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Using Trusts to Protect Your Assets

In Part 1 of this three-part series on Asset Protection Planning, I covered Asset Protection Basics – using Insurance, Exempt Assets and Business Entities as Asset Protection Tools.

In this article I am going to discuss how Trusts can be used as Asset Protection Planning Tools. Trusts are very powerful tools when it comes to estate planning in general and specifically for Asset Protection Planning. We will discuss the two main types of Trusts that exist and then walk through a case study to show how trusts can be used for Asset Protection Planning.

When talking about using Trusts as Asset Protection Planning Tools – we have to ALWAYS keep one General Asset Protection Tool in mind: Creditors can take any asset that you own (or have control over) unless it is an EXEMPT ASSET. Keeping this rule in mind – let’s talk about Trust Basics.

Trust Basics Overview:

Here is a diagram that I use in almost all of my seminars, workshops and initial client meetings to explain how Trusts work.

Step 1 – Understanding the Players in a Trust.

There are always three different people/roles involved with a Trust.

  1. Grantor: This is the person that creates the Trust and transfers their assets into the Trust.

  2. Trustee: This is the person that manages the assets that are in the Trust and controls distributions from the Trust to the beneficiaries.

  3. Beneficiary: This is the person that benefits from the Assets in a Trust.

No matter what type of trust you have – these three people – Grantor, Trustee, and Beneficiary -- will always be involved. As you can see in Diagram 1 “John Smith” is the grantor and he named himself as the Trustee and Beneficiary. John Smith is all three of these people for the Trust that he has created. This is a very typical scenario for Revocable Living Trusts.

Step 2 – Understanding the Difference between Revocable Living Trusts and Irrevocable Trusts.

All Trusts can be categorized in one of two different types of Trusts: Revocable Trusts vs. Irrevocable Trusts.

Revocable Trusts are trusts that can be revised, amended, changed, revoked, and terminated in some way after they are created. In our example (See Diagram 1) John Smith has created the “John Smith Revocable Living Trust”. This is a Revocable Trust – so there is language in his Trust document that allows him to amend the Trust during his lifetime. John could decide to change the beneficiaries of the Trust. He could also change who the successor Trustees are of the Trust if he wanted to. John can change the terms of this Trust in any way he wants.

Irrevocable Trusts are the opposite of Revocable Trusts– as the name implies – once this type of Trust is set up – they are “irrevocable” the terms cannot be changed. If John set up an Irrevocable Trust and funded it with $1 million – he could not change any of the terms of the Trust later. He is stuck with whoever he has named as Trustees and beneficiaries and how distributions are made from that Trust. The Trust is not amendable and cannot be terminated.

How to Use Trusts for Asset Protection Planning

Now let’s apply this our General Asset Protection Rule -- Creditors can take any asset that you own (or have control over) unless it is an EXEMPT ASSET -- ­to Trusts.

Here is our fact pattern:

  1. John Smith had a “Creditor Event” -- a plaintiff has successfully sued him over a breach of contract issue (John owns a construction business – as a sole proprietor – so he is personally liable for all business debts. Insurance did not cover this claim for a breach of contract.)

  2. John’s creditor has obtained a $1 million judgment against him.

  3. John does have a Revocable Trust that owns some of his assets (See Diagram 1) John is the Trustee of his own Trust, his wife is the successor Trustee if he dies, resigns or becomes incapacitated. John is the beneficiary of his own Trust while he is living. His wife is the beneficiary of the Trust Assets when John dies.

  4. See Diagram 2 (below) for John’s Asset Overview.

Are John’s Assets Protected from this Creditor Event?

Let’s talk through each of John’s assets keeping the General Asset Protection Rule in mind . . . .

  1. Personal Residence: Exempt Asset – John owns this house as “Tenants by the Entirety” with his wife. Holding title to your home as Tenants by the Entirety with your spouse means creditors cannot force the sale of your home to pay for a judgment. (See Part 1 of this Series for more information)

  2. 401K Account: Exempt Asset – Federal Law protects 401K’s from the reach of creditors.

  3. Life Insurance: Exempt Asset – When John dies (assuming the policy is still in place) creditors cannot touch this asset because it is Exempt per Illinois law.

  4. Business Checking and Savings Account: Available for Creditors – since these accounts are in John’s name (he owns them) Creditors can take these assets from him.

  5. Suburban and Vacation Home: Available for Creditors – John doesn’t own these assets because they are in his Revocable Trust; however, as Trustee of this Trust – John still has control over these assets. Per our General Asset Protection Rule – because John controls these assets in his Trust – creditors can take these assets from him.

In this scenario for John Smith, creditors could have taken John’s vacation home; Suburban, Savings Account and Business Checking Account – totaling $500,000. Not bad for the creditors!!

How Could John Have Planned Better for Asset Protection?

John could have done the following to protect his assets better . . .

  1. Set up his business as a corporation or LLC: By running his business as a sole proprietorship all business liabilities also are personal liabilities. If John’s business had been set up as a corporation or LLC – then creditors would not have been able to take his personal assets to pay for a business liability.

  2. Had “Asset Protection Terms” in his Trust: Trusts must be set up with specific goals in mind. If people aren’t concerned about protecting their asset from creditors – then the Trust terms would focus on other goals such as legacy planning or easy asset transfers to beneficiaries upon the grantor’s death.

If Asset Protection is a concern – then the Trust terms would focus more on Asset Protection Terms for the Trust – which means we set up the Trust to follow the General Asset Protection Rule. If there is a Creditor Event for John – the Trust terms make sure John does not “own or control” those assets in the trust. We could make it so that John not the initial Trustee of his trust or we allow him to resign and have an “Independent Trustee” -- such as a bank or trust office -- become trustee.

The Trust provisions also gives specific instructions to the Trustee to not make distributions for the benefit of Creditors. John may also want to use an Irrevocable Trust instead of a Revocable Trust – because in general Irrevocable Trusts have more Creditor Protection aspects to them.


My main goal from this article is for you to understand the following:

  1. General Rule on Asset Protection Planning: Creditors can take any asset that you own (or have control over) unless it is an EXEMPT ASSET.

  2. Basic Understanding of How Trusts Work – Grantor, Trustee and Beneficiary roles.

  3. Trusts used for Asset Protection Planning have specific language in them so that if there is a Creditor Event” – the grantor is not seen as being in “ownership or control” of the trust assets.

  4. Trusts can be used for many different goals – Asset Protection being one of them. Asset Protection goals may not coincide with other reasons why people use trust.

Note: Medicaid Planning is a form of Asset Protection Planning – but has its own set of specific rules – see my Part 1, Part 2, and Part 3 of my Medicaid Planning Series for more information on that.

In Part 3 of my Asset Protection Planning Series I will discuss the Illinois Fraudulent Transfer Act, Domestic Asset Protection Trusts and Offshore Asset Protection Trusts.


This article is a service of Attorney Chad A. Ritchie and the Ritchie Law Office, Ltd.

Click Here or call (309) 662-7000 to learn more about Ritchie Law Office, Ltd. and our Estate Planning process, which starts with an initial consultation called our “Ritchie Legacy Planning Session”.

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