Interest in asset protection among the affluent has doubled since 2000.
With an estimated 50,000 lawsuits filed each day in the United States, litigation has become a national pastime. And as creditors and plaintiffs' attorneys look to hit the jackpot by taking deep-pocket defendants to court, it's essentially open season on wealthy individuals whose livelihoods carry inherent liability risks.
In California, builders are held liable for defects up to ten years after a building's completion. In Florida, the malpractice crisis is so bad that it's reported that about 6% of the state's physicians have "gone bare" by ditching their costly medical insurance and promising to pay the lesser of $250,000 or the judgment amount if they're sued. And as a result of the Sarbanes-Oxley Act passed in 2002 to regulate corporate governance at public companies, corporate CEOs and CFOs are held personally responsible for financial misconduct at their companies, with consequences ranging from reimbursing companies from their bonuses and gains from options to possible criminal penalties.
For these and other reasons, some financial professionals are seeing increased demand from wealthy clients for asset protection vehicles that shield their resources from lawsuits. A survey of individuals with at least $1 million in assets showed that 35% had some type of asset protection plan versus 17% in 2000. Also, 61% of those without such plans were interested in creating one, compared with 43% in 2000, according to Prince & Associates, a consulting firm in New Milford, Conn.
One area getting more notice is asset protection trusts, which are irrevocable structures that transfer legal ownership of trust assets to the trustee, who holds them for the beneficiary. Asset protection trusts differ from other trusts in that they're self-settled, meaning the person who sets up the trust can also be the beneficiary. If constructed properly, and if they're located in a jurisdiction that recognizes self-settled trusts, they present legal obstacles that protect assets in case the beneficiary is sued or files for bankruptcy. If a legal action ensues, a creditor can't attach the assets because it's the trustee, and not the beneficiary, who controls the assets.
Offshore trusts in Bermuda, the Cayman Islands, Gibraltar and other havens have been popular for years. (Contrary to popular lore, U.S. beneficiaries are still subject to U.S. income tax on these assets). Sensing a business opportunity, a handful of states-Alaska, Delaware, Nevada, Rhode Island and Utah-have passed laws since 1997 that permit similarly structured self-settled trusts.
The idea appears to be catching on. Jeffrey Lauterbach, chairman and chief executive of the Capital Trust Company of Delaware, says his firm holds more than $250 million in roughly 100 Delaware asset protection trusts, or about triple the amount from a year ago. Clients run the gamut from doctors to corporate executives (concerned about the dramatic rise in liabilities resulting from Sarbanes-Oxley regulations) to wealthy individuals concerned about possible litigation.
Titling Assets To Spouses
The Lexington Family Office in Daytona Beach, Fla., caters to the physician marketplace. Dale Veitch, the firm's family liaison, says titling of assets is an important asset protection tool for doctors. One of the methods they use is called tenant by the entirety, in which a physician titles his or her assets with their spouse. That protects all of the assets against a creditors claim, assuming the creditor is suing only one of them.
But this arrangement, like other titling structures such as family limited partnerships and limited liability companies, have their limits when it comes to asset protection. To fortify their defense, Veitch has placed some clients in a Delaware asset protection trust. "We generally use it to hold partnership units or shares of a corporation," he says.
Basically, the trustee (in this case, Capital Trust) controls the partnership units or corporation and has the power to distribute income from it or to liquidate it. As part of the arrangement, the beneficiary appoints someone as trust protector (an attorney, a business associate or anyone else they're comfortable with) to oversee the trustee to make sure it acts in the beneficiary's best interests. All the while, the general partner in the partnership or majority owner in the corporation maintains day-to-day control of the business operations. For litigation purposes, creditors can't attach the assets because the trustee has control over income distribution or liquidation of the entity.
In simplest terms, an asset protection trust aims to thwart attempts to get at someone's assets by placing obstacles in the path of creditors that either derail litigation altogether or create a settlement on the best possible terms for the defendant. "The process of asset protection is about helping clients build fences around their property so the wolves will go elsewhere," says Lauterbach. "Each person must decide how many fences they want."