Seventeen states have passed legislation allowing domestic asset protection trusts (a “DAPT”) to be created under their state law. Georgia would have become the eighteenth state except its Governor vetoed the House Bill that would have paved the way for such trusts. Notwithstanding that proper motives can lead to creating such a DAPT, the concern that contemptable motives could also lead to such a trust, which would shirk creditors, and at the same time, remain available to the person (the “settlor”) who created the trust, resulted in Georgia denying this as a planning tool in that state. The concern in Georgia was that such trusts could inequitably favor debtors over creditors.
This is a bit ironic in that if the improper goal for creating these trusts is shown, then the asset protective nature of the trusts dissipates. For example, if asset protection is the main goal, then this makes the planning structure more vulnerable to a creditor challenge. Conversely, if the settlor is more motivated to create a trust to have his or her other family members (e.g., descendants) better protected with respect to their inheritance, the trust planning structure’s assets can be less susceptible to a challenge by a creditor. The settlor may choose an offshore situs for such a trust in order to achieve an even better protective, stable and predictable legal environment. On a similar front, if the motivation for the trust’s creation is more tax-driven (such as a trust known as a Ding to save state income taxes or a trust known as “completed gift” trust to lock in the current high gift, estate and generation-skipping transfer tax exemptions), the more likely the trust will not fold under a creditor-fraud argument. Having such more-acceptable goals can lead to less scrutiny when such trusts also have the incidental design feature that allows, in the event of major economic downturns or other “emergency” situations, the planning structure to also be of financial aid to the settlor (the “rainy day power”), yet not be subject to the settlor’s creditors in the meantime.
Those in Georgia will need to seek other state’s laws to set up DAPTs. There have been recent cases however that will apply laws of one state in a manner that is inconsistent with the laws of the other state (where the DAPT is allowed). Therefore, the attraction for the use of offshore trusts becomes apparent in that the offshore venues are much less likely to recognize the laws of any of the fifty contiguous United States.
Asset protection planning is a highly specialized field that individuals or businesses should not attempt without guidance and assistance from an attorney who primarily focuses on this area of the law. The asset protection field is as much art as it is science. One must understand the law to distinguish proper planning from improper planning. The well-versed practitioner can identify when a planning trust should not be used, such as a situation in which a fraudulent transfer would be involved. The seasoned advisor will analyze the various factors to ensure the motives are proper, such as the settlor’s reasons for wanting to create a trust, the percentage of the settlor’s net worth being addressed, and the timing of the funding of the trust. The conclusions reached after considering all those factors can predict how effective any plan will be. Documenting the settlor’s main goals for any plan to be implemented can be very effective in defeating attempts to challenge the plan in court because of any alleged “contemptable” ulterior motives.
Some examples we have seen regarding proper motives for creating offshore trusts have included the desire to invest funds in a structure that removes the assets from one’s taxable estate. Under Tax Code Section 2036, this cannot be done if the settlor’s creditors can access the trust. This can be a problem if the settlor desires to have the trust build in a rainy day power that can be implemented by an independent trustee in such trustee’s discretion. Such a rainy day power can make the trust self-settled. This means that under US trust law, such a power can cause the trust to be more susceptible to the settlor’s creditors, and therefore achieve no estate tax exclusion status. This estate tax dilemma is more easily avoided with an offshore trust as opposed to a domestic structure in light of a string of cases that have ruled against settlors who are domiciled in one of the states that have not passed asset protection trust legislation, notwithstanding that they created a trust under one of the seventeen DAPT state laws.
Another proper motive we have seen in setting up offshore trusts has been the desire to implement offshore investments strategies, using offshore investment advisors and using trust laws that are perceived as more conducive to better rates of return in a more stable and predictable legal environment and safer financial environment.
Asset protection planning should be high on many people’s priority list when one considers that the chances of being sued and the possible resulting financial repercussions (not to mention the stress and emotional toll) which can be significant. In fact, Rocket Lawyer Incorporated estimates that more than one hundred million lawsuits are filed every year. Most people know at least someone who has been sued. Many are aware of the numerous risks existing that could be devastating to the targeted “defendant,” whether due to divorce, an employee action, or any adverse business development that drives one into bankruptcy. Therefore, proper planning should be on people’s radar.