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Benefits of a Trust

If you are a beneficiary of a trust, and you are looking to eliminate debt, you may be able to retain the benefits such a trust. The Bankruptcy Code defines what is subject to the bankruptcy estate under 11 USC 541. Property of the estate is subject to a trustee sale and distribution in a Chapter 7.

The Bankruptcy Code provides a exception to its broad definition of property belonging to the estate. This exception excludes from the bankruptcy estate a debtor’s interest in property that contains “a restriction on the transfer of a beneficial interest of the debtor in a trust that is enforceable under applicable nonbankruptcy law.” Courts, after examining the legislative history of this provision, have concluded that Congress intended by its reference to “applicable nonbankruptcy law” to exclude from the estate only those “spendthrift trusts” traditionally beyond the reach of creditors under state trust law. Thus, property determined to be a spendthrift trust under state law is excluded from the bankruptcy estate under Code section 541(c)(2). This exception from the estate applies in both states that use federal and state bankruptcy exemptions.

Under California law, a spendthrift, support, or other similarly protective trust is, generally, a trust created for the purpose of providing a fund for the maintenance of another and at the same time securing it against the beneficiary’s own improvidence or incapacity. The object is to assist an individual who is seen as incapable of wisely directing his or her own financial affairs. A spendthrift trust is one in which the creator of the trust provides that the beneficiary’s interest is not subject to transfer by the beneficiary or to involuntary transfer through any process at suit of his or her creditors.

If you have the ability to change the trust, or have freedom to obtain the funds in the trust, it will be part of the estate, and subject to the creditor distributions. If, on the other hand, you are a beneficiary of a trust that is only for your support, and there is a trustee managing the assets, you likely can protect your interest in that trust under Section 541 of the Bankruptcy Code.