Can Creditors Reach a Trust You Leave Your Children in New York?

Written and legally reviewed by Albert Goodwin, Esq., New York trusts and estates attorney, Law Offices of Albert Goodwin.

Parents who leave money in trust for their children usually have one question: if my child is sued, divorced, or goes bankrupt, can someone take the inheritance? Under New York law, a trust that a parent creates and funds for a child gives the child's interest strong protection. That protection has limits. It depends on who funded the trust, whether distributions are mandatory or discretionary, how the spendthrift language is written, and who the creditor is. Some creditors, such as a child's former spouse seeking support or the IRS, are treated very differently from an ordinary judgment creditor.

This page covers one question: what a creditor of your child can and cannot reach in a trust you leave behind. Related topics have their own pages. For the choice between a will-based trust and a living trust, see advantages and disadvantages of a testamentary trust and benefits of a living trust. For protecting your own assets during your lifetime, see moving assets into one spouse's name. For a trustee who mishandles the fund, see breach of trust.

The Short Answer

• Trust income is protected automatically. Under EPTL 7-1.5, a beneficiary's right to receive trust income cannot be assigned, and creditors cannot seize it outright, unless the trust document says otherwise.
• Principal held in a trust funded by someone else is exempt from your child's judgment creditors under CPLR 5205(c) while it stays in the trust. Whether a child's future right to principal can be assigned or reached depends on how the trust is drafted.
• A judgment creditor can usually reach about 10 percent of trust income through an income execution, and possibly more if a court finds the income exceeds the child's reasonable needs (CPLR 5205(d), 5231).
• Money paid out to your child loses trust protection once it lands in the child's hands.
• Family support claimants and federal tax liens can reach trust interests that ordinary creditors cannot.
• None of this protects a trust your child funds for his or her own benefit (EPTL 7-3.1).

Income Protection Under EPTL 7-1.5 Is Automatic

EPTL 7-1.5(a) provides that the right of a beneficiary of an express trust to receive income from trust property cannot be transferred by assignment or otherwise, unless the trust instrument gives the beneficiary that power. New York is unusual in this respect. In many states, a trust is a spendthrift trust only if it contains a spendthrift clause. In New York, an income interest is restrained by statute even if the document is silent.

Two consequences follow. Your child cannot sell or pledge future income from the trust to raise cash. And a creditor cannot take an assignment of that income or have the income interest sold to satisfy a debt. The creditor's remedies are limited to the income-execution rules discussed below.

Principal Protection Depends on the Trust and Its Drafting

The automatic restraint in EPTL 7-1.5 speaks to income. Principal is treated differently, and you should not assume it is protected without looking at the document.

CPLR 5205(c) exempts from enforcement of a money judgment property held in trust for a judgment debtor where the trust was created by, or the fund came from, someone other than the debtor. If you fund a trust for your daughter, the assets inside it are generally exempt from her judgment creditors while they remain in the trust. The exemption ends when the trustee distributes the property to her.

The weaker point is a fixed future right to principal. Suppose the trust says, "the trustee shall distribute one-half of principal to my son at age 35." As that date approaches, your son holds a vested right to a specific payment. Without clear spendthrift language covering principal, a creditor may argue that the right can be assigned or reached when it becomes payable, and the money is plainly exposed once paid. For that reason, a well-drafted New York trust extends its spendthrift clause expressly to principal and relies on trustee discretion rather than fixed payout ages.

What a Judgment Creditor Can Reach: CPLR 5205(d) and 5231

Trust income is protected from outright seizure but not fully insulated from collection. The rules work in layers.

• CPLR 5205(d)(1) exempts 90 percent of income or other payments from a trust whose principal is exempt under CPLR 5205(c). The remaining 10 percent is not exempt.
• A judgment creditor can reach that non-exempt portion through an income execution under CPLR 5231, which generally directs the trustee to pay up to 10 percent of the income to the enforcement officer until the judgment is satisfied.
• The 90 percent exemption is not absolute. CPLR 5205(d) applies "except such part as a court determines to be unnecessary for the reasonable requirements of the judgment debtor and his dependents." If trust income is large relative to the child's needs, a creditor can ask the court to reach the excess, for example through an installment payment order under CPLR 5226.

These rules apply to income the child has a right to receive. If the trustee has full discretion and the child has no right to any payment, a creditor has no fixed income stream to execute against. The creditor can try to catch distributions once they are made, which is why trustee discretion and direct payment of expenses matter so much.

Exception Creditors: Who Can Reach a Protected Trust

Spendthrift protection is designed to stop commercial and tort creditors. New York law and federal law treat some claimants differently.

Child Support and Spousal Maintenance

New York has long allowed a beneficiary's spouse and children to reach spendthrift trust income for support. In Wetmore v. Wetmore, 149 N.Y. 520 (1896), the Court of Appeals held that income from a spendthrift trust could be applied to a husband's alimony obligation, reasoning that a duty to support family is not an ordinary debt. Support orders can also be enforced through income deduction orders and executions under CPLR 5241 and 5242, which are not limited to the 10 percent cap that applies to ordinary judgment creditors.

