CHAPTER 10
Foreign Trusts

“Do not trust all men, but trust men of worth; the former course is silly, the latter a mark of prudence.”

– Democritus

Foreign trusts, and other offshore accounts, have been widely regarded as the ultimate asset and tax protection tool, even if rather exotic and probably only for the rich and famous. Opinions vary on the veracity of this view, which may be more rooted in the perceptions of a decade ago than in current conditions. On the one hand, you have advisers who say that a properly structured estate, including offshore provisions, is the ultimate planning arrangement; on the other hand, some advisors have seen too many people deluded by seminars that promised ultimate protection to those who signed up for an offshore trust which was not in their best interest. In this chapter, we will examine the realities as they exist today.

Whatever asset protection and tax saving strategies you implement in your personal financial and estate plan you need to make sure that your legal advisers are experienced in the particular field, and that the plan is prepared with a view on all conceivable contingencies. This is the overriding lesson that major consultants in the field repeat in all their advice, and it is especially applicable when you are dealing with offshore matters, where you may not feel that you have familiarity or control.

ADVANTAGES

One of the vigorous proponents of offshore planning is Arnold S. Goldstein, Ph.D., author of So Sue Me!, who avers that “your money is never safer than when it’s outside the country and beyond the reach of the American courts.” Examine what advantages you can have with a properly drafted and executed plan including offshore elements.

The main advantage of offshore investments is that they are not governed by U.S. laws, but by the laws of the country. This is helpful in several ways. First, the U.S. courts do not have jurisdiction over them, and cannot force accounts to be returned to the United States, unless there is an inter-country agreement. We will look at which countries have the most favorable laws for this purpose. This does not mean that the court cannot order you to return the funds, and if you have that control over them you would be in serious trouble should you not exercise that power. That is why foreign irrevocable trusts can form a basis for your plan, in that you turn over control of the assets to a trustee, and do not have the legal authority to demand their return.

Other countries have their own laws, and unless they are anarchic, court cases can be established under the country’s own laws. In the best of countries, these laws are not as favorable to creditors as they are in the United States, and the additional complication and expense of new litigation may also make your creditors hesitate to follow the money. Part of asset protection is to make it economically difficult to seize the assets, so that the claimant decides that the task is not worth undertaking.

A previous chapter discussed how an asset transfer could be found to be a fraudulent conveyance, even if there was no knowledge of a lawsuit at the time. If the transfer is found to be fraudulent, and the assets are in the jurisdiction of the United States courts, then it is a simple paper exercise for the transfer to be voided and the assets seized. This is not the case if the assets are in a different country’s jurisdiction, and thus there is some protection against predated claims.

In fact, in many countries there is a statute of limitations that requires the timely filing of a lawsuit for it to be considered, and this may invalidate some claims, particularly as it takes some effort to re-submit a case in a foreign country and under different laws. Another obstacle is that in many places the creditor must prove beyond a reasonable doubt that the transfer of funds was fraudulent, which is a very different criteria from that exercised in the United States. Often laws in other countries tend to be more in favor of the debtor than the creditor, particularly if that country has sought to make itself attractive for foreign investment.

If you have assets abroad, you have a wide range of investments available to you, much wider than you can find in the United States alone, so your assets can grow at a faster pace. The United States Securities and Exchange Commission makes it difficult for foreign companies to sell their stock in this country; so foreign assets open up this marketplace for the investor. Particularly relevant at the current time is your diversification away from the dollar, which seems to be depreciating at an alarming rate. As you can hold your assets in other currencies, you will be less exposed to currency fluctuations.

One sometimes intimated advantage is tax savings. Unfortunately, this is often in the context of hiding your assets from the IRS so you do not pay income or capital gains taxes on them; this is against the law. This counts as tax evasion, which is illegal, and you should know that the IRS is actively pursuing people who behave in this manner. However, tax planning should be a part of your offshore portfolio, which will at least be tax neutral. To repeat, Americans are liable for income tax on all their income, no matter where in the world it is earned, and to try to hide this away is a serious offense. You achieve better financial privacy by using offshore accounts, and you must follow the required tax reporting rules in order to continue enjoying this.

The statistics support the favorability of transferring assets abroad for protection. Fewer than 3 percent of judgment creditors even attempt to satisfy their judgments with offshore assets, and even among those the case is often settled for a fraction of the claim.

DISADVANTAGES

Overseas trusts have been oversold, that is a demonstrable fact. Investors have been tempted with the promise of ironclad asset protection and, perhaps, the thought of saving income tax by some less-than-honest dealing. Add to this the idea that a visit to another country could be claimed as a tax deduction if your accounts are held there, and it is easy to see why many people fell for the pitch. An advocate for the point of view that offshore planning may not be worth the cost is Mark J. Kohler, attorney and CPA, who in his book, Lawyers are Liars, says, “for the average American, I believe off shore should be off limits.” He does not dismiss it entirely, but emphasizes that the cost and the need to make sure it is done correctly, if at all, have to be balanced against the potential gains. One of his main complaints is that some promoters try to offer a standard solution for everyone, and that each plan should be individually tailored for the particular situation.

