Domestic Asset Protection Trusts protect assets from creditors, are seen by some as a better alternative than certain business entities that have a similar purpose. A Domestic Asset Protection Trust (DAPT) is a special type of irrevocable trust. It allows the grantor to also be a discretionary beneficiary of the trust, while still providing important asset protection from creditors. A Domestic Asset Protection Trust may come with certain benefits, but some asset protection attorneys recommend considering some of the issues that may also arise with this type of trust.
Some uncertainties involved with Domestic Asset Protection Trusts
Domestic Asset Protection Trusts are often referred to as anti-creditor trusts. Alaska was the first state in our country to make these types of trusts statutory and several other states have followed suit. These statutes allow grantors to create trusts for their own benefit, but that also protect the grantor’s assets from creditors. This is something that most states actually prohibit.
One of the basic benefits of forming a Domestic Asset Protection Trust involves imposing a shortened period for creditors to challenge transfers to the trust. These trusts also make it more difficult for creditors to show that transfers were fraudulent. Although these types of trusts are simple to create, they must still meet specific criteria in order to be considered valid. For this reason, it is recommended that clients have asset protection attorneys assist in drafting the trust agreement.
Conflict of Laws can become an issue
As we stated earlier, each state has its own laws regarding the validity of Domestic Asset Protection Trusts. Some states recognize them, even through statute, and some prohibit them entirely. If there is any type of challenge to the trust resulting in litigation, the first step for the court is determining which body of law applies. In a situation where the parties to the legal dispute are from different states, the transfers of assets occurred in different states or the property itself is located in different states, the court must first determine which state’s law regarding Domestic Asset Protection Trusts will govern the proceedings.
That also means that you could be dealing with laws from a state that expressly prohibits these trusts. It is very unlikely that a court in a non-DAPT state will agree to apply the laws of a DAPT state. The potential for a conflict-of-law analysis alone creates sufficient uncertainty that many asset protection attorneys advise against using them.
Enforcing a judgment can be difficult
Despite the Full Faith and Credit Clause of the U.S. Constitution, which requires states to respect each other’s laws, the conflicting laws regarding Domestic Asset Protection Trusts present a particular problem. Once a court resolves the conflict of law issue and renders a judgment, being able to enforce that judgment remains a problem. Although one state may be required to respect the legal judgment of a court of competent jurisdiction in another state, there is still a question as to whether that is true if the first state believes that Domestic Asset Protection Trusts are invalid. The fact that this issue has not been clearly resolved in the courts creates more uncertainty.
Beware of certain statutory exceptions in various states
Even if the conflict of law and full faith and credit clause issues are resolved in your favor, there may still be statutory exceptions carved out in states where the Domestic Asset Protection Trust is recognized. Depending on the types of exceptions, the statutory protections of that state may still render the Domestic Asset Protection Trust useless.
Some of the most common statutory exceptions include allowing creditors to nevertheless collect for certain tort claims, child support, alimony, and taxes. This is another reason that many asset protection attorneys recommend against using these trusts.
Various courts may apply different legal standards
Another issue that can complicate the use of Domestic Asset Protection Trusts is the courts’ application of varying legal standards. The most common legal issues that could be applied differently are those dealing with fraudulent conveyances, such as how the “look back” period is determined and applied and how fraudulent conveyance must be proven. Also, some jurisdictions required the plaintiff to post a bond when filing a lawsuit challenging a Domestic Asset Protection Trust. Some require the person who loses the legal dispute to pay the fees of the winner. It all depends on the jurisdiction at issue.
Why you need an asset protection plan
Creating an asset protection plan involves assessing your property and organizing it in a way that will provide the best protection against unnecessary risk or loss that is possible. Despite what some people believe, asset protection is entirely legal if it is done properly with the help of asset protection attorneys. The intricacy of your asset protection plan will be dependent upon the size of your estate and the nature of your assets.
If you have questions regarding domestic asset protection trusts or any other asset protection issues, please contact the Northern California Center for Estate Planning and Elder Law for a consultation. You can contact us either online or by calling us at (916) 437-3500. We are here to help!