Virginia Asset Protection Trusts: Fact or Fantasy?
Traditionally, in
Virginia and many other states, persons could not protect their assets
from the claims of creditors by putting them into a trust from which
they could benefit. For example, suppose Hapless Harry (Harry) is a
careless contractor who builds buildings that tend to fall down. Harry
could not protect himself from future claims by transferring his assets
into a trust from which he could benefit.
Recently Virginia
authorized Asset Protection Trusts (APTs) that, in some situations,
allow individuals to shield assets from creditors by using a trust from
which they can benefit. Does this sound too good to be true? Perhaps.
APTs as authorized
in Virginia come with a number of potentially significant restrictions
and limitations. These may render APTs less than desirable except in
limited situations.
To qualify as an
APT, the trust must be irrevocable and have a Virginia trustee that
maintains at least some assets and records in Virginia. In addition,
the transfer to the APT cannot be a fraudulent conveyance — that is, it
cannot be intended to delay or hinder creditors and cannot leave the
transferor unable to
pay its bills.
The most difficult
requirement is that the APT creator’s interest in the APT must be
severely limited. In essence, the creator can receive only
discretionary distributions of interest or principal, where the
discretion must be exercised solely by an unrelated trustee.
The effect of these
requirements can be substantial. First, under the Virginia law,
creditors have 5 years from any transfer to an APT to challenge the
transfer on grounds that it is a fraudulent conveyance. Suppose Harry
knows that he made a mistake on a project and expects to be sued, so
Harry transfers all of his assets to an APT that otherwise meets the
APT requirements. The effect of the transfer is to leave Harry with
virtually no assets. Harry’s creditors will have 5 years from the date
he created the APT to challenge it.
Second, Harry can
have no right to approve or veto any distributions from the APT. As
noted above, the APT must be irrevocable, meaning that Harry cannot put
assets into the APT when he is concerned about liabilities and then
withdraw them later after he retires.
Potentially,
one of the biggest hurdles facing APTs is the requirement that the
trustee who makes the discretionary distributions to the APT creator
must be “independent,” which means someone unrelated and not controlled
by the APT creator. The law specifically excludes
from being
independent trustees, spouses,
descendants, siblings, parents, employees, and entities in which the
creator controls thirty percent of the vote. Who is left?
Most likely, the
only persons that will be willing to serve as independent trustees will
be commercial Trust Companies. Therein lies another whole set of
problems.
Long gone are the
days when local banks provide trust company services. Today,
independent local banks that offer trust services are rare, and most
trust services are offered by large national or regional banks which
centralize their trust services in one location, often in a distant
location. This means dealing with a large bureaucracy reachable only by
telephone, mail, or e mail. In the case of some trust companies, this
can be an enormous inconvenience.
In any event, the
independent trustee who must approve any distributions to the APT
creator will often end up being a stranger working for a large bank in
a far off location. Is this someone Harry will want to trust to
exercise discretion over his own assets?
Even if an APT
meets all of the requirements of the Virginia law, how will other
jurisdictions treat them? On that point there is little but
uncertainty.
Suppose Harry sets
up his APT in Virginia but gets sued and held liable in the State of
Nirvana that does not recognize APTs. If the creditor in Nirvana sues
the APT trustee in Nirvana because it is also doing business there,
will the APT be effective to protect Harry’s assets from collection in
Nirvana? The answer
is unclear.
There are also
potential issues in Bankruptcy. It is possible that Bankruptcy
creditors may be able to reach any assets transferred to an APT for 10
years.
If you need help with trust or estate planning
issues, contact Newland & Associates.
Copyright 2013
Published by the law firm of Newland &
Associates, PLC
9835 Business Way
Manassas, VA 20110
Call us at (703) 330-0000 for a full range of business
law and
tax-related services.
While designed to be accurate, this publication is not intended to constitute the rendering of legal, accounting, or other professional services or to serve as a substitute for such services.
Redistribution or other commercial use of the material contained in Newland's Business Notes is expressly prohibited without the written permission of Newland & Associates, PLC.
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