For the offshore planning to be successful, it is not sufficient that the account is located elsewhere. You must also give up any semblance of control over the assets, which is a factor that you need to take into your assessment of the viability. If you have any ability to force the assets to be repatriated in satisfaction of a judgment, you must exercise it or face jail time for contempt.

This fact was forcibly demonstrated by two court cases around the turn of the century. The Federal Trade Commission brought a case against Affordable Media, LLC, in 1998, which was decided in favor of the FTC in 1999. Denyse and Michael Anderson who ran Affordable Media sold investment interests in their company, which was run as a Ponzi scheme. This means that later investments were used to pay dividends for the early investors, and true cash flow was not being generated as promised. They had created a trust in the Cook Islands, which is one of the countries favored for offshore trusts.

The Andersons were co-trustees and trust protectors, which are explained later. When they were ordered by the court to repatriate the funds, they were terminated by the Cook Island trustee, as required by an antiduress provision, resigned as trust protectors, and claimed that they could not access the funds. The U.S. court determined that this was a false claim, as they had control of the trust. There was a similar outcome in the case of Goldberg v. Lawrence, which was decided in 2000. Vernon Jacobs is familiar with the issues of this case, and why it failed. He has particular expertise in foreign matters and tax compliance.

CASE STUDY: VERNON JACOBS

Vernon Jacobs is a CPA and CLU who provides tax compliance services to U.S. persons that own a foreign corporation, foreign partnership, foreign trust, or various foreign investments. He is a prolific author and the President of Offshore Press, Inc., a family owned company that publishes his books and newsletters. (www.offshorepress.com)

 

In what way are you involved with asset protection, and does this include general estate planning, such as for tax issues?

I’m the author of a twice monthly e-mail newsletter and subscription Web site that provides extensive information about asset protection and related tax issues. I believe that providing asset protection services is “the practice of law” and that those who provide such services without having a law degree and a license to practice law are subjecting themselves to serious malpractice problems and their own malpractice coverage will not provide redress to their clients.

Do you specialize in any particular aspects of asset protection, such as foreign trusts or LLCs?

My focus is on the tax treatment of foreign asset protection methods but is not limited to the use of foreign entities.

In your experience, do you find that a single entity or strategy is sufficient for most people, or do you commonly recommend a multi-layered structure?

The complexity of an asset protection plan should be based on the size of the client’s estate, his or her risk exposure and his or her tolerance for dealing with the complexities of multi-layered structures. Multiple entities that are properly structured can provide greater asset protection, but the added protection might not justify the added cost of establishing the multiple entities and maintaining them over an extended time.

Have you found that you have needed to change your methods in recent years, because of FTC v. Affordable Media, or to include Nevis LLCs?

The Anderson case and a number of similar cases involved foreign trusts which the U.S. courts believed were not truly independent of the trust grantor. A foreign trust can be an effective method of asset protection if the grantor is willing to transfer genuine control to the foreign trustee and if the grantor can demonstrate that the funds in the foreign trust are not necessary to maintain his or her lifestyle. The Nevis LLC is reputed to have the best statute in the world for protecting the assets inside the LLC, even if it is a single member LLC. That should be the recommended method when the client is unwilling or unable to relinquish complete control over the assets in a foreign trust.

However, there is concern among many U.S. lawyers that a single member LLC may be disregarded by the U.S. courts and that if the member has the power to recover assets from the LLC, a U.S. judge will simply order him or her to transfer funds from the LLC to a creditor. But I’m not aware of any cases where this has happened.

Briefly describe a “success” story, that is, an asset protection plan that was threatened in some way and withstood the attack, and why. Please change names as you think fit.

To a large extent, the Anderson case was successful until the Andersons got tired of sitting in a jail cell. The Trustee (whom I know) refused to relinquish the assets as long as the Andersons were under court duress. Most of the real success stories involve people who have been sued, lost and had a judgment issued against them, but were able to negotiate a very substantial discount on the amount of the judgment. And, perhaps the most successful stories are those where a judgment creditor simply gives up and doesn’t even attempt to collect when assets are held in a foreign trust.

Briefly describe an unsuccessful story where assets were seized — this may well be the story of someone who came to you for advice after the lawsuit. Please change names as you think fit.

I haven’t provided asset formation services to any clients and therefore have not had that kind of experience.

But, I do know of three cases where a U.S. person entered into a private annuity contract with a U.S. promoter who was collaborating with the owner of a foreign corporation. The U.S. people entered into an agreement to sell a valuable asset (stock in a successful business) to the foreign buyer in exchange for a life income annuity where the payments were deferred until the retirement age of the U.S. person. In each case, the foreign buyer made endless excuses about not being able to make the payments when they became due. In all three cases, I was contacted to help the U.S. seller to recover his assets or to force the foreign buyer to comply with the contract. In each case, I referred the person to an attorney but the attorney was not able to secure any performance from the foreign buyer. In one case I ended up making a referral to a second lawyer who was able to secure a partial recovery.

