When going through a divorce, financial assets are often at risk of being divided between spouses. Many individuals seek ways to protect their wealth and ensure that certain assets remain outside the reach of divorce settlements. One potential solution is an irrevocable trust.
But how effective are irrevocable trusts in safeguarding assets from divorce? The answer depends on when the trust was created, who the beneficiaries are, and how it was structured. Below, we explore how irrevocable trusts work, their role in divorce protection, and key considerations when using them as part of a legal strategy.
How Do Irrevocable Trusts Work?
An irrevocable trust is a legal arrangement where the grantor (the person creating the trust) transfers assets into the trust and relinquishes ownership and control. Unlike a revocable trust, which can be modified or revoked, an irrevocable trust generally cannot be changed or undone without the consent of the beneficiaries and/or a court order.
Key features of an irrevocable trust:
- Asset Protection - Assets held in the trust are no longer legally owned by the grantor.
- Creditor Protection - In some cases, the trust can shield assets from creditors, including a divorcing spouse.
- Estate Planning Benefits - These trusts can reduce estate tax liability and ensure assets are passed to beneficiaries without going through probate.
Key Differences Between Revocable and Irrevocable Trusts in Divorce Protection
| Feature | Revocable Trust | Irrevocable Trust |
|---|---|---|
|
Control Over Assets |
Grantor retains full control and can modify or revoke the trust. |
Grantor gives up control; cannot modify or revoke without beneficiary consent. |
|
Protection from Divorce |
Low - Assets are still considered part of the grantor's estate and may be divided. |
High - Assets are no longer owned by the grantor, reducing their availability for division. |
|
Creditor Protection |
No - Creditors, including an ex-spouse, may access the assets. |
Yes - In many cases, assets are shielded from creditors and divorce claims. |
|
Alimony & Child Support Impact |
Trust assets and income are likely considered in support calculations. |
Distributions may be considered for alimony, but the principal is often protected. |
|
Best Use Case for Divorce Protection |
Not recommended for protecting assets in divorce. |
Recommended if structured properly and established before marriage. |
Can an Irrevocable Trust Protect Assets from Divorce?
1. Trusts Created Before Marriage
If a person sets up an irrevocable trust before getting married, assets placed in the trust are generally considered separate property and may be protected from division in a divorce. Since the grantor no longer owns the assets, they typically do not count as marital property.
However, if the trust is structured improperly-such as allowing direct access to the assets-the court may consider it fair game for division.
2. Trusts Created During Marriage
If an irrevocable trust is established during the marriage, its effectiveness in protecting assets depends on:
- The source of the assets - If marital funds were used, the trust may not offer full protection.
- Who the beneficiaries are - If the spouse is a beneficiary, they may still have a claim to trust distributions.
- Whether there was a prenuptial or postnuptial agreement - If no agreement exists, a spouse may argue that the trust was an attempt to shield marital property unfairly.
3. Self-Settled Trusts vs. Third-Party Trusts
There are different types of irrevocable trusts, and not all provide the same level of divorce protection:
- Self-Settled Irrevocable Trusts - If you create a trust and name yourself as a beneficiary, courts may consider the trust assets as part of your estate in a divorce.
- Third-Party Irrevocable Trusts - If a parent or grandparent establishes a trust for you, the assets may be protected from your divorce, as they were never legally yours.
4. Discretionary Trusts for Asset Protection
A discretionary irrevocable trust gives the trustee full control over distributions. Since the beneficiary does not have guaranteed access to the assets, the court is less likely to view them as marital property.
5. State Laws and Divorce Protection
Each state has different rules regarding the treatment of trusts in divorce. Some states have stronger protections for trust assets, while others may allow spouses to argue that trust assets should be considered in a divorce settlement.
If you are concerned about protecting your assets from divorce, it's crucial to consult with an experienced estate planning attorney to structure your trust correctly.
Limitations of Using Irrevocable Trusts in Divorce Protection
While irrevocable trusts can provide significant protection against divorce claims, they are not foolproof. Courts have ways to challenge and potentially override the trust's protection, depending on the circumstances. Here are some common limitations:
1. Fraudulent Transfer Concerns
If a court determines that an irrevocable trust was created specifically to shield assets from a spouse in anticipation of divorce, it may be considered a fraudulent transfer. In such cases, the court can set aside the trust and include the assets in the marital estate for division.
- Timing Matters: If the trust was created right before or during a divorce, it may raise red flags.
- Intent Matters: If the court finds that the primary purpose of the trust was to deprive a spouse of fair marital assets, it could be challenged.
2. Access and Control Over Trust Assets
If the spouse who created the irrevocable trust (the grantor) still retains significant control-such as the ability to make distributions or alter beneficiaries-the court may consider the assets as marital property.
- Naming an independent trustee instead of the grantor can help avoid this issue.
