Protecting Your Children's Inheritance From Divorce and Lawsuits

Most California living trusts do a good job of keeping assets out of probate. But shouldn't they also protect your children's inheritance from divorce and creditors after you're gone?

What Happens When You Leave Money Outright to Your Children

Imagine your daughter, Emily, inherits $500,000 from your estate when she's 35. She's responsible. She has a good job. She's been married for eight years. You trust her completely.

She deposits her inheritance check into the joint checking account she shares with her husband while she figures out what to do with it. Without her knowledge, the deposit converted her separate-property inheritance into community property. If she and her husband divorce, he can claim half of it.

That's not what you intended when you created your estate plan.

The Problem With Outright Distributions

When a living trust leaves assets to children "outright," it means the trustee writes a check directly to your child. No restrictions, but more importantly, no protection. The simplicity of an outright distribution creates vulnerability. Once the money is in your child's name, it's exposed to:

Divorce claims. California is a community property state. An inheritance is separate property until it's not. Commingling converts it to community property. The joint checking account example above is real, but it can be prevented.

Lawsuits and creditors. Inherited assets in your child's name are reachable by a plaintiff or creditor. The money you spent a lifetime building is now in play.

Their spouse's creditors. Even if your child is careful, her spouse may not be. Joint assets can be exposed to the other spouse's individual debts.

An outright distribution is simple, but has zero protection.  For many families who've worked hard to build a meaningful estate, it's not optimal.

How Asset Protection Trusts Work

An asset protection trust is a trust that springs out of your living trust when you die. Instead of distributing Emily's share to her outright, your trust says something like this:

Hold Emily's share in trust for her benefit. The trustee may distribute income and principal to Emily for her health, education, maintenance, and support. When Emily turns 25, she may serve as her own trustee.

That's it. Simple language. Broad standard. No complicated conditions or restrictions on Emily's life.

Here's what that structure accomplishes:

The assets stay out of Emily's name. They're in trust for her benefit, which means they're legally separate from her personal assets and her marital estate. Commingling isn't a risk because the inheritance never lands in her personal account.

Emily still has full access. The distribution standard "health, education, maintenance, and support" is intentionally broad. Emily can use the trust for living expenses, a home purchase, education, medical costs, or virtually anything that relates to her well-being. This is not a restrictive trust. It's a protective one.

Emily can become her own trustee. Most of our clients pick an age between 25 and 30. Once Emily reaches that age, she controls the trust herself. She decides when to distribute money to herself. She's not dependent on an uncle or a bank trustee. She's in charge of her own inheritance. But it's held in a structure that protects it.

The protection extends to lawsuits. Assets held in a properly structured asset protection trust are significantly difficult for creditors and plaintiffs to reach.

What About Staggered Distributions?

Some attorneys recommend staggered distributions as an alternative to an outright distribution: one-third at 25, one-third at 30, one-third at 35. The idea is that if your child makes a bad decision with the first distribution, there's still money left.

The problem is that each distribution is an outright distribution. The divorce and creditor exposure described above apply to every check the trustee writes. You've introduced some timing control, but no asset protection.

A Common Scenario

A couple comes into our El Dorado Hills office with a $2.5 million estate, including their home, a brokerage account, and a retirement account. They have two adult children, both married, both in their thirties. One is a nurse. The other owns a small business.

They originally planned to leave everything outright. But when we walked through the scenarios, they decided they wanted asset protection trusts for their children. 

How We Handle This at Clark Allison

We recommend asset protection trusts for most of our clients with children. And it's not an upcharge to our basic price. It's part of our basic price. It does not cost more.

Our attorneys will walk you through the options: outright distributions, staggered distributions, and asset protection trusts. We'll explain the tradeoffs and let you decide what fits your family. Most clients choose asset protection trusts once they understand how they work.

Setting up your estate plan with us takes two attorney meetings and is typically complete in three weeks. We'll tell you what the fee will be before we start. And you'll work directly with one of our attorneys from start to finish, not a paralegal or a case manager.

Frequently Asked Questions

Does an asset protection trust control how my child spends the money?

No. The distribution standard "health, education, maintenance, and support" is intentionally broad and covers virtually everything your child might reasonably want to do with the money. The trust provides legal protection, not lifestyle restrictions.

Can my child be the trustee of their own asset protection trust?

Yes, and this is typically how we structure it. Once your child reaches the age you designate (most clients choose 25 to 30), they become their own trustee. They control all distribution decisions without needing approval from anyone else.

Does the asset protection trust prevent my child's spouse from accessing the money?

Your child has control. She decides whether to share her inheritance with her spouse. And in a good marriage, she will. And as long as the inherited assets remain titled in her inheritance trust, they won't become community property, which protects the inheritance from divorce.

What happens to the trust when my child dies?

Your living trust can include a power of appointment, allowing your child to direct where the remaining trust assets go when they die. Our default provision is that the remaining assets pass to your grandchildren or your other children. Most clients choose to continue the protection through the next generation.

Is an asset protection trust the same as a spendthrift trust?

They're related concepts. A spendthrift provision prevents a beneficiary from assigning their interest in a trust to someone else and prevents creditors from reaching it directly. Asset protection trusts include spendthrift provisions.

Does adding asset protection trust provisions change what I pay for my estate plan?

At Clark Allison, no. It's the same price. No upcharge. Read more about our pricing.

Ready to Protect Your Family?

Call us (800) 394-1988 or click Get Started to schedule a free 15 Minute intro call with one of our attorneys.

We meet Sacramento area clients in person at our El Dorado Hills and Roseville offices. And we work with clients throughout the state virtually by Zoom anywhere in California.