As a financial advisor, you will have clients who are doctors, lawyers, accountants, or real estate agents. There are the top four professions that attract lawsuits when they make costly mistakes.
If they lose lawsuits, these professionals can have their assets seized to pay for damages, penalties and even the attorney’s fees of those suing them. An asset protection trust can help protect their assets.
An asset protection trust can also shield your clients’ property from creditors, civil actions, and divorce proceedings. Anyone with a lot of savings, property, and valuable assets can use an asset protection trust.
So, what is an asset protection trust? How does an asset protection trust work and how do you set up an asset protection trust? InvestmentNews answers these and more, so read on.
As the name implies, the asset protection trust is designed to shield an investor’s assets from creditors, divorce settlements, lawsuits, and civil claims. This is a form of irrevocable trust where assets are placed within the trust and cannot be removed.
In most cases, investors would use a revocable living trust to give assets to their beneficiaries while still being able to change provisions of the trust. The downside of a revocable living trust is that the assets within it remain vulnerable to court judgements like divorce proceedings.
Because assets are protected from legal claims and creditors, an asset protection trust can be an invaluable tool in estate planning. If your clients are considering using an asset protection trust, it’s important that they are aware of how it works, and any drawbacks or benefits it might have. This way, your clients can make informed decisions that are in line with their financial goals.
If an investor gets sued, the assets in an asset protection trust will not be considered part of their property; the trust owns the assets.
Like a revocable trust, the provisions of an asset protection trust may still be changed while the grantor is alive. To change the provisions or revoke them, all the beneficiaries must give their consent. Changes must be made via court order.
An asset protection trust can also be used as an alternative estate plan or financial plan in a pre-nuptial agreement. This can be a very valuable tool in protecting your client’s assets from future divorce proceedings. Watch this video to know more:
For investors who wish to keep their assets away from claims arising from creditors and court judgments like civil actions or divorce claims, thereby preserving their wealth, they can choose from these asset protection trusts:
This is a relatively new type of trust, introduced in 1997. Not all states allow this type of trust, while the ones that do can have varying rules. This type of trust does not and cannot be used to protect assets from outstanding claims.
For instance, if a credit card company sues an investor for $7,000 in unpaid debt, that amount cannot be placed in a domestic asset protection trust.
Here’s a list of the US states that allow for domestic asset protection trusts:
US States where Domestic Asset Protection Trusts are Allowed | |||
Alaska | Mississippi | Oklahoma | Utah |
Delaware | Missouri | Rhode Island | Virginia |
Hawaii | Nevada | South Carolina | West Virginia |
Indiana | New Hampshire | South Dakota | Wyoming |
Michigan | Ohio | Tennessee |
Also called an offshore trust, the foreign asset protection trust is set up outside US borders. This type of trust is governed by the laws of wherever it was established. Two of the most common places where foreign asset protection trusts are set up are Bermuda and the Cayman Islands.
These trusts are often more expensive to set up than domestic trusts and are harder to find.
If an investor figures in a criminal or civil case and is convicted, most other countries honor US law enforcement policies. Foreign asset protection trusts cannot protect assets if the grantor is convicted.
This type of trust is designed to help investors qualify for Medicaid benefits. It works by preventing some of an investor’s assets from being counted towards their Medicaid eligibility threshold.
Different US states have varying asset limits for individuals’ Medicaid eligibility requirements. While some large, substantial assets aren’t counted in the eligibility requirements (like the individual’s primary residence or vehicle) the asset limits are still low enough to be exceeded by other assets.
This is where the Medicaid APT comes in – it “protects” other assets in the trust to prevent going over the asset limit for Medicaid. The only caveat is that the Medicaid asset protection trust must be set up at least five years before the investor applies for Medicaid.
Asset protection trusts, regardless of their type, have their share of common advantages and disadvantages. Let’s go over them:
There are benefits to incorporating asset protection trusts into your client’s financial planning, such as:
Let's say an investor places their assets in an asset protection trust, then they are sued for an unsecured debt or legal issue. The suing party cannot take any assets if they win the case.
Some foreign asset protection trusts may also be able to shield assets from court rulings or orders that grant the ownership of assets to a spouse in case of divorce. This is if the assets were placed in the trust well before court proceedings.
Attorneys of suing parties may see that the subject of their potential lawsuit may not have enough assets to pay for the damages. Since a substantial part of the assets are in a trust, the net worth of the individual can be much lower than otherwise thought.
This alone can discourage plaintiffs and their lawyers from suing.
Since assets in the trust are not counted among an investor’s total assets, they can pay less tax. This is especially true if the investor stores assets in a foreign asset protection trust created in a country with lower tax rates. They can pay less tax on those assets, while also paying less domestic tax since they can claim to be in control of fewer assets.
It can be more expensive to set up an asset protection trust in a foreign country. You or your client must crunch the numbers to see if this outweighs the costs.
If a plaintiff sues an individual who has much of their property in a trust, they can come to a settlement. This can be favorable for the individual being sued, as they have fewer assets that they have legal control over. The plaintiff will have to agree to a smaller settlement.
An investor can use a Medicaid asset protection trust to qualify for Medicaid in the future, should they need it.
An asset protection trust can reduce the number and value of assets a person legally controls, helping them avoid disqualification for Medicaid and other government benefits.
Despite their benefits, asset protection trusts pose challenges, such as legal restrictions in some US states and high setup costs. Let’s go through the downsides:
The asset protection trust is a new type of trust, so it is not offered in all the US states.
Setting up the trust can take a lot of time and money. This is complex to navigate and requires highly skilled, experienced attorneys to draft and put together.
For an asset protection trust to be effective, it must be put up well in advance – before the investor is sued or before they apply for Medicaid.
Much like an irrevocable trust that cannot be changed, it is the same with an asset protection trust. Changing or cancelling the trust is only possible in certain cases.
An asset protection trust is directly affected by the economy, law, and politics of the country or state in which it’s created. This can be helpful in some respects, risky in others. For example, a trust in the Cayman Islands may benefit from lower taxes but could be endangered by political instability.
The main benefits of an asset protection trust as an estate planning and wealth preservation tool cannot be ignored. This can help your clients in the medical, real estate, accounting, and legal professions – those that are most subject to lawsuits.
Other investors with substantial assets who may one day get divorced can also benefit greatly from an asset protection trust. This can be great for a master financial and estate plan if properly mapped out and executed.
The key is to determine which type of asset protection trust would work for your client best. Financial advisors should crunch the numbers and do the necessary paperwork to help their clients reap the benefits.
Read and bookmark our Industry section for regulatory updates on trusts and other financial planning tools, right here on InvestmentNews.
New chief executive Rich Steinmeier replaced Dan Arnold on October 1.
The global firm is navigating a crisis of confidence as an SEC and DOJ probe into its Western Asset Management business sparked a historic $37B exodus.
Beyond returns, asset managers have to elevate their relationship with digital applications and a multichannel strategy, says JD Power.
New survey finds varied levels of loyalty to advisors by generation.
Busy day for results, key data give markets concerns.
A great man died recently, but this did not make headlines. In fact, it barely even made the news. Maybe it’s because many have already mourned the departure of his greatest legacy: the 60/40 portfolio.
Discover the award-winning strategies behind Destiny Wealth Partners' client-centric approach.