***V. CREDITORS' RIGHTS AND SPENDTHRIFT TRUSTS Flashcards
- Hobie Gates transfers $500,000 to Bank as trustee of an irrevocable trust: income to Hobie and his son Sam in equal shares. On the death of the survivor of Hobie and Sam, the remainder is to pass to Sam’s children. The trust contains a spendthrift clause that prohibits voluntary or involuntary transfers:
“No interest of a beneficiary shall be assignable by the beneficiary nor shall it be subject to the claims of the beneficiary’s creditors by garnishment, attachment or other legal process.”
Sam borrows $100,000 for a business venture, and signs note upon which Hobie signs as guarantor of the loan. In performance of the obligation, Sam assigns to the payee $10,000 yearly for 10 years out of his share of trust income. Three years later, Sam instructs the trustee to make no more payments to the creditor pursuant to the assignment.
a. The creditor sues Sam and seeks to enforce the assignment, or to reach Sam’s interest in the trust by garnishment or execution. Result?
“This shall be a spendthrift trust.”
Spendthrift clauses are given full effect in Texas. Purpose of spendthrift clause: Protects a trust beneficiary’s interest from creditors by prohibiting voluntary assignment [Feb. 2001] or involuntary transfer of the beneficiary’s interest. Thus [Feb. 2001, July 2003, July 2008] judgment creditor cannot reach beneficiary’s interest in spendthrift trust by garnishment or attachment.
Exceptions: #1. Contracts for necessaries (medical [July 2003], food, rent) (this exception is actually seen as benefit to any beneficiary whose sole source of income is income from a trust) #2. Child support obligations [July 2008] #3. Any interest retained by the Settlor [Feb. 2001, July 2003] #3A. Revocable trust [July 2008] #4. Federal tax liens [July 2008]
valid; creditor loses
Sam borrows $100,000 for a business venture, and signs note upon which Hobie signs as guarantor of the loan. In performance of the obligation, Sam assigns to the payee $10,000 yearly for 10 years out of his share of trust income. Three years later, Sam instructs the trustee to make no more payments to the creditor pursuant to the assignment.
b. Does Sam have an action against trustee for paying $30,000 to creditor pursuant to the assignment?
_________ Beneficiary who participates in breach of trust:
no; estoppel applies; he is estopped from complaining
Sam borrows $100,000 for a business venture, and signs note upon which Hobie signs as guarantor of the loan. In performance of the obligation, Sam assigns to the payee $10,000 yearly for 10 years out of his share of trust income. Three years later, Sam instructs the trustee to make no more payments to the creditor pursuant to the assignment.
c. [July 1991] Can Sam’s creditors reach income after it has been distributed to him from a spendthrift trust?
YES. Once the income is distributed, it is no longer subject to the trust or its spendthrift clause.
But [Feb. 2001] creditors would have to file suit each time beneficiary received a distribution. Spendthrift clause takes away creditors’ efficient remedies of garnishment and attachment. Moreover, [July 1997] creditor cannot use “turnover statute” of Creditors’ Rights law to compel beneficiary to pay over the income to the creditor upon its receipt.
Sam borrows $100,000 for a business venture, and signs note upon which Hobie signs as guarantor of the loan. In performance of the obligation, Sam assigns to the payee $10,000 yearly for 10 years out of his share of trust income. Three years later, Sam instructs the trustee to make no more payments to the creditor pursuant to the assignment.
- Creditor sues Hobie as guarantor and seeks to reach trust principal or Hobie’s right to one- half of the trust income.
What result as to Hobie’s 1/2 of the trust income?
As to any interest retained by the Settlor [or the entire trust if Settlor retained the power to revoke the trust]:
no Spendthrift protection
- Creditor sues Hobie as guarantor and seeks to reach trust principal or Hobie’s right to one- half of the trust income.
What result as to trust principal?
As to interests irrevocably transferred to third parties (whether outright or in trust) settlor’s creditors:
can not reach; because he doesnt own it anymore
Exception: Fraudulent transfer: transfer made with intent to defeat, delay, or defraud creditors.
A. DISCRETIONARY TRUSTS
- Settlor creates irrevocable trust with $1 million of assets: “Trustee may distribute to Settlor so much of the trust income and/or principal as Trustee in its sole discretion deems appropriate.”
Settlor requests that Trustee make a distribution of trust income to Settlor; Trustee refuses. Can Settlor compel Trustee to make a distribution?
***Creditor obtains judgment against Settlor for $32,000. Can Creditor reach the trust income or principal in satisfaction of the obligation?
-no; Trustee has sole discretion, not subject to any standard.
-yes;
To maximum extent trustee “could” make distribution to him.
B. SUPPORT TRUSTS
- trust: income to my daughter Dolly for life, remainder to her children. In addition, if the trustee determines that the income is insufficient for Dolly’s support, the trustee may in its sole discretion, not subject to challenge by any person, distribute to Dolly so much of the principal as is needed for her support.” Dolly, laid off by her employer, sues trustee to compel a principal distribution, contending that the income is insufficient for her support needs.
Dolly has a cause of action?
yes; Dolly can compel a distribution of amount she shows is needed for her support. Purpose of the trust was not to give the trustee discretion; it was to provide for Dolly’s support. It would be an abuse of discretion to not make a distribution if needed for support.
Conversely, [Feb. 1995] any distribution of principal far in excess of Dolly’s actual support needs [Feb. 1996: taking into account other resources available to Dolly for her support] is a breach of trust, and the remaindermen have an action against the trustee.
39a. [July 1984] trust: income to my daughter Dolly for life, remainder to her children. In addition, if the trustee determines that the income is insufficient for Dolly’s support, the trustee may in its sole discretion, not subject to challenge by any person, distribute to Dolly so much of the principal as is needed for her support.”
Dolly incurs $30,000 in medical expenses. Can Hospital reach trust principal in satisfaction of the $30,000 debt?
yes; Creditor who furnishes necessaries can reach a support trust. If beneficiary could compel a distribution for support purposes, so also can a creditor who furnishes necessaries.
