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1. What is an Inheritance Protection Trust?
An Inheritance Protection Trust is an irrevocable trust established through a deceased person’s estate plan typically for benefit of a surviving child. Although the term “Inheritance Protection Trust” could generally describe many types of beneficiary trusts, it usually refers to a trust established for a responsible adult beneficiary who is willing and able to manage an inheritance. This type of trust is usually drafted to continue for the lifetime of the beneficiary (or until all assets have been spent), rather than end at a predetermined time or age of the beneficiary. The beneficiary is usually named as sole trustee of the trust and is given the right to name an independent trustee, if desired; thus, an Inheritance Protection Trust is commonly described as a “beneficiary-controlled trust.” An Inheritance Protection Trust is used as an alternative to outright distribution when the amount of inheritance is expected to be substantial (generally more than $100,000 per non-spouse beneficiary). Its protective features are promoted as benefits to the beneficiary, not the trustor, because the trust is usually established after the trustor's death. But it is possible to establish and fund an Inheritance Protection Trust during the trustor's lifetime by having the trustor make irrevocable lifetime gifts into the trust. This is relatively uncommon because the usual incentive for gifting is to reduce estate taxes and very few people are wealthy enough to be concerned about it. 2. What are the benefits of an Inheritance Protection Trust? By receiving inheritance in a trust, rather than receiving inheritance outright, the beneficiary can protect assets from various threats:
3. How is the Inheritance Protection Trust established? The trustor's personal representative or successor trustee, depending on whether the trust provisions are drafted into a Will or living trust, establishes an inheritance trust by giving the separate trust a name and applying for its Taxpayer ID number. The provisions in the Will or living trust document govern the new trust, although it may be permissible for the trustee to restate the terms of the separate trust with a new document. This process is called trust decanting in Arizona. 4. Who should serve as Trustee? In most cases the beneficiary will serve as the initial trustee. However, if creditor protection is a paramount concern, the beneficiary should not serve as trustee. Rather an independent trustee – such as a bank, trust company, or accountant – should be appointed. This enhances the level of creditor protection by eliminating the conflict of interest held by a beneficiary who also serves as trustee. If an independent trustee is appointed, the beneficiary may be given a right to remove and replace the independent trustee. A common drafting option is to name the beneficiary as initial trustee and grant the beneficiary a power to resign and appoint an independent trustee. This gives the beneficiary the discretion to choose the level of creditor protection desired. 5. How much does an Inheritance Protection Trust cost? Typically the addition of one or more Inheritance Protection Trusts to a Will or living trust will substantially raise the fee for preparation of the estate plan. When compared to outright distribution of inheritance, the benefits of the Inheritance Protection Trust offer a clear and present value to both the trustor and beneficiary. The Arizona homestead exemption amount increased from $250,000 to $400,000 in 2023. The homestead exemption, which is automatic in Arizona, is intended to protect an Arizona resident's primary residence ("homestead") from creditors. But the new law includes several intricacies that make it more complex than it initially appears. For example, the new law requires any existing judgment liens (recorded in the same county) to be paid when the homeowner either sells or refinances the residence. The prior law stated that a homeowner with less equity than the exempt amount could still refinance a home loan without having to first pay off any existing judgment liens. The new law does the opposite - effectively preventing the homeowner from exercising a cash-out refinance.
The homestead exemption is also complicated by federal bankruptcy laws. If the home was acquired within 1,215 days (3 years, 4 months) of filing the bankruptcy case, the exemption amount is currently limited to $189,050. If this rule applies to you, be sure to investigate further with a bankruptcy attorney because there are exceptions that may help you out. Your health care power of attorney may permit your agent to restrict visitation.
In 2021, the Arizona legislature enacted A.R.S. 36-3211, which prescribes an assortment of rules and procedures regarding whether and how a health care agent may restrict visitation of an incapacitated person. The law now requires a health care agent to "encourage and allow contact" between the principal (the incapacitated person) and other persons who have a significant relationship to the principal. The health care agent may not restrict reasonable contact between the principal and any other person without prior court approval. But there is an exception, and you will probably want to use it. You can include a provision in your Arizona health care power of attorney that specifically permits your agent to limit, restrict, or prohibit reasonable contact between you and any other person. This provision gives your health care agent the right to determine who is permitted to interact with you while you are incapacitated. Your agent will be able to restrict visitation by people who he or she believes might try to fraudulently persuade you to change your estate plan or others whose involvement in your life brings strife. For example, an ex-spouse or estranged child. It is now common, and recommended, to include the following provision in an Arizona health care power of attorney: "I authorize my Health Care Agent to limit, restrict, or prohibit contact between me and any other person not named as an eligible Health Care Agent in this instrument." On the other hand, you might also view the issue another way. Perhaps you are concerned that your health care agent might unreasonably restrict visitation by your children from a prior relationship. In this case, you might choose to intentionally omit this provision in your health care power of attorney and rely upon the default law. Either way, it's an issue worth considering. |
AuthorTom Bouman, Attorney Archives
July 2025
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