If relevant, what changes did you recommend to improve the asset protection in this last case?

I inform people that they are subject to the honesty of the foreign buyer of their property and to the laws in a foreign jurisdiction and to the assistance of the judiciary in a foreign country.

However, because I am a tax accountant, I am most often asked for tax advice about various offshore arrangements and I have been able to offer suggestions as to alternative tax arrangements. The U.S. tax laws involving foreign trusts, LLCs, and foreign corporations are very complex and are very different from the laws that apply to domestic entities of the same kind. Non-compliance penalties are far more severe and the U.S. government is presently engaged in a virtual witch-hunt to locate every kind of non-compliance with respect to the disclosure of foreign investments and transactions.

As mentioned in the previous section, the implication that the funds are somehow beyond the IRS because they are in a different jurisdiction, and thus capable of being tax-sheltered, is erroneous. In addition to having to satisfy the taxation requirements of the United States, there is an additional onerous reporting requirement that is required by the IRS. The fine for not complying with this reporting of certain transactions is appreciable, at $100,000, and this requirement is too often overlooked when the apparent advantages of offshore planning are mentioned.

TRUST PROVISIONS

Consider how it is intended to work: a foreign trust is similar in formation to a domestic trust. There is the settlor, or grantor, the trustee, and the beneficiary. A fourth party, the trust protector is a kind of trust overseer, and his powers are covered later, although often it is better not to have one appointed.

If the settlor has a judgment against him, the ideal would be for him to be able to say that he does not have the assets, and that he has no way of obtaining the assets. The assets are owned by the overseas trust. The court in the United States has no jurisdiction over the foreign trust, and cannot order the trustee to repatriate the assets. Indeed, the foreign trustee has a duty to the beneficiaries to not allow the assets to pass to a creditor, as they could be sued in the foreign country by the beneficiaries for doing this, and could even lose their license to act as a trust company.

In a similar way to the domestic trust, it is important that the provisions of the foreign trust are set out in writing. However, it does not have to be in a foreign language, and does not need to be signed in a foreign country. The essence of it is that it spells out, in detail, that the trust is governed in all respects by the laws of that country, and is exclusively answerable to the courts in that country, and no other. There will be an agency in the country where the trust will need to be registered, similar to the Registrar of Trusts.

Typically, a foreign trust needs to be irrevocable if it is for asset protection purposes. This is for similar reasons to the domestic trust, for if it was revocable, a judge could order the settlor to revoke it and make the assets available for creditors. If the settlor refused, he could be held in contempt, as he is fully under the laws of the United States.

In addition, the foreign trust should be discretionary, so that the trustee never has to make a distribution to a beneficiary. The trust should be written so the trustee can decide to withhold distributions for any reason that he considers advisable, which would include the circumstances that the trustee knew that the funds would be forfeited to a creditor.

One of the features included in many foreign trusts is an antiduress clause, as mentioned above. This requires the trustee to only recognize instructions or advice when he knows that it is given by people of their own free will and to ignore anything that he thinks comes out of duress, including court directives. This is an essential element, as it allows the settlor to comply with a U.S. court’s directive to try and obtain the assets without actually exposing them. The request is made, so that the settlor cannot be held in contempt of the court, but the trustee has been previously instructed and thus is bound to ignore it by reason of the duress. The trustee has no relationship to the U.S. legal system, and thus cannot be summoned or held in contempt for this action, or lack of action.

SELF-SETTLED TRUSTS

The concept of a self-settled trust is discussed in the domestic trust chapter. The self-settled trust has the settlor the same person as the beneficiary, and it provides no protection of the assets in the domestic environment, with the exception of some states that have passed specific laws modeled on the foreign trust.

While it is true that a foreign trust can be a self-settled trust, it is not recommended that the settlor is the sole beneficiary. If other beneficiaries are named, such as spouse or children, then the trustee has discretion to make distributions to these others if the settlor is under a judgment. This makes sure the assets are not required to be distributed at any time to the benefit of the creditors.

THE TRUST PROTECTOR

Many of the countries that are used for foreign trusts have their laws based in English law, and this is the reason that there can be a fourth party to the trust, called a trust protector. The trust protector sits in an overseeing position over the settlor, trustee, and beneficiaries, and is allowed to step in if he sees something going wrong with the trust’s operation. In fact, there is usually a provision that he can dismiss the trustee and appoint another if there is a reason to do so.

Other powers of the trust protector can include cutting out beneficiaries, moving the trust to another jurisdiction, and other management functions. You can see that with these powers, you have control over the assets, regardless of any other trust provisions, thus it is unwise for the settlor to also be the trust protector, as this would negate any asset protection. This was the principal problem with the Anderson’s case. They could not resign and then claim that they could not satisfy the judgment of the court, as it was totally within their ability to retrieve the assets as ordered by the court. In fact, if the only choice for a trust protector would be a U.S. citizen, it is better that you do not have one, as otherwise the trust protector would be subject to the court’s orders, and would have to exercise their powers to the great detriment of the protection that you are seeking.

