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The Divorce Encyclopedia
Trusts


Term Definition Trusts - instruments for distributing wealth by means other than outright bequests to beneficiaries.
Application in Divorce For a variety of reasons, people sometimes place wealth in trusts, and courts must frequently decide the extent to which income and remainder interests in the trust constitute divisible property if the beneficiary divorces before the trust terminates.

About one-third of all jurisdictions follow the all-property model of division, which permits division of gifts and inheritances, and even those states that do recognize separate property hold that active appreciation -- or even all appreciation -- is marital property. For these reasons, trusts become contentious in divorce actions.

In order to deal with trusts and property distribution associated with them, a person must understand a lexicon of terms. A party who establishes a trust is a settlor. Trusts are said to be revocable or irrevocable, pending upon whether they may be revoked by their settlor. Trusts include a principal, which generates income. Income is paid out as a distribution, or it is invested in the principal. An income interest is the right to receive periodic distributions from the trust, and these may be mandatory or discretionary as well as absolute or conditional. When the interest is mandatory, the trustee is required to distribute income; when it is discretionary, the trustee may distribute income. If the income interest is absolute, which means distribution is required or permitted "under all conditions"; if it is conditional, certain circumstances must be in place, such as a necessity for the beneficiary’s health or education. Trusts include what is called a remainder interest, which is the right (normally to the beneficiary) to receive the principal at some future point. Normally this interest is vested or contingent, depending upon whether the right to receive the principal is certain or uncertain. Some trusts include spendthrift provisions to protect the beneficiary from his own excesses; that is, the trust prohibits him or her from spending all the money that he or she is entitled to.

As a general rule, certain and definite interests in a trust are property, and may be subject to distribution in a divorce.

In most cases, a revocable trust is not property, because the interests under a revocable trust exist only at the sufferance of the settlor. This general rule applies in the divorces of both the settlor and the beneficiaries.

Irrevocable trusts create legal rights for the beneficiaries, and therefore they are property. In the settlor’s divorce, however, the trust is a third-party entity, and the assets cannot be touched by the divorce. For the beneficiary, the rights are divisible property.

A mandatory unconditional income interest in an irrevocable trust is property; discretionary income interests generally do not constitute property.

In jurisdictions that permit only the distribution of marital property, the income interest is separate property if it acquired by gift or inheritance.

In most dual classification states, the manner of the acquisition of the principal -- that is gift or inheritance -- makes it separate property. In those jurisdictions where gifts and inheritances are marital property, however, the timing of the recipient of the principal can be very important.

One of the most difficult questions that arises in classifying interests in an irrevocable trust is whether or not a remainder interest is property. In general, a remainder interest, which is the right to receive the principal, is either vested or unvested. When it is vested, courts consider it certain and therefore property; when it is unvested, it uncertain and therefore not property.

Of course, a remainder interest may or may not be marital property depending upon the jurisdiction.

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