In practice, the distinction between mandatory and discretionary interests matters here as well. Mandatory income is the easiest target for a support creditor. A purely discretionary interest is harder to reach directly, but a Family Court or Supreme Court judge setting support can consider trust distributions the child actually receives, and in some cases a pattern of distributions, when calculating income under the Child Support Standards Act (Domestic Relations Law § 240).

Federal Tax Liens

A federal tax lien attaches to "all property and rights to property" of the taxpayer under 26 U.S.C. § 6321. Federal law, not state law, decides whether a lien can be enforced, and a state spendthrift rule does not bind the IRS. If your child owes federal taxes, the IRS may levy on a mandatory income interest and on distributions as they are paid. A purely discretionary interest is harder for the IRS to reach before the trustee decides to distribute, but you should not treat it as immune.

Other Government Claims

Certain government claims, including some state tax and public assistance recovery claims, may follow trust distributions once they are made. The analysis depends on the statute behind the claim and on whether the child's interest is mandatory or discretionary.

The Self-Settled Trust Rule: EPTL 7-3.1

Every protection above applies to a trust funded by someone other than the beneficiary. Under EPTL 7-3.1, a disposition in trust for the use of the creator is void as against the creator's existing and future creditors. CPLR 5205(c) likewise exempts only trusts created by, or funded from, a person other than the debtor.

This rule catches families in two common situations:

• Outright inheritance moved into a trust: if your will leaves money to your son outright and he later places it in his own trust for his own benefit, his creditors can reach it. The protection must be built into your will or trust before the money passes to him.
• Disclaimers and renunciations: some families try to fix the problem after death by having the child disclaim. A disclaimer under EPTL 2-1.11 can redirect property, but it has strict timing and form requirements, and a child who disclaims while insolvent or owing Medicaid or taxes raises separate issues. Planning in the original document is far more reliable.

Mandatory and Discretionary Interests Compared

Bankruptcy

Under 11 U.S.C. § 541(c)(2), a restriction on the transfer of a beneficial interest in a trust that is enforceable under applicable nonbankruptcy law is enforceable in bankruptcy. The Supreme Court confirmed in Patterson v. Shumate, 504 U.S. 753 (1992), that "applicable nonbankruptcy law" includes state law. A child's interest in a third-party New York trust governed by EPTL 7-1.5 is therefore generally kept out of the bankruptcy estate.

Timing matters. Under 11 U.S.C. § 541(a)(5)(A), property a debtor becomes entitled to by bequest or inheritance within 180 days after filing is pulled into the bankruptcy estate. An outright inheritance arriving during that window is exposed. An inheritance that passes into a spendthrift trust is in a much stronger position.

Divorce and Equitable Distribution

Under Domestic Relations Law § 236(B)(1)(d)(1), property acquired by inheritance is separate property and is not divided in a divorce. Separate property can lose that character if it is commingled with marital funds, retitled jointly, or used for marital purposes. Under the same statute, an increase in value of separate property can become partly marital if it results from the other spouse's contributions or efforts.

A trust helps because the assets stay titled in the trustee's name. If the trustee pays your daughter's expenses directly or makes distributions into an account in her name alone, there is less opportunity for commingling. A trust does not prevent a court from considering distributions she receives when it sets maintenance or child support.

When Your Child Is Also the Trustee

Many parents want an adult child to manage his or her own trust. That choice affects creditor protection. Under EPTL 10-10.1, a trustee who is also a beneficiary generally cannot exercise discretion to distribute principal or income to himself or herself, except under an ascertainable standard such as health, education, maintenance and support. A child who serves as sole trustee with broad power to pay himself looks much more like the owner of the fund, which invites creditor challenges.

A common approach is to name an independent co-trustee, such as a sibling, a trusted adviser, or a bank serving as trustee, to hold the discretionary distribution power. The child can still handle investments and day-to-day decisions.

Sample Spendthrift and Discretionary Distribution Language

The following excerpt shows the kind of language New York trusts for children often include. It is an illustration only. Trust provisions must be drafted for the specific family, assets and tax situation, and this sample should not be copied into a document without legal review.

Distributions. The Independent Trustee may distribute to or for the benefit of the Beneficiary so much of the net income and principal of the trust, including all or none, as the Independent Trustee in the Independent Trustee's sole and absolute discretion determines. Any income not distributed shall be added to principal. The Independent Trustee may make any distribution by paying expenses directly to the provider of goods or services, including tuition, rent, medical providers, and insurers, rather than to the Beneficiary.

Suspension of distributions. If the Independent Trustee believes that a distribution would be subject to the claim of a creditor, a pending lawsuit, a divorce proceeding, or a bankruptcy proceeding, the Independent Trustee may suspend distributions to the Beneficiary until the Independent Trustee determines that the risk has passed.