CHOICE OF TRUSTEE

The role of the trustee, as you can see, is a vital one in ensuring that the trust operates as intended, particularly when threatened by lawsuits. The countries that typically are used for foreign trusts have extensively catered for the business that they are attracting, and you should find no shortage of possible candidates. The trust company must be registered and licensed as such, but this in itself does not ensure that they will work in the way that you wish. The best answer is to find a trust company by personal recommendation. You can ask your U.S. estate advisers, if they have experience of foreign trust companies, or at least you should ask prospective companies for references who you can talk to.

One question you may come across is whether you should be a co-trustee of your own foreign trust. At one time it was thought that this would work well, as having an American based trustee allowed easy access to the assets when needed, without having to send documents abroad for signature. The asset protection side would be covered by the co-trustee resigning if there was a problem looming with creditors. This was one of the factors considered in the case of the Andersons, so now the advice is usually to avoid doing it.

Another question is whether the trustee company should have an office in the United States. Again, this would provide greater convenience for operating the trust. It is true that the general operation of the trust would be made easier if there was a local office; if you have asset protection as one of your goals, though, it would be most unwise to have an American agent. Such an office could be subjected to American court orders, and held in contempt of the court if they did not comply. In effect, this would be no better than a domestic trust.

CHOICE OF COUNTRY

There are a number of countries that want to have your business, and have enacted laws that are favorable for foreign trust. Some have been around for a time, and others appear at intervals seeking to get into the market. I would advise you to stick with the countries that have a long history of accommodating trusts. If your financial adviser in this country has particular experience with a trust company, then, provided it meets all the criteria, you should consider their recommendation.

In a short list of countries to consider, the Cook Islands, Nevis, Gibraltar, Belize, Turks & Caicos, Saint Vincent, and the Grenadines are all included. Of these, Nevis has become popular recently, particularly as they also have an LLC regulation that is proving to be effective, and this is discussed later in the chapter. You should have regard to the following criteria in the selection of a country for your foreign trust.

Determine how long their statute of limitation is. The shorter time the better, as it allows less time for your creditor to organize a case to challenge a fraudulent transfer. Nevis has the shortest time, at one year.

You want to choose a country that does not recognize foreign judgments. For instance, there are treaties between many major countries that require reciprocal recognition of the judgments of the other country. This applies, for instance, between the United States and England. The treaty requires England to recognize the judgments of the United States, and for the United States to recognize English court judgments. Even if there is no formal treaty, some countries will still give some weight to a judgment under the doctrine of comity, which basically covers an understanding that the legal system makes fair decisions. These criteria rule out many foreign countries.

Having covered that issue, it is necessary that the law of the country is not disregarded by the United States as being invalid. As an example, if the United States does not accept that your foreign trust is indeed a trust, you may find that you have taxation problems.

Another factor that can arise with some countries is whether they will tax the trust’s assets or any earnings arising out of the assets. You will have to pay United States taxes where applicable, and you do not want to find that your property is subject to such controls in the country that you form your trust in.

Other factors include exchange controls that may inhibit you enjoying your funds as you intend, amount of privacy that you can expect, and whether they truly have self-settled trust and the higher standard of proof for fraudulent transfers, as mentioned above. All the countries I have named include these essentials.

Patricia Donlevy-Rosen specializes in asset planning issues, and finds that frequently offshore trusts are part of the best solution.

CASE STUDY: PATRICIA DONLEVY-ROSEN

Patricia Donlevy-Rosen, President and a Shareholder of Donlevy-Rosen & Rosen, P.A., www.ProtectYou.com, is an AV-rated Attorney practicing in Miami, and is also admitted to practice law in New York. Her firm represents clients throughout the United States in asset protection planning. Ms. Donlevy-Rosen is a frequent lecturer and author on asset protection planning and corporate and business planning subjects.

Ms. Donlevy-Rosen is the author of Asset Protection Planning, a Tax Advisors Planning Series book, published by Research Institute of America, and used by attorneys, CPAs, and estate planners researching asset protection planning issues. She is also the co-editor and publisher of The Asset Protection News and has published numerous articles in professional and academic journals. Ms. Donlevy-Rosen is a member of the Board of Advisors of the Southpac Offshore Planning Institute (SOPI), the Asset Protection Planning Committee of the Real Property, Probate and Trust Law Section and the International Law Section of the ABA, the Business Law and the Real Property, Probate and Trust Law Sections of the Florida Bar. Ms. Donlevy-Rosen has a Juris Doctor degree from New York Law School (Cum Laude) where she was Notes and Comments Editor of the Law Forum and a member of the Student Bar Association. She has a Bachelor of Arts Degree (in Economics) from Vassar College.

She can be reached at PDR09@ProtectYou.com, or at (305) 447-0061, Ext. 3.

In what way are you involved with asset protection, and does this include general estate planning, such as for tax issues?

My firm focuses on estate and business planning that always includes asset protection planning with offshore trusts.

