Domestic Asset Protection Trust

Historically it was well known that while it is possible to set up a trust yourself your creditors have just as much chance to benefit as you do.  This is a “self settled trust” – of which a living trust is an example.  Neither the income nor the principal is protected against creditors.  Self settled trusts do have good effect on estate planning purposes with probate avoidance and cost savings being a major advantage.

Countries outside of the US began offering enticing creditor proof qualities to their laws, which forbade creditors from attacking the assets of self settled trusts.  Likewise, certain domestic states have passed similar laws which protect trusts against creditors and draw business to their states.  Trusts created in the U.S. and under these statutes have recently been termed Domestic Asset Protection Trusts (DAPTs).

To be fully protected from Creditors, domestic asset protection trusts provide that the trust is irrevocable – this means that the assets cannot later be withdrawn by the settlor of the trust.  You must also have at least one trustee be a physical resident in the state or an entity doing business in the state.

As an added defense, many states’ DAPT statutes provide for a “trust protector” who is a person with power to veto the trustee’s decisions to make distributions if such distributions may be vulnerable to the trustmaker’s creditors.

There are 12 asset protection states: Missouri, Alaska, Delaware, Nevada, Rhode Island, Utah, South Dakota, Wyoming, Tennessee, New Hampshire and Oklahoma and now Hawaii.  Alaska, Delaware, South Dakota and Nevada are the most commonly used DAPT states with favorable domestic asset protection trust laws.  Each state has different statutes and different advantages.

In Alaska, Delaware, and South Dakota, a present creditor must bring an action within four years of a transfer or within 1 year from the date of discovery of the transfer to challenge it or forever be barred whereas Nevada has a two year primary limitations period from the date of transfer or 6 months from the date of discovery. Nevada’s shorter date of discovery rule gives it an edge over all states on this point.  The new Bankruptcy barring certain transfer for 10 years to self settled trusts could negate any edge Nevada may have here.  Nevada law also allows a settlor to appoint himself as trustee over trust investments as long as an independent trustee has discretion to make trust distributions.

Alaska’s fraudulent transfer statute may be the most limiting in terms of which transactions are interpreted as fraudulent.  Most of the other statutes provide that a debtor must have made the transfer with the intent to “hinder, delay or defraud” while Alaska only makes fraudulent those transactions that were meant to “defraud that creditor”.

While in theory DAPTs should work, as of this writing no DAPT has been tested in a Florida court.  Florida has established that it does not like to offer creditor protection to self-settled trusts.  Many practitioners believe that while offshore trusts do cost the client more upfront, they are the way to go and will save the client money in the long run.