In a recent case (Tannen v. Tannen, Dec. 8, 2011), the New Jersey Supreme Court upholds a decision that a trust created for Wendy Tannen by her parents should not be considered in determining the amount of alimony her ex-husband must pay. While the decision is only binding in New Jersey, it is relevant nationwide.
Many of our clients choose to protect the inheritances they leave their children in trust for their benefit rather than outright in order to shelter the funds from creditors, in the event of divorce, or for the grandchildren if children die early. In our practice, we call these "Family Protection Trusts."
In Wendy Tannen's case, her parents created such a trust for her benefit during their lives with themselves and Wendy serving as co-trustees. The trust provides, in part:
The Trustees shall pay over to or apply for the benefit of the beneficiary's health, support, maintenance, education and general welfare, all or any part of the net income therefrom and any or all of the principal thereof, as the Trustees shall determine to be in the beneficiary's best interests, after taking into account the other financial resources available to the beneficiary for such purposes that are known to the Trustees. . . . The time or times, amount or amounts, manner and form in which said distributions shall be made, or sums so expended, shall be left to the sole discretion of the Trustees and shall be made without court order and without regard to the duty of any person to support such beneficiary.
Trusts, in general, may described as "support" trusts, where the trustee is obligated to pay for the beneficiary's support, or as "discretionary" trusts, where all distributions are up to the trustee's discretion. This trust, however, is a hybrid because it combines both support and discretionary language. In addition, the court's job was complicated by the fact that Wendy serves as co-trustee, meaning that she can help decide whether to make distributions to herself.
The trial court determined that the trust is required to cover Wendy's basic support and as a result limited the alimony her ex-husband would have to pay. The appeals court, however, reversed finding that Wendy could not make distributions to herself without the consent of the other trustees (her parents). In the most recent decision, the New Jersey Supreme Court upholds this decision.
However, this is a close call and could go differently in states other than New Jersey. Safer approaches for drafting family protection trusts would include the following provisions:
Making them purely discretionary so that the beneficiary cannot compel distributions.
The beneficiary not serving as trustee.
Or, in the alternative, the beneficiary may serve as trustee but have no control over discretionary distributions.
One common solution many of our clients choose is to permit the child to manage the trust and have control over distributions of income, but not of principal. Since these trusts are often considered as safety nets for the beneficiaries, it works if they simply have the power to appoint additional trustees when and if they need access to principal.