Offshore trusts are not necessarily foreign trusts (foreign trust is a tax term, and when a trust becomes a foreign trust different tax reporting comes into play). Where the facts indicate, a client’s structure may include one or more LLCs. If the need for an LLC is to hold liquid assets, the LLC may well be formed offshore. If the need for an LLC is to hold U.S. real estate, then the LLC will be formed in the state where the real estate is located. Our planning incorporates all the gift and estate tax planning that is involved in conventional estate planning.

Do you specialize in any particular aspects of asset protection, such as foreign trusts or LLCs?

We use offshore trusts as the core of our asset protection structures. (Note, offshore trusts are not always foreign trusts. The term foreign trust is a tax term, the term offshore trust is a term of art that means a trust where at least one trustee is domiciled in a foreign jurisdiction, and the laws of a foreign jurisdiction govern the administration of said trust.) While structures set up by my firm nearly always use an offshore trust, my portion of our practice focuses on the protection of assets that cannot be physically moved into a trust. Despite the change of title on property, if the property remains in the U.S. changes or transfers in title can be undone based on fraudulent transfer or conveyance rules or other reasons. Instead, I represent our clients in removing the value or equity from their immovable/fixed/real property assets.

People are often under the impression that transferring title of their assets to a trust (domestic or offshore) will protect assets from claims. This may be true if: (a) title has been in the trust for a period longer than the applicable fraudulent transfer or fraudulent conveyance statute, (b) the settlor is not in bankruptcy, as there is now a ten year look back in bankruptcy for transfers to a trust, and (c) a U.S. court respects the transfer. With respect to an offshore trust this will be true if the asset itself can be moved by the trustee offshore before or at the critical time (when faced with a serious threat from a third party), so that no U.S. court will have jurisdiction over it.

However, assets such as equipment, real estate (including a home or office building), and accounts receivable (immovable assets) cannot be moved offshore. Therefore, if an individual were to title his immovable assets in the name of a trust, and be sued, the fact that the immovable asset is still located in the U.S. makes it vulnerable to the claims of the individual’s creditor. For example, a court may disregard the transfer, especially if there is a fraudulent transfer issue, and have the property re-deeded or re-titled in the name of the creditor. The only way to make an immovable asset unattractive to a creditor is to remove its value. Removing value, by a mortgage or lien, and placing that value (proceeds of the mortgage or loan) into an offshore trust in effect protects the immovable asset from the claims of creditors.

In your experience, do you find that a single entity or strategy is sufficient for most people, or do you commonly recommend a multi-layered structure?

In my experience, keeping it simple is the best way to protect most individuals. If the structure is simple, the client is able to understand how it works and is more inclined to keep the integrity of the structure. If an individual has sufficient wealth, an offshore trust is always the preferred core structure. The use of one trust that is properly drafted, structured, and implemented is most often sufficient. That one trust, in turn, may hold other entities in order to contain potential liabilities. Multi-layered structures may be used to confuse potential claimants, but they also confuse clients, lead to claims of piercing the corporate veil, and make the litigating attorneys richer. The single strategy that works is the use of an offshore trust.

Have you found that you have needed to change your methods in recent years, because of FTC v. Affordable Media, or to include Nevis LLCs?

In recent years, as a result of FTC v. Affordable Media, a client’s spouse can no longer serve as the trust protector. Unlike the poorly drafted trust in Affordable Media, we have never permitted our clients to be the trustee or the protector of their trusts.

The case, however, has been useful to show clients why our trust provisions restricting control are needed in order to assure protection of their assets.

Affordable Media also helped us to explain to our clients why all trusts are NOT created or drafted equally. Many offshore trust companies offer trust forms, and these are often used by U.S. lawyers who are not well-versed in offshore asset protection planning. If the particular offshore legislation permits, these forms will provide protective provisions such as a flight clause and a duress clause; however, such form language will fail to provide for the effective execution of the clauses. For example, most flight clauses provide that the trust may move to another jurisdiction, if appropriate without providing a mechanism to be certain that the flight clause can be effected under all circumstances (for example, even if an injunction has been issued). Also, most forms of duress clauses nullify the attempted exercise of any power unless exercised by the power holder of his/her own free will — again, without providing a mechanism by which the trustee can be certain that a power is being freely exercised. Usually it is only counsel with extensive experience with offshore trusts who have thought out and provided for all contingencies.

Some people have offshore trusts drafted by non-U.S. lawyers or other professionals located in the offshore jurisdiction. Although these persons may address protective clause issues, they will uniformly fail to draft a trust document providing for the optimum legal tax and estate planning under U.S. laws. For example, they rarely provide for the marital deduction or credit shelter trusts-thus, possibly resulting in gift taxes and higher than necessary estate taxes.

Briefly describe a “success” story, that is, an asset protection plan that was threatened in some way and withstood the attack, and why. Please change names as you think fit.

We have plenty of these.

One involved parents of a teenager that had an accident with the father’s car, where the mother had signed the state’s form agreeing to be responsible for the acts of the teenager. The father’s assets, the mother’s assets, and the couple’s joint assets (in this case held as tenants by the entirety) would have all been subject to the claim of the injured parties. However, the parents had recently completed their estate planning, which used an offshore trust. All the parents’ liquid assets were in the trust, their real estate interests had been stripped of any equity, and there was nothing to gain. The matter was settled for the insurance policy limits.

