What is a domestic asset protection trust? Why might an individual wish to establish an asset protection trust?
A domestic asset protection trust is an irrevocable trust that is established in a U.S. jurisdiction that is designed to protect the assets of the individual who creates the trust. These trusts are unique in that the individual who creates the trust and transfers assets to the trust is generally also a trust beneficiary, so that he or she retains the economic benefit of the assets that are transferred into the trust while simultaneously protecting those assets from the claims of creditors.
The reasons for establishing a domestic asset protection trust can vary. Some high net worth individuals may wish to establish the trust in order to protect assets from the claims of traditional creditors, while others establish these trusts in order to protect assets from the threat of future liabilities stemming from litigation. For example, individuals which high risk exposure levels, including doctors, lawyers and directors and officers of public companies, may wish to shield their assets from the threat of future lawsuits.
Others may wish to protect the assets that will eventually be inherited by a “spendthrift” heir, or a disabled individual. Asset protection trusts can also be used as a tool in marital planning, perhaps replacing a prenuptial agreement by placing certain assets beyond the reach of a future spouse. While asset protection is generally the primary motive in establishing these trusts, the irrevocable nature of the trust also means that the trust assets can be excluded from the settlor’s estate.
Not every state has enacted a statute that authorizes domestic asset protection trusts. Some states do not allow establishment of these trusts because of the public policy concerns over allowing an individual to establish a trust in order to shield assets from the valid claims of creditors. However, many individuals will establish domestic asset protection trusts in states that do authorize these trusts, such as Delaware or Alaska, regardless of whether the individual actually resides in that state.
What are the important elements of an effectively designed domestic asset protection trust?