Spendthrift provision. No interest of any beneficiary in the income or principal of any trust under this instrument shall be subject to voluntary or involuntary alienation, assignment, anticipation, pledge, attachment, or the claims of creditors, to the fullest extent permitted by law, including EPTL 7-1.5.

Note what the sample does. It gives an independent trustee, not the child, the discretion. It covers both income and principal. It allows direct payment of expenses. And it acknowledges that the protection reaches only as far as the law permits, because support claimants and federal tax liens can still reach some interests.

Two Worked Scenarios

Scenario 1: Your Son Causes a Car Accident

Your son, age 32, is the beneficiary of a trust you created in your will. He causes a serious accident on the Long Island Expressway. The injured driver obtains a judgment that exceeds your son's auto insurance limits.

• If the trust requires the trustee to pay your son all net income each year, the judgment creditor can serve an income execution under CPLR 5231 and collect up to about 10 percent of that income. If the income is large, the creditor can ask the court under CPLR 5205(d) to reach more on the ground that it exceeds his reasonable needs. The principal stays in the trust and is exempt under CPLR 5205(c).
• If the trust is fully discretionary with an independent trustee, your son has no fixed income stream for the creditor to execute against. The trustee can use the suspension clause, stop cash distributions, and pay his rent and health insurance directly. The creditor can still try to reach any cash that ends up in your son's own accounts.

The outcome in any actual case depends on the trust language, the size of the judgment, and the facts a court finds about the beneficiary's needs.

Scenario 2: Your Daughter Divorces

Your daughter is the beneficiary of a discretionary trust and is going through a divorce in Westchester County. Her spouse claims a share of the trust.

• The trust assets belong to the trustee, not to your daughter, and are inherited separate property. They are not subject to equitable distribution.
• If over the years the trustee deposited distributions into a joint account used to pay the mortgage on the marital home, those distributed funds may have become marital property through commingling.
• When setting child support or maintenance, the court can consider distributions your daughter regularly received as part of her income. If the children's father obtains a support order, he may be able to enforce it against trust income your daughter is entitled to receive.

Government Benefits and Supplemental Needs Trusts

If a child has a disability and receives, or may later need, Supplemental Security Income or Medicaid, an outright inheritance or a trust with mandatory support payments can disqualify him or her. EPTL 7-1.12 authorizes a supplemental needs trust that supplements, rather than replaces, government benefits. New York courts have long held that assets in a discretionary trust funded by a third party are not an available resource of the beneficiary; see Matter of Escher, 94 Misc. 2d 952 (Sur. Ct. Bronx County 1978), aff'd 75 A.D.2d 531 (1st Dep't 1980), aff'd 52 N.Y.2d 1006 (1981).

Medicaid estate recovery is a separate issue. Under Social Services Law § 369, New York can seek to recover Medicaid costs from a recipient's estate. A supplemental needs trust funded by a parent is a third-party trust and does not require repayment to Medicaid when the child dies. A trust funded with the child's own assets, such as a personal injury settlement, must contain a Medicaid payback provision under 42 U.S.C. § 1396p(d)(4)(A). For more detail, see benefits of a special needs trust.

Frequently Asked Questions

Can a trust be sued in New York?

A trust is not a separate legal entity in New York. A lawsuit involving trust property is brought against the trustee in a representative capacity, and any judgment is paid from trust assets. Under EPTL 11-4.7, a trustee is individually liable for obligations arising from ownership or control of trust property, or for torts committed in the course of administration, only if the trustee is personally at fault. That is a different question from whether your child's creditors can reach your child's interest in the trust, which is what most of this page addresses.

Can my child's creditors reach the trust before anything is distributed?

An ordinary judgment creditor cannot seize principal held in a third-party trust, and it cannot take your child's income interest outright. If your child has a right to income, the creditor can usually collect about 10 percent of it through an income execution, or more if a court finds the income exceeds reasonable needs. A support claimant or the IRS may be able to reach more.

What happens once money is paid to my child?

Distributed funds become your child's own property and can be reached like any other asset. Authorizing the trustee to pay expenses directly reduces this exposure.

Does a spendthrift clause protect my child from a divorcing spouse?

Inherited trust assets are separate property and are not divided in a divorce. A spendthrift clause does not prevent a court from counting distributions as income for support purposes, and it does not block enforcement of a support order against income your child is entitled to receive.

Can I protect my own assets by putting them in a trust for myself?

No. Under EPTL 7-3.1, a trust for the creator's own benefit is void as against the creator's creditors. For lifetime planning options, see advanced New York estate planning techniques.

Speak With a New York Trust Attorney

How well your children's inheritance is protected depends on precise drafting under the EPTL and CPLR, and on choosing the right trustee. We can help you create a new trust for your children or review an existing will or trust to see how it would hold up against creditors, divorce and lawsuits. Call the Law Offices of Albert Goodwin at 212-233-1233 or email [email protected]. You can also read more about our New York City trust practice or about beneficiaries' rights to trust information.

This page provides general information about New York law and is not legal advice. Reading it does not create an attorney-client relationship.