Another case involved a client, Aries, who was threatened by an irate ex-wife who wanted to take away his most precious possession just to emotionally hurt him — his sports memorabilia. However, the memorabilia was owned by an LLC that had borrowed against the value of the memorabilia, pledged it, and put the proceeds in Aries’ offshore trust. The court told the ex-wife there was nothing that could be done.

Felix, another client, sued by Willow for date rape. He had his assets in offshore trust, and his real estate had been stripped of equity. He settled the case for a small sum, compared to what Willow was after.

In another example, Todd earned a fortune taking Internet companies public. Before the Internet bubble burst in 2000, he transferred his profits to an offshore trust with an offshore bank account. After the bubble burst and many shareholders lost money, class actions and SEC claims followed. While the various litigations went forth Todd and his family were able to continue enjoying their luxurious lifestyle, as the offshore trustee paid all their expenses. The class actions and SEC investigations all eventually went away, either being dismissed or settled.

Briefly describe an unsuccessful story where assets were seized — this may well be the story of someone who came to you for advice after the lawsuit. Please change names as you think fit.

Susan was entering a second marriage with a small fortune from her deceased husband.

Her future husband Fred was at odds with his siblings. Susan talked to us about asset protection, then decided she didn’t need to do anything as she had nothing to do with Fred’s siblings, their dispute, and intended to keep her money separate, in accordance with their pre-nuptial agreement. When the siblings got a judgment that they could not collect from Fred, a court allowed them to garnish an account of Susan’s, an account that was easily traceable to her deceased husband. It was too late to do anything at this point.

Harry, another example, sold a business and with the profits funded an offshore trust, drafted by a reputable and esteemed firm. Years later, he separated from his wife, and was ordered to pay his wife support on a monthly basis. He did so out of his U.S. funds. When that money ran out, a U.S. court ordered him to ask the offshore trustee to make payments. Properly, the trustee refused. Harry would have been protected. However, the trust had a U.S. bank account which the wife’s attorney found out about. The funds out of that bank account were seized. An example as to why the funds need to be offshore in an institution with no U.S. connection.

If relevant, what changes did you recommend to improve the asset protection in this last case?

These were not clients for whom we did trusts, but we use their stories to show clients what can go wrong if action isn’t taken and taken properly to protect assets.

ASSET LOCATION

Just because you have settled on a certain country for your legal structure to provide the asset protection and tax position that you want, that does not mean your trust’s assets have to be in that country. All that is necessary is that the assets are titled in the trust’s name, which means that all paperwork will need to be routed through and signed by the trustee for deposits and disposals.

Perhaps you might think that it would be convenient to keep the assets in the United States. It could, but this is not a recommended location for a couple of reasons. Firstly, imagine the position of the investment company that holds your assets in the name of the trust, should they receive a court order requiring your assets to be frozen or passed over in satisfaction of a judgment. While the trust is set up so you do not have personal ownership of the assets and they should be safe, it would only take a slip up, or a junior being handed the task, for them to be seized. It is better if they are totally out of the reach of the United States judicial system.

The other reason to hold them abroad is to gain diversity in your investments. If you hold some of your assets in one or more other currencies you will automatically have your portfolio hedged against a continuing failing in the economy.

The next most obvious place to have the assets located is in the country where your trust has been established. In that way, the trustee will have easier control and be able to simply follow the trust’s requirements for distributing income and reinvesting assets. Even this may not be as safe as you would think, because of a legal precedent called the Mareva injunction, which was established in the Cook Islands in 1975, and has also been referenced and granted in other jurisdictions. The case involved a company called Mareva Compania Naviera S.A., which is where the name derives.

This applies particularly to the challenge of a fraudulent conveyance, that is, an asset relocation that is done with the intent to cheat the creditor. As I mentioned previously, even if this has been upheld in the U.S. legal system, it would have to be tried again and proved in the foreign jurisdiction for the claimant to have a legal right to seize the assets. There are obstacles to this succeeding, such as the statute of limitations which requires the case to be brought speedily, and the different criteria applied to proving the transfer was fraudulent, such as proof beyond a reasonable doubt which is required in many foreign jurisdictions.

Nonetheless, whether the fraudulent conveyance case ultimately succeeds, the Mareva injunction can be inconvenient. What would happen, and did happen in the Cook Islands, is that a local attorney would go to the court and file for a Mareva injunction. He does not have to wait until the trial, and he does not have to tell the trustee or anyone else that he is going. When the Mareva injunction is granted it instructs the trustee not to take any action that would in any way affect the ability for the creditor to gain access to the funds, should the case subsequently be proved. In other words, it puts a freeze on the trust’s assets until the case has been determined.

This means the trustee cannot relocate the assets, he cannot sign anything that changes the way they are held, and he cannot even resign. Everything stays as it is until the time that the case is proved or dismissed. How likely is the trustee to obey this instruction? Very likely, as he relies on keeping his license as a trust company for his livelihood and it has been established to be a legal action in the country in question. Incidentally, the Supreme Court of the United States established in 1999 that a similar injunction could not be granted in U.S. courts, as it departed from American principles of equity.

