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| Best Practices: Matters of Trust |
Protected Class
Melissa Phipps
10/01/2004
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While moving assets offshore may still stir cocktail party
conversation, many individuals and families have become increasingly
apprehensive about doing so. “I’ve seen fewer people going offshore, and more
people setting up asset protection trusts in U.S. jurisdictions,” says Michael
Duffy, a wealth advisor with JP Morgan Private Bank in Atlanta.
| The money put into a self-settled trust should be thought of as a retirement
or emergency fund. You don’t intend to use it right away. |
Domestic
asset protection trusts are designed to place roadblocks in the paths of
creditors similar to those associated with offshore trusts. Domestic trusts
force a creditor attempting to siphon assets from the trust to conduct any legal
action in the grantor-friendly state where the trust is domiciled. In such
states, the law clearly favors the trust, making the creditor’s efforts to
prevail far more challenging. And unlike their offshore counterparts, domestic
trusts provide legitimate estate-planning benefits. Transferring assets into
these trusts effectively removes those assets—and their future appreciation—from
the grantor’s estate. The grantor, meanwhile, retains some access to the assets,
providing a middle ground for younger grantors who seek the protection of a
trust but are reluctant to make an outright gift. “The upside is fantastic,”
declares Gideon Rothschild, an estate attorney with Moses & Singer in New
York. “If you don’t need the money, it’s out of your estate. If you ever do need
the money, you may have the ability to access it. There’s no downside, except
paying your trustee fee every year.” Because they require a greater degree of
due diligence, offshore trust fees can run $20,000 to $25,000 to set up,
compared to approximately $5,000 to $12,000 in the United States. Ongoing
management fees, however, can vary widely.
States of Affairs
A grantor or beneficiary need not reside in a specific
jurisdiction to domicile a trust there. Indeed, many trusts are, as a matter of
course, domiciled in Delaware, Nevada or Alaska, because of the liberal trust
legislation adopted by these states. Only our independent trustee (in most cases
a bank, asset manager or trust company) need be based in the same state as the
trust; and most trust companies have conveniently established themselves in
these states to take advantage of this regulation. The states have mimicked one
another in drafting their laws, so little distinction exists between them.
Alaska was the first state to pass the legislation, and the state’s geographic
isolation adds an obstacle to creditors. Nevada has a shorter statute of
limitations for a plaintiff to bring a claim of fraudulent conveyance—two years,
compared to the other states’ four-year statutes—and is rising in esteem among
estate planners, particularly those on the West Coast who prefer to hold trusts
in the same time zone. However, many estate planners and attorneys prefer
domiciling trusts in Delaware, because of the state’s long history of trust law
and its commerce- and corporation-friendly Chancery Court. Of course, residents
in any of these trust-favorable states are advised to domicile asset protection
trusts where they live.
When we decide how to fund our trust, Duffy notes,
we should deposit no more than one-third to one-fifth of our assets. We should
also retain sufficient funds outside of the trust in order to avoid repeated
requests to the trustee for cash. “You don’t want to establish a pattern of
going to the trustee for a distribution,” Duffy suggests. “That will indicate to
a court that the trust is being used mainly for your benefit, and it will be
considered a fraudulent transfer. If the courts even smell that there is some
type of implicit agreement between the trustee and the grantor, they will pierce
the trust.” Under these same rules, this type of trust will not adequately
shield us if we face pending litigation or have a known or existing creditor.
Additionally, a court would consider a case obvious fraud if funding the trust
were to render the grantor insolvent.
Although an independent trustee
controls and distributes the assets in the trust, we, as the grantor, can
provide detailed instructions for the management of our assets when we draft the
documents. We might, for example, indicate that the trust pays the grantor 7
percent in interest per year, plus principal as needed. But as with any other
irrevocable trust, the grantor surrenders control of the assets that fund the
trust.
Duffy recently set up a domestic asset protection trust in Delaware
for the benefit of two sisters who had recently come of age and into a large
inheritance. The women were concerned that their new wealth would draw predators
searching for deep pockets, so a portion of their inheritance was put into a
trust where the assets would grow under professional management. The trust was
drafted to allow the women to access trust assets to purchase first homes, pay
for continuing education and make other large investments. The sisters’ approach
underscores the fact that good stewardship, rather than simply the safeguarding
of assets, should be the ultimate aim of such a trust. “The money put into a
self-settled trust should be thought of as a retirement or emergency fund. You
don’t intend to use it right away. It is there to grow and be used in unforeseen
circumstances,” Duffy explains. “The asset protection is just gravy.”
Illustration by James Steinberg.
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