What is a Separate Property Trust?
A separate property trust is a legal tool to create a separate property for specific individuals. It can be used as a part of prenuptial agreements and it protects both spouses’ children from the division of assets in case of a divorce.
A trust is an entity formed by law and the intended benefit of this trust goes to a person known as the beneficiary. The trust maker is the person that contributes to the trust and the person or entity managing the trust is called the trustee.
Now in the case of separate trusts, the trust is designed to keep specific assets of a trust maker free from any legal incursions. Having assets listed in a separate trust keeps them secure from division in the case of a divorce or any liability suit on the trust maker's spouse.
Couples that have separately owned properties before marriage can opt to keep their properties or some specific property away from joint ownership. This applies mainly to remarrying couples who have children and property from earlier marriages.
Trusts are usually used to plan out your estate distribution and benefits and are usually done using a comprehensive and secure estate plan that cannot be contested due to legal shortcomings.
In the case of marriage, many lawyers and wealth managers advise looking at things from a long term and worst-case perspective.
There are currently 9 states in the USA that have community property laws, they are Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin.
In cases where a marriage ends in divorce, in these states where there are community property laws, all property or assets accumulated during the marriage are divided between the spouses.
This means it can be a good idea to look for ways to secure individual properties in case of a future split.
Many couples opt to build up a trust together, known as a Joint Trust, while others can opt for individual trusts, known as Separate Trusts.
How Separate Trusts are Beneficial
Separate Trusts help to clearly define which property belongs to whom, which helps to avoid potentially costly and stressful litigation over assets. In cases where there are children outside of the marriage, Separate Trusts help to secure their inheritance from being eaten up by divorce settlements.
Another example is that they also prevent children from a current marriage getting access to assets listed in the Separate Trust which might have been created to benefit children from an earlier marriage.
Having a Separate Trust in place is also suitable for insulating the asset owner from the financially irresponsible behavior of their spouse.
Why Establish a Separate Property Trust?
If your residence is in one of the 9 community property states listed above then any property owned by spouses becomes the joint property of the marriage.
Of course, when a marriage is a happy one this isn't a problem but most marriages are happy until the aren't.
The latest figures from the CDC are form 2020 and they state that there were 5.1 marriages per 1000 population, and 2.3 divorces per 1000 population. This gives a divorce rate of 45%.
With a rate so high it can be a good idea to plan ahead for the worst case scenario of divorce.
Community Property States
As we said earlier there are 9 community property states; Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin
In these states, if there is a divorce for example, then all of the joint property is liable to be divided up. Let's say that one spouse inherited property from their parents or loved ones, that means it is placed under common use or joint ownership.
Again this inheritance, which may have been intended only for one spouse’s benefit, becomes joint property.
That's why many married people decide to have such inheritances placed into separate trusts. Separate trusts are also helpful in the other 41 non-community property states, as people use the option of keeping specific property separate from joint ownership for their own reasons.
As the name implies, the separate trusts are designed to keep specific assets separate from the communal assets. Where there is divorce and division and distribution of assets distribution, then these assets are protected from being divided.
Separate trust assets are also protected from Probate rulings in case of the trust owner’s death.
Setting up separate trusts is a good idea for couples about to get married and having a prenuptial agreement. Having these trusts set up means that they can place their properties and assets into these trusts which can help enforce the prenuptial agreement.
Protecting Assets from Liquidation
Keeping assets safe from distribution to unintended recipients is made easy by separate trusts. Since separate trusts are intended to keep the assets of individuals in place, assets in such trusts are safe from risks taken by the other spouse.
In case there is litigation for settlement of debts, bankruptcy, or any other issue requiring asset liquidation, the other spouse’s assets in the trust will be secure.
Many couples married for a long time want to protect their children from losing their inheritance due to taxes or even the surviving spouse's remarriage.
Separate Trusts offer a means to make sure that the assets are not distributed away from the children. The surviving spouse may remarry without fearing that their children will lose their inheritance.
Tax Implications of Separate Trusts
Separate trusts benefit people trying to reduce the impact of estate taxes on their assets. The IRS have the current estate tax rates here, they target high net worth individuals and have a a threshold of $11.7million in 2021.
For people with estates exceeding this threshold, creating separate trusts will insulate your estate from these taxes and offer some relaxation.
Like most legal issues, there are a lot of factors to be considered which will be unique to every couple or scenario. This would require assessing personal, couple, financial and long term goals in depth to develop an asset division structure that will suit a couple, all their children, and their objectives as individuals and their marriage on the whole.