REAL ESTATE

You may be wondering if there is any way that a foreign trust can hold real estate for asset protection — in this case, we are particularly concerned about real estate in the United States. This would seem at best to be awkward, and in practice does not usually work out. Real estate counts as real property, which is physically related to a certain country or state; trust are better suited to protect personal property which by its nature can be located in different places.

With real property, most states have rules that require the courts to apply the laws of the property’s actual location. Whether you argue that a foreign trust holds title, the fact is that the property is under the judge’s nose, and that means he has in rem jurisdiction, a legal term meaning that he can still have some control over the asset because it is within his district. He can, for instance, simply sign over the property to the creditor on this basis.

FOREIGN BANK OR CORPORATION

It is simple to open a foreign bank account, and it sounds like a much easier proposition than forming a trust, so why would you not take this simple course? After all, the use of Swiss bank accounts, famously only identifiable by number and not by name, has long been accepted as a way to hold your wealth anonymously.

On a point of information, it is not quite as simple to open a Swiss bank account nowadays as it used to be. The minimum deposit is typically $100,000, and that prevents many people from giving it due consideration. That aside, apart from indulging in illegal activity, there is no real protection from creditors by having an account in Switzerland. The key to the Swiss success is that it routinely provides financial privacy to the rich, but that is not the same thing as asset protection.

Provided the foreign bank does not have branches in the United States, which can compromise the position, it does not have to respond to any court orders originating in the United States. It does not have any legal relationship to this country. However, if you have a bank account over which you have control, you would have to reveal it at a debtor’s exam. The debtor’s exam is when a judgment has been granted, and you are placed under oath and asked about your assets. You commit perjury if you lie about these assets. Asset protection is about placing assets so that creditors cannot legally touch them, and not necessarily about just making them hard to trace, as the debtor’s exam will cut through the obfuscation. Your Swiss bank will not respond to a court order, but you have to or be held in contempt, and put in jail.

Again, only you and the IRS would know of your bank account. You have additional paperwork to file with the IRS if you control funds worth more than $10,000 in a foreign account, and while this does not attract additional taxes, you must declare it to ensure that the IRS does not suspect that you are engaged in nefarious activities, and start an investigation. As it is, you may find that you are more likely to be selected for an audit by such diversification.

If you choose not to use a foreign bank account, then why not consider a foreign corporation to protect your assets? In respect to a normal corporation formed in a foreign country under the foreign law, this may work to some extent, but suffers from the same problem as a foreign bank account, in that you control the company and hence, its assets. In the same way as a judge has jurisdiction over you and can order you to turn over your assets from the bank account, he can make you turn over the corporations assets too, and you refuse at your peril as you will be held in contempt of court. You have introduced more complication to comply with the laws of the country and not achieved the desired effect.

NEVIS LLC

Not a foreign trust, but a limited liability company, the Nevis LLC has become an interesting prospect for asset protection in recent years. Offshore trusts have been widely used for asset protection, but it seems that the Nevis LLC may be set to overturn that old favorite, as it potentially provides more protection at a lower cost.

Nevis is a small island in the Caribbean, and has been on the foreign asset protection radar since the 1990s, when it revised its laws to become more attractive to the multibillion-dollar business opportunities. The statutes were to some extent modeled on the Delaware legislation, but sought to include as many improvements as could be devised to make it the country of choice for U.S. citizens seeking offshore asset protection.

While the Nevis LLC is modeled on the American legislation, they have taken the opportunity to include features that you simply cannot get under American laws. You have seen in the LLC chapter that an LLC is a separate legal entity and there is no personal liability for members and managers beyond a charging order remedy. You have a choice of a member-directed or an actively managed LLC, and for asset protection you would choose the latter, with a foreign manager. As always, you do not want to have enough control that you are able to forcibly repatriate the assets, as you could be directed by the court to do that.

As stated, the Nevis LLC has the charging order remedy, which mirrors that available in the United States. With a manager in control, the charging order remedy is available to creditors, but they have to prove their case in the Nevis courts. The manager will correctly ignore any such order from a foreign jurisdiction, such as the United States. Note also that Nevis has worked in some features not available in the United States to make it a more desirable option for asset protection.

For instance, the Nevis laws insist that anyone challenging a transfer to a Nevis entity, which would also include a Nevis trust, has to employ a local lawyer to argue their case. More than this, the modus operandi of many lawsuit attorneys in this country is to work on contingency. That is tempting for the plaintiff, as it means they do not have to pay the costs for a case that does not produce any reward. It is a lucrative way of working for the attorney, provided he picks his cases well, as he stands to pick up typically around half of the award. This is not allowed in Nevis; the lawyer must be directly hired and not work on contingency, making it a much more difficult proposition for the claimant.

