Trusts in Bankruptcy
Most inter vivos trusts contain a “spendthrift” clause. The filing of a bankruptcy petition creates a “bankruptcy estate” that includes all legal or equitable interests of the debtor in property as of the commencement of the case. 11 U.S.C. Section 541(a)(1). However, some assets or interests are excluded from the bankruptcy estate. 11 U.S.C. Section 541(c)(2) states: “A restriction on the transfer of a beneficial interest of the debtor in a trust that is enforceable under applicable nonbankruptcy law is enforceable in a case under this title.” In the case of a debtor’s interest in a trust, the “relevant nonbankruptcy law” is state law. 60 O.S. Section 175.25(A) provides, “Any instrument creating a trust may provide by specific words that the interest of any beneficiary in the income of the trust shall not be subject to voluntary or involuntary alienation by such beneficiary. of Subject to the following provisions of this section, a direction to this effect shall be valid and enforceable.” 60 O.S. Section 175.25(E) provides, “The right of any beneficiary of a trust to receive the principal of the trust or any part of it, presently or in the future, shall not be alienable and shall not be subject to the claims of his creditors.” Therefore, an Oklahoma debtor‘s equitable interest in a valid spendthrift trust is normally not included in his bankruptcy estate (caution if there are out-of-state assets).
However, in Malloy vs. Morrison (In re Morrison), 2010 WL 6490255 (Bankr.N.Dist.Okla. 2010), the court ruled that the assets of a trust were property of the bankruptcy estate where, even though the trust contained a spendthrift clause, the trust also allowed the debtor to receive corpus of the trust on demand.
Another way that a debtor’s beneficiary interest in a spendthrift trust could become an asset of the bankruptcy estate, is that, within 180 days after the bankruptcy case is filed under chapter 7, or any time during the three-to-five year term of a chapter 13 plan, there occurs an event, such as the death of the trust grantor, that triggers the debtor to become entitled to an outright distribution of trust assets. 11 U.S.C. Sections 541(a)(5)(a), 1306(a).