Does an IRS Tax Lien Attach to Irrevocable Trust?

Irrevocable trusts provide excellent asset protection for trust beneficiaries. Protection is codified in Florida statutes. Florida statute protect a beneficiary’s interests in irrevocable trusts that are either spendthrift trusts or discretionary trust. Florida statutes states that a a creditor cannot reach or force assignment of a debtor’s beneficial interest in a spendthrift trust. A spendthrift trust is a trust that includes a “spendthrift clause” that prohibits the voluntary or involuntary assignment of a beneficiary’s interest in trust property. Florida statutes also protect a beneficiary’s interest in a discretionary trust. A “discretionary trust” is any trust that gives the trustee sole discretion over the timing and amount of distributions of trust property to a beneficiary. A beneficiary has no rights to demand a distribution from a discretionary trust. Florida statutes state that a judgment creditor may not reach a debtor’s beneficial interest in a discretionary trust, even if the debtor serves as trustee of his own trust share.

The result is different when the creditor is the IRS. The IRS by statute has available the most powerful collection tools, and the IRS collection remedies supersede state law regarding debtor exemptions and creditor collection procedure. The general rule is that the IRS may assert a tax lien on any of the taxpayer’s debtor’s interest in any type of property including any present or future interest, absolute or contingent, in debtor’s interest in an irrevocable notwithstanding contrary state laws. The nature of the taxpayer’s interests in property is determined by state law.

It is well settled law that spendthrift trust provision cannot defeat a federal tax lien even if state law protects spendthrift trusts from civil money judgments. Discretionary trust protection is more complex. Discretionary trust that require the trustee to distribute money for the beneficiary’s support are referred to as “support trust.” The trust agreement typically gives the trustee total discretion over the amount and timing of support payments, but the trust agreement does direct the trustee to provide some financial support of the beneficiary. A pure discretionary trust gives the trustee total discretion over distributions , and the trustee is not directed or required to make any payments to any beneficiary. A support trust gives the beneficiary the right to demand money required for his basic support needs, whereas a pure discretionary trust gives the beneficiary no right to demand support payments regardless of how much the beneficiary needs trust distributions to pay for his most basic needs or personal emergencies.

The IRS tax lien does attach to a taxpayer’s beneficial interest in a support trust. The IRS lien does attach the taxpayer/beneficiary’s right to demand some distributions if the beneficiary requires money for his personal support. The IRS has stated (2000 WL 33119640) that in a pure discretionary trust, where a trust gives the trustee uncontrolled, absolute discretion with respect to distributions, the beneficiary has no basis to compel distributions. In that case, the beneficiary does not have any interest in the trust subject to a federal tax lien.

An irrevocable trust can be both a spendthrift trust and a discretionary trust. The trust agreement can include a spendthrift provision and also give the trustee total discretion over trust distributions. This type of trust, a completely discretionary spendthrift trust, provides the best asset protection for trust beneficiaries.