrigued, she researches it further. They learn that an IST allows them to transfer their assets into a trust that benefits the surviving spouse while keeping those assets out of their taxable estates upon death. This means they can reduce the amount of estate taxes their children could face in the future, benefiting their family long-term.
How the Irrevocable Spousal Trust Works
Mary and John consult with an estate planning attorney who explains how an IST operates. They can fund the trust with various assets, such as cash, investments, or their business interest. The attorney emphasizes that once the assets are placed in the trust, they cannot be retrieved by either of them—hence the “irrevocable” nature of the trust.
**Example**: If they transfer their family home, valued at $500,000, and some stocks worth $250,000 into the IST, these assets will no longer be part of their taxable estate.
This strategy potentially saves their family from significant estate tax bills, especially if the assets appreciate over time.
The Benefits of Irrevocable Spousal Trusts
1. Tax Benefits
By transferring assets into the IST, Mary and John can leverage the current estate tax exemption of $11,580,000 per individual, allowing them to shield their family wealth from federal estate taxes.
2. Flexible Structuring of Beneficial Interests
Couples can customize ISTs to suit their financial goals:
– The spouse may receive direct benefits throughout their lifetime.
– Upon the spouse’s death, the trust may empower the surviving spouse to allocate assets among children or charities.
**Example**: If the trust generates rental income from a property it holds, Mary can receive this income during her lifetime without jeopardizing the trust’s status or tax implications.
3. Protection Against Estate Taxes
An IST can protect family wealth from estate taxes, maximizing resources available for heirs.
Limitations of Asset Protection in an IST
1. Understanding New York Law on Spendthrift Trusts
New York does not recognize self-settled spendthrift legislation; therefore, the assets within an IST are not as protected from creditors as some might hope. Under New York law, specifically § 7-3.1(a) of the Estates, Powers and Trusts Law, any trust established for the benefit of the creator is deemed void concerning creditors.
This means that although New York recognizes the validity of spendthrift trusts to protect third-party beneficiaries, they will not shield the assets if the settlor is also a beneficiary. The law prohibits the creation of such trusts for the purpose of creditor protection, making it clear that creditors may reach the assets of an irrevocable trust as part of the settlor’s estate.
2. Implications from the Uniform Voidable Transactions Act (UVTA)
The Uniform Voidable Transactions Act (UVTA) outlines that the validity of a self-settled spendthrift trust is judged by the laws of the jurisdiction where the settlor resides. Notably:
– In re Portnoy (201 B.R. 685, Bankr. S.D.N.Y. 1996)
– In re Brooks (217 B.R. 98, Bankr. D. Conn. 1998)
– In re Lawrence (227 B.R. 907, Bankr. S.D. Fla. 1998)
These cases highlight that the courts struggle with recognizing the validity of such trusts under New York law.
3. Protection from Creditors
For residents of New York hopeful that an IST will safeguard against third-party lawsuits or creditor claims, it is critical to grasp that while ISTs can protect assets posthumously, they do not shield the grantor’s assets from creditors during their lifetime.
The Restatement (Second) of Conflict of Laws § 270 reinforces this by stating that a trust’s validity is determined by the law of the state chosen by the settlor, as long as this application does not conflict with the strong public policy of another jurisdiction. Courts in New York have upheld that the validity of self-settled spendthrift trusts is not recognized, meaning if an individual tries to use an IST for self-protection against creditors, they will likely find their assets still exposed.
4. Limited Accessibility and Control
Once assets are placed in an IST, the grantor sacrifices ownership, control, and access. This irrevocability means the trust cannot be altered or revoked, which can pose significant challenges should financial needs arise. If unforeseen expenses occur—such as medical bills—there is no option to reclaim those assets for personal use.
5. Medicaid Considerations and Asset Eligibility
As they finalize their estate plan, they also consider how the IST might affect eligibility for Medicaid or other government benefits. Because the assets are no longer accessible to them, they could still impact their qualifications for financial assistance programs in the future.
Questions Mary and John Should Ask
Understanding the limitations on asset protection prompts Mary and John to think critically about their estate planning. They recognize that estate planning and asset protection planning are distinct areas of law, analogous to how brain surgery and heart surgery require different specialists. To ensure they receive comprehensive advice tailored to their needs, they should ask their attorney the following questions:
1. What other asset protection strategies such as a Hybrid Asset Protection Bridge Trust can we implement alongside the IST to safeguard against third-party creditors?
2. Are there different types of trusts that might offer better protection from creditors than an Irrevocable Spousal Trust?
3. How can we structure our trust to ensure that it meets our goals while adhering to the legal requirements in New York?
4. If I am a beneficiary of this trust, what implications does that have on the potential exposure of trust assets to creditors?
5. What steps can we take to mitigate risks, such as setting up additional layers of protection or utilizing different jurisdictions?
6. How will the establishment of this trust affect our eligibility for Medicaid or other government assistance in the future?
7. What should we do if we face a significant unexpected expense—how do we handle access to funds within the trust in such situations?
This distinction underscores the importance of consulting the right specialists in asset protection law. What may work well for estate planning and tax mitigation could be inadequate for protecting assets from creditors and third-party lawsuits.
In addition, it’s worth noting that the New York State Bar Association (NYSBA) has published extensive resources on Asset Protection Trusts, providing a wealth of information and guidance on the subject in New York. For further reading, you can reference their article on the topic [here] https://nysba.org/NYSBA/Meetings%20Department/Section%20Meetings/Trusts%20and%20Estates/TRUSSP18Materials/Panel%206%20-%20Shoo%20Creditors.pdf
Now Mary and John can make an informed decision on what is best for their family and needs. They know the benefits of ISTs for estate planing and taxes, and well as NY limitations to the legal landscape as it relates to asset protection.
If you’d like to learn more about asset protection strategies and The Bridge Trust® contact our asset protection law firm today at (888) 773-9399 and speak with an asset protection lawyer. We’re here to help you secure your financial future.
By: Brian T. Bradley, Esq.