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Jennifer Short, JD April 11, 2023

Would you like to provide your loved ones with an inheritance and protect them from the risks that may come with a large windfall?

If so, a beneficiary-controlled trust may be right for you. In said trust, the primary beneficiary has rights, benefits, and control over the property held by the trust. They also have important protections.

In a beneficiary-controlled trust, you can name the primary beneficiary as the sole trustee. Or, if you name a co-trustee, the beneficiary can be given the authority to remove the co-trustee and select a successor if they choose. Also, a beneficiary-controlled trust may include a broad power of appointment. This enables a beneficiary, who is also a trustee, to limit the ability of other beneficiaries from enjoying property held by the trust.

Benefits of a Beneficiary-Controlled Trust

If you want to provide an inheritance to a mature child or other trusted loved one, a beneficiary-controlled controlled trust is a strategy worth considering. Many people can benefit from the asset protection and tax benefits a beneficiary-controlled trust provides. Even responsible adults can encounter situations where their assets are vulnerable to creditors, divorce, lawsuits, estate taxes, etc. A beneficiary-controlled trust can protect the property held in the trust against those claims.

Now, a beneficiary-controlled trust can still come with restrictions. You can include terms in the trust that limit the degree of involvement you'd like the beneficiary to have.

How to Give a Beneficiary Control of a Trust

You can give your chosen beneficiary control of the trust in one of two ways. The first is listing them as a sole trustee, and the second listing them as a co-trustee.

Beneficiary as sole trustee. Ohio law is a bit complicated regarding creditors reaching a beneficiary's trust funds. If a trust beneficiary has the right to demand a distribution of a certain amount of assets, their creditors can claim against those assets. To counteract this, many trusts allow only a limited power of withdrawal. For example, the beneficiary can only withdraw $5000 annually. Therefore, the beneficiary (or their creditors) could only access that amount of the trust assets in a given year. Once the trustee makes a distribution to themselves as a beneficiary, the creditor can reach the funds.

Another way to protect funds is by using 'HEMS', which stands for Health, Educational, Maintenance, and Support. This provision only allows the beneficiary-trustee to withdraw trust assets for those four purposes. HEMS also provides tax benefits. It will prevent the trust assets from being included in your beneficiary's taxable estate.

Beneficiary as co-trustee. Another option that provides enhanced protection is to name a beneficiary trustee and an independent co-trustee. The beneficiary trustee will be authorized to manage and invest trust assets, while the co-trustee will be responsible for making discretionary trust distributions to the beneficiary.

Although it is more complicated and expensive to include an additional independent trustee, it provides a greater degree of asset protection. It also provides some greater flexibility for distributions. The independent trustee doesn't need to be limited by the HEMS standard. Instead, they may distribute trust property to the beneficiary for any reason. And this won't reduce the level of asset protection! You can include terms in your trust that still give the beneficiary control without losing tax or asset protection benefits. For example, you can give your beneficiary the authority to select the independent co-trustee. Keep in mind, this co-trustee MUST be completely independent —not a related party or a person subordinate to the beneficiary as defined by I.R.C. § 672(c).

You may also choose to have a mix of both of these options. For example, when you die, you may appoint a beneficiary as the sole trustee. Then, you can give your beneficiary the option to add an independent co-trustee at any point. This way, the beneficiary can have full control of the trust until they face a risk of a lawsuit, divorce, creditors' claims, etc.

Drawbacks of a Beneficiary-Controlled Trust

Although there are many benefits to a beneficiary-controlled trust, this estate planning option isn't for everyone.

Doesn't Protect Against All Creditors

Estate planning laws can vary from state to state and change often. For example, in some states, former spouses can seek out trust assets for alimony or child support claims.

May Allow for Too Much Control

Beneficiary-controlled trusts are only great fits for those that really trust their beneficiary. If your beneficiary isn't skilled at managing money, this might not be the best estate planning strategy for you. Even if you limit your beneficiary trustee to only providing themselves HEMS distributions, it is still up to them to determine if a particular distribution meets that standard.

If you're concerned that a beneficiary won't be able to handle the responsibility of also being a trustee, there are many other estate planning solutions out there. For example, you may want to look at incorporating conditions and milestones into your trust(s).

Create a Trust with the Experienced Estate Planning Attorneys in Dublin, OH

Our team is here to help you find solutions that fit your needs. If you'd like to find out more about whether a beneficiary-controlled trust is right for you and your family, give us a call at 614-389-9711 to set up an appointment.

Want to learn more about how a trust fits in with the rest of your estate plan? Read our Consumer's Guide to Estate Planning in Ohio here.