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When an heir files for bankruptcy, it can affect how and when they receive their inheritance. Because bankruptcy involves liquidating or restructuring a person’s assets to pay off creditors, any inheritance they’re entitled to may become part of their bankruptcy estate. Timing, estate structure, and asset protection measures all determine what happens next. Understanding these factors can help you plan ahead and protect your beneficiaries’ inheritances from being lost to creditors.
What Happens if an Heir Files for Bankruptcy Before the Estate Is Distributed?
If an heir files for bankruptcy before your estate is distributed, their share may be used to pay their debts. Under federal bankruptcy law, once a person files, most of their non-exempt assets, including an inheritance they’re entitled to receive, can be claimed by a bankruptcy trustee.
However, timing matters:
- If the decedent passes away within 180 days after the heir files for bankruptcy, the heir’s inheritance is generally considered part of the bankruptcy estate and may be used to pay creditors.
- If the death occurs more than 180 days after the bankruptcy filing, the inheritance is typically excluded from the bankruptcy estate. However, protection can also depend on how the inheritance is structured—for example, whether it is held in a trust with a valid spendthrift provision specified in the Last Will and Testament and/or the Trust.
This 180-day rule often catches families off guard, especially when probate takes several months to complete.
Protecting an Inheritance Through a Trust
One of the most effective ways to protect an heir’s inheritance from creditors is by using a spendthrift trust. This type of trust prevents the beneficiary from selling or assigning their interest in the trust and stops creditors from reaching the assets before they’re distributed.
A properly drafted spendthrift provision can:
- Prevent creditors from seizing trust assets to satisfy debts.
- Give the trustee discretion over distributions.
- Ensure that funds are used for the heir’s benefit, not their creditors.
Massachusetts courts generally uphold spendthrift trusts, but the trust must be established before bankruptcy or debt issues arise. However, only third-party spendthrift trusts—those established by someone other than the beneficiary—are protected from creditors. Self-settled trusts, in which the debtor is both the creator and the beneficiary, typically do not receive the same protections under Massachusetts law.
How Timing and Probate Delay Can Complicate Things
Probate in Massachusetts often takes several months to over a year, depending on the estate’s complexity. During that time, if one of your heirs files for bankruptcy, the trustee may attempt to claim their future inheritance as part of the debtor’s estate.
You might be wondering how that’s possible when the inheritance hasn’t been paid yet. The answer lies in entitlement—once a person becomes legally entitled to an inheritance (for example, after the Last Will and Testament is admitted to probate), it may be viewed as an asset, even if funds haven’t been distributed.
Working with an estate planning attorney to anticipate such issues can help you minimize risk, for instance, by structuring gifts through trusts or conditional distributions.
Bankruptcy and Jointly Inherited Property
When multiple heirs inherit property together, one heir’s bankruptcy can complicate the entire process. For example:
- If the property is sold, a bankruptcy trustee may claim the filing heir’s portion of the proceeds.
- If the property is retained, co-owners may need to work with the trustee to resolve ownership rights.
To avoid these complications, it’s often best to structure asset transfers in a way that separates individual shares and reduces joint ownership risks.
Should You Change Your Estate Plan if an Heir Has Financial Troubles?
If you know that one of your beneficiaries struggles with debt or poor financial management, it’s wise to make proactive changes to your estate plan. Options may include:
- Establishing a discretionary or spendthrift trust.
- Delaying distributions until the beneficiary’s financial situation improves.
- Appointing a trustee to manage distributions responsibly.
These strategies can prevent your estate from unintentionally paying off your heir’s creditors and ensure that your assets support the person you intended.
Updating Your Plan with Future Risks in Mind
Bankruptcy is only one of several financial challenges that can impact inheritances. Divorce, lawsuits, or medical debt can also threaten your heirs’ future stability. Regularly reviewing your estate plan allows you to adjust for life changes and maintain control over how your legacy is handled.
We will help you explore protective planning tools that keep your beneficiaries’ inheritances intact, no matter what financial challenges they face.
Protect Your Legacy from Unintended Consequences
If you’re concerned that an heir’s financial troubles could affect how your estate is handled, now is the time to act. We will help you create a plan that protects your family’s inheritance and respects your wishes. Contact The Law Offices of Patricia Bloom-McDonald today to discuss strategies for safeguarding your estate from creditor claims and bankruptcy complications.