- If the trust allows direct distributions to the spouse, the court may count them as a financial resource subject to division.
3. Marital Contributions and Commingling
If a spouse contributes marital funds to an irrevocable trust, those funds may be considered joint property, weakening the trust's protection. Similarly, if trust assets were used for marital expenses (such as a shared home), the non-grantor spouse may have grounds to claim an interest in the trust.
4. Court Discretion in Alimony and Support Calculations
Even if an irrevocable trust successfully shields assets from direct division, it does not necessarily protect against alimony or child support obligations. Courts may consider trust distributions as income when determining financial responsibilities.
- If a spouse regularly receives distributions, the court may factor them into spousal support calculations.
- If the trust provides for a child's expenses, it may reduce child support obligations.
How to Structure an Irrevocable Trust for Divorce Protection
To maximize the protection an irrevocable trust can offer in divorce, proper planning and structuring are essential. Here are some key strategies:
1. Create the Trust Well Before Marriage
The best way to ensure protection is to establish the trust long before marriage. If the trust predates the relationship, it is more likely to be considered separate property, making it harder for a divorcing spouse to claim a share.
2. Use a Third-Party Settlor
If a parent, grandparent, or other third party creates the trust and designates you as a beneficiary, it is typically more protected from division in divorce. This is because the assets were never technically yours to begin with.
3. Avoid Naming Yourself as a Trustee or Beneficiary
If you control the trust or benefit directly from its distributions, courts may consider the assets part of your financial resources in divorce proceedings. Instead, appoint an independent trustee who has discretion over distributions.
4. Utilize a Spendthrift Provision
A spendthrift clause in an irrevocable trust prevents beneficiaries from transferring or pledging their interest in the trust to creditors-including a divorcing spouse. This can help ensure that trust assets remain protected from marital property claims.
5. Consider a Domestic Asset Protection Trust (DAPT)
In certain states, Domestic Asset Protection Trusts (DAPTs) allow individuals to create irrevocable trusts for their own benefit while shielding assets from creditors, including divorcing spouses. However, these trusts are only available in specific states and may not be effective if challenged in other jurisdictions.
6. Use a Prenuptial or Postnuptial Agreement in Conjunction with a Trust
While an irrevocable trust can help protect assets, the strongest protection comes from combining it with a prenuptial or postnuptial agreement. These agreements can clarify:
- That trust assets will not be considered marital property.
- That future distributions from the trust will not be included in spousal support calculations.
By legally documenting asset protection strategies, a prenup or postnup reduces the risk of a trust being challenged in court.
When to Consult an Attorney
If you have significant assets and are concerned about protecting them in the event of divorce, it is essential to consult an experienced estate planning and family law attorney. An attorney can:
- Analyze your specific situation to determine if an irrevocable trust is the best strategy.
- Draft a trust with the right protections, such as discretionary provisions and independent trustees.
- Ensure compliance with state laws to minimize the risk of court challenges.
- Coordinate your trust with other legal tools, such as a prenuptial agreement or business structure, for maximum protection.
Contact an Attorney for Irrevocable Trusts and Asset Protection
If you are considering an irrevocable trust to safeguard your assets from divorce or other financial risks, proper legal planning is crucial. At Heritage Law Office, we help individuals and families develop strategic estate plans that protect their wealth for future generations.
Contact us today to schedule a consultation. Call 414-253-8500 or use our online contact form to get started.
Frequently Asked Questions (FAQs)
1. Can an ex-spouse access assets in an irrevocable trust?
In most cases, an ex-spouse cannot access assets held in an irrevocable trust, especially if the trust was properly structured and created before the marriage. However, if the trust was self-settled (meaning the grantor is also a beneficiary) or was funded with marital assets, a court may consider it in the divorce settlement.
2. Can a judge order changes to an irrevocable trust in a divorce?
Generally, a court cannot modify or revoke an irrevocable trust in a divorce. However, if the court finds evidence of fraudulent intent (such as creating the trust to hide assets from a spouse), it may order that trust assets be included in the marital estate or be considered for alimony and child support calculations.
3. Does a prenuptial agreement override an irrevocable trust?
A prenuptial agreement and an irrevocable trust serve different purposes but can work together for stronger asset protection. A prenup can specify that trust assets and any future distributions are separate property, reducing the chances of a court challenge. However, if the trust was not structured correctly, a court could still review it during divorce proceedings.
4. Can an irrevocable trust protect business assets from divorce?
Yes, an irrevocable trust can help protect business assets from divorce, but only if the trust was established before the marriage and the business was properly transferred to it. If marital funds were used to grow the business, an ex-spouse may still have a claim to a portion of its value.
5. Are distributions from an irrevocable trust considered income for alimony?
Yes, courts may consider trust distributions as income when calculating alimony or spousal support. If a spouse regularly receives income from a trust, the court may factor that amount into determining financial obligations, even if the trust itself is protected from division.