Asset Protection Trusts May Come to New York

One of the principal benefits of a trust is the protection it provides against the claims of the creditors of the beneficiaries.  Once assets are placed in a properly drafted trust, those assets cannot be reached by a beneficiary’s creditors unless and until there is a distribution of either principal or income to the beneficiary.  The main problem is that in New York, if the grantor is also a beneficiary of the trust this protection is generally not available to protect the assets of the grantor from the claims of the grantor’s creditors.  

The substantial concerns of professionals and business owners about financially devastating legal judgments has been a primary reason for them to create trusts for their own benefit in certain foreign jurisdictions, where creditors, as a general rule, cannot reach assets held in trust.  Remote jurisdictions, such as the Cook Islands, and the Bahamas have, over the last several decades, become havens for those seeking the protection of favorable trust rules.  

Yet, even with such havens, protection from claims of creditors has not been uniformly successful.  Determined creditors can still literally chase a grantor’s assets from one jurisdiction to another and place great pressure on the trustee in certain circumstances to force the turnover of property to satisfy claims.  

In addition, the transfer of assets from the United States to a foreign jurisdiction may have very severe income tax consequences.  So, jumping off-shore may leave the grantor with more problems than he thought he was solving.

However, some states have been confronting the asset protection problem. The “Alaska Trust Mirrors Act” which was enacted recently, allows certain self-settled trusts to be created without subjecting the trust assets to claims of the grantor’s creditors.  In addition, states such as Delaware, Missouri and Connecticut have enacted laws enabling transfers into self-titled trusts which, with restrictions, protect assets in trusts created under their laws from the claims of creditors.  The Chancery courts of the state of Delaware, for example, have a long history in dealing with the legal consequences of such trusts and could provide an immediate shelter for a person’s assets.  

New York may soon join these states.  A bill has been introduced in the New York State Assembly which establishes what is called a  “Qualified Disposition in Trust”.  The new legislation would allow transfers into trust to be protected from claims of creditors of the grantor and permit the assets to be held for the benefit of a grantor’s family members and descendants forever.   Most important, the grantor can be an eligible beneficiary of this trust.  Moreover, upon the grantor’s death, the assets of the trust would be excluded from the grantor’s estate for estate tax purposes.  

Current status: The bill was filed in the Assembly in 200, and again in later years.  Bills can have a long and tortuous history in Albany.  We cannot predict what the final details of a new law, if and when signed by the Governor, might be.  We will let you know of any progress in the legislature.  

What you can do now.  In the meantime, asset protection continues to be a major part of a comprehensive estate plan.    They are an important option in the right circumstances. Other strategies, such as the creation of family limited partnerships and limited liability companies are also part of an estate planner’s “toolbox.”  Your estate planning professional can explore with you the benefits, costs and limitations of any of these alternative strategies.

Important Bankruptcy Law Update - The 2005 Bankruptcy Law has greatly affected the effectiveness of asset protection trust.  Section 548(e) of the new law adds a separate "lookback" period for self-settled asset protection trusts and provides that if assets are transferred to either a domestic asset protection trust, foreign asset protection trust or "similar devise" within 10 years from the date of the filing of the bankruptcy petition,  the transfer may be reversed in Bankruptcy Court and the assets brought back into the debtor's estate..     

Some observations:  The 10 year "lookback" is the longest jeopardy period in any United States jurisdiction, even longer that the period provided in the Uniform Fraudulent Conveyance Act or under New York law for Fraudulent Conveyances.  (Most state limitation periods are four years or shorter.)

What is a "similar devise" under the new law?  The definition is not provided in the law and may be the subject of future litigation until the courts make clear what the term will mean. 

What the new law means is that asset protection planning must be considered at a very early stage in the career of a professional, executive or businessman, since the period has been extended so long after any transfer and included future creditors.  With the value of the asset protection trust so fundamentally restricted, a professional, businessman or executive seeking to protect his family from frivolous law suits needs to consider other vehicles and techniques to provide the needed protection he or she seeks. 

A Major Consideration for Action Now:  Transfers to self-settled trusts made prior to the effective date of the new law are not grandfathered. That is, the new law affects all trusts, present, past or in the future.  So, if you have set up a self-settled trust of any kind in the past, the terms of the trust should be reviewed to determine what remedy a present or future creditor may have against the assets of the trust.  You may not even have intended that the trust serve as an asset protection trust.  If caught by the terms of the new law, the transfer of the assets may be reversed in Bankruptcy.

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Last modified: December 27, 2007

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