Again, this does not mean that a member of the Nevis LLC cannot have funds released to their account. The charging order only applies to a distribution of profits or to liquidation distributions that would normally come to the member. It does not limit, for example, the payment of a salary, or of a loan from the LLC to the member. If you are wondering how you can legitimately earn a salary on a foreign corporation when you are not even in the country, consider that you are probably advising the manager on where you want the assets invested. This would make you a financial adviser for the LLC, and thus fairly claiming a salary for your expertise.

However, in certain cases, you can find that the creditor incurs a tax liability on the profits of the LLC, even when they have not been distributed, and thus a charging order remedy can be a disadvantage to the creditor. This is similar to the idea expounded in the limited trust section — you have a “profit,” even though it is not paid out, and therefore you, or the creditor in your place as this is where they have positioned themselves, is liable for taxes on that profit.

It can be a good idea to have more than one member of the LLC, and requiring that all members have to agree before the manager can be changed. In practical terms, this means the United States court cannot require you to replace the manager with one who is sympathetic to the creditor, which is otherwise a weakness that might be exploited. The manager can also be under the continued instruction of a duress clause, which requires him not to pay out if he knows that you are being forced to ask for the assets.

One additional feature of Nevis LLC asset protection is that you can transfer assets to the LLC even after you already have an existing creditor, and it will not be regarded as a fraudulent transfer. The Nevis ordinances allow this to take place if the member’s interest can be claimed to be in proportion to the amount contributed, and the rules on this are in favor of the investor. Basically the fair value argument is applied, but with some twists.

Just a few further benefits include that Nevis does not require the amount of record keeping needed for an LLC under United States law, for instance meetings are not needed, and the cost is generally less than using a foreign trust. If you are considering a Nevis LLC, you should ensure that your advisers include someone who is fully familiar with this entity.

OFFSHORE INSURANCE

The topic of offshore insurance is not one that you will find in every description of tools for asset protection and with good reason — it is only for major wealth protection, and is comparatively expensive. If you have a need for it though, there are significant tax and protection benefits.

This would be a business that makes a profit of $300,000 or more. Christopher Jarvis and David Mandell in their book Wealth Secrets of the Affluent consider that setup costs are around $100,000, and annual costs about $50,000. So you can see that the offshore insurance company is not for everyone.

Captive insurance companies (CICs) are adopted for their tax benefits as well as their asset protection abilities. They must be registered with the IRS and also licensed to write insurance in the United States, although they are formed typically in Bermuda or the British Virgin Islands, as these jurisdictions are favorable to insurance companies in terms of their laws. Arnold Goldstein in So Sue Me! estimates that more than one-third of commercial insurance is actually written by offshore CICs, with $60 billion in premiums each year, and this number is increasing. It used to be only the large companies that took on this task, but in the last few years it has been increasingly the realm of small business owners and professionals.

This is much more than just an asset protection tool. It is quite literally insurance for your business against malpractice claims and other issues for which you as a professional may find that your business is liable. As such, it is applicable if you are in a profession that would normally consider it prudent to have professional liability insurance. With the correct structure you need not be concerned that you will be left holding all the liability as though you had never taken out insurance, as it is common for your insurance company to transfer some risks to a reinsurer to avoid having risk.

The premiums that you pay to your own insurance company are tax deductible as a business expense, just as when you are using an outside company. To the extent that you are not reinsuring the risk, you would pay out minor claims from this money, again with pretax funds. The funds that are not used in this way, or for reinsurance with another company for calamitous claims, are invested and can build in a tax-free way. On the other hand, they are only liable to long-term capital gains taxes should you decide to reclaim them.

The insurance company must be established and run in accordance with the standards and requirements to enable it to be recognized by the United States; this is needed to ensure the tax benefits. The company has to be financially viable for this purpose, so that it cannot be dismissed as a sham for the purpose of asset hiding only; but other than that it can be managed quite flexibly. One way of managing it is to cover the lower payouts from your own company, and use commercial insurance with a much higher deductible to cover major claims. This commercial insurance would therefore be much more reasonably priced.

In terms of asset protection, your premiums are protected from creditors, just as if you were insuring with another company. The premiums are paid for a service, and are not available as your direct assets any more. Your professional liabilities are also covered by the protection, so that the capital, which is to cover this, will be protected. This is a case of you still having control of your assets, but not being able to be forced to repatriate them to satisfy a creditor, as they are not assets of your business that is being sued.

You can set up the insurance to provide just the items that you want. For instance, you can customize the coverage to cover legal fees for defense with any attorney you want, but to not allow the funds to be claimed by a creditor. It is your insurance company, and you can tailor the terms in any reasonable way.

In review, this is in some ways like having a fund set aside for contingencies and emergencies, but it is much more efficient. Instead of being taxed on the money that you put into the fund, you pay the premiums tax-free. Instead of having the fund subject to attack from creditors, it is protected.

Should you feel that this is a suitable vehicle for your purposes, you must make sure it is set up by experts in establishing CICs. While it has terrific potential to provide excellent asset protection and tax avoidance, it must be correctly created and maintained. You should have a review of your affairs to determine the suitability, from which you can make a valued judgment of whether the captive insurance company is for you.

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