In the past few years, a number of states, such as Nevada, Alaska, and South Dakota, have enacted legislation that permits the use of self-settled or “asset-protection” trusts. Basically, these trusts allow a person to be the beneficiary as well as the grantor in a trust. As the name implies, these trusts are usually implemented to legally shield debtors from claims by creditors, or at the very least, to provide a deterrent against creditor claims. However, given public policy concerns, these trusts may have a hard time being respected by courts and actually providing asset protection. Critics note that domestic trusts are still domestic. Consequently, judgments in other states must be honored by the state in which the trust is located and a trustee can potentially be compelled to give up the trust’s assets as a result of such a judgment. Classically, this has not been much of a concern for these trusts’ foreign counterparts. Judgments rendered by U.S. courts have little to no weight in foreign jurisdictions. As a result, a creditor would have to separately pursue a claim and obtain a judgment in the foreign jurisdiction, which usually has highly unfavorable creditor laws, if it wants to reach the assets of a foreign trust. This makes it not only extremely difficult, but also expensive and time consuming, to obtain a judgment to get the assets in a foreign trust.
However, it is possible to attain the level of protection offered by an offshore trust while still using a domestic trust. After forming a domestic asset-protection trust and turning over the assets to the trustee, the trustee can then form a foreign entity, usually a corporation or a limited liability company, and place the assets in such an entity. This forces a creditor to not only get through the domestic asset-protection trust, but also to get a judgment in a foreign jurisdiction. For example, say a person contributes assets to a domestic asset-protection trust. The trustee is a U.S. resident and could be compelled to disburse the trust assets to a creditor if compelled to do so by a U.S. court. In order to remedy this problem, the trustee can form a limited liability company subject to the laws of a foreign jurisdiction and transfer the actual assets of the trust into the limited liability company in exchange for an interest. Thus, if the trustee is compelled to disburse the assets of the trust by a court, it would only be able to disburse the membership interest in the limited liability company. For a creditor to reach the actual assets of the limited liability company, the creditor would have to get a court order in a foreign jurisdiction. So, in the end, the creditor encounters the same problem as it would encounter with a foreign trust, but with the added problem of having to obtain a domestic judgment first. The key issue is how much control the member of the limited liability company, like a grantor with a trust, possesses. If the member has too much control, a court could force the member to pull the assets out of the limited liability company. Still, this type of plan, if constructed properly, reaps the benefits of a foreign and domestic asset-protection trust.
If you or someone you know needs assistance establishing a self-settled or “asset-protection” trust, or obtaining a judgment to collect assets from such a trust, the experienced team at Chepenik Trushin LLP is here to help. Please do not hesitate to contact us.