Providing for a Spendthrift: Annuity or Trust?

From the Ask Encore column in today's Wall Street Journal:

I may end up leaving a substantial sum to a couple of nieces if I die prematurely. One of these nieces is very responsible; however, the other has no financial sense and would squander a lump-sum inheritance. Can I stipulate in my revocable trust that, upon my death, the trustee should purchase an immediate annuity for the spendthrift niece so that her inheritance is doled out over her expected lifetime?

-- Bob Lindinger,
Schenectady, N.Y.

Buying an immediate-fixed annuity, a plain-vanilla instrument designed to provide your niece with regular payments, "might be a reasonable alternative" to using a trust for the same purpose "if the amount involved is too small to make a trust viable, or if there are no reliable people to serve as trustees and you don't want to name a bank," says Martin Shenkman, an estate-planning attorney in Teaneck, N.J.

He has suggested similar approaches in a few cases in his own practice, he says, but contends that if a trust is a viable alternative, it would be safer. Both tools come with costs: Annuities may carry steep commissions, and trusts typically cost several thousand dollars to set up. The big drawback to using an annuity in this case is that your niece probably could cash it in early. There may be surrender charges involved, but "a spendthrift heir may opt for that approach" anyway, Mr. Shenkman says. A trust could offer more flexibility if the niece has an emergency or "gives up her spendthrift ways and wants to start a business. The trust could loan her money or guarantee a bank loan to get her going."