Law Office of John S. Palmer Attorney at Law

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Asset Protection Trusts

Posted Friday, November 8, 2013 by John S. Palmer

Trusts established for legitimate estate planning purposes can protect trust assets from debts incurred by the grantor or beneficiaries. However, trusts established for the sole purpose of sheltering assets from known creditors of the grantor can backfire in a number of ways.

A few states, including Alaska, allow so-called “asset protection trusts” in which the grantor is also the primary beneficiary and the trust document states that trust assets are not liable for the debts of the grantor/beneficiary. Most states do not allow such trusts as a matter of public policy. Washington’s statute prohibiting them dates back to 1854; it is currently codified as RCW 19.36.020 and states that “all deeds of gift, all conveyances, and all transfers or assignments, verbal or written, of goods, chattels or things in action, made in trust for the use of the person making the same, shall be void as against the existing or subsequent creditors of such person….”

Additionally, Washington has enacted the Uniform Fraudulent Transfer Act. It defines when a transfer is to be deemed fraudulent with respect to the transferor’s creditors, and grants various remedies to a wronged creditor, including avoidance of the transfer or obligation to the extent necessary to satisfy the creditor’s claim, and in some cases an injunction against further disposition of an asset by the debtor or a transferee, and appointment of a receiver to take charge of the transferred asset or of other property of the transferee.

A Washington resident who establishes a self-settled asset protection trust under the laws of another state may find that these statutes still apply, and prevent the trust from sheltering assets from the grantor/beneficiary’s creditors. For example, in May the U.S. Bankruptcy Court in Tacoma ruled in In re Huber (Case No. 11-41013) that RCW 11.36.020 voided the transfer of assets by a Washington real estate developer into an asset protection trust established under Alaska law. The court applied federal “choice of law” rules to determine whether the substantive laws of Washington or Alaska should be used to determine the trust’s validity. Because it was an Alaska trust, that state’s laws would normally apply, provided that Alaska had a substantial relation to the trust and the application of its law would not “violate a strong public policy of the state with which, as to the matter at issue, the trust has its most significant relationship.. ..” After reviewing the facts, the court concluded that Washington law should apply because the trust had a substantially greater relationship with Washington than Alaska (e.g., the grantor/beneficiary lived here and almost all trust assets were located here). The court then noted that RCW 11.36.020 is an expression of Washington’s “strong public policy against self-settled asset protection trusts” and relied on that statute to void the trust.

The court also ruled that the transfers to the trust were void under Washington’s Uniform Fraudulent Transfers Act as well as federal law– specifically, 11 USC 548(e)– because there was sufficient evidence establishing that the asset transfers to the trust were made with actual intent to hinder, delay, or defraud the grantor/beneficiary’s creditors. The court noted that both the state and federal statutes applied similar factors, or “badges of fraud”, to determine fraudulent intent. With respect to the federal statute, those factors were previously cited by the Ninth Circuit Court of Appeals, which said that:

[a]mong the more common circumstantial indicia of fraudulent intent at the time of the transfer are: (1) actual or threatened litigation against the debtor; (2) a purported transfer of all or substantially all of the debtors’ property; (3) insolvency or other unmanageable indebtedness on the part of the debtor; (4) a special relationship between the debtor and the transferee; and after the transfer, (5) retention by the debtor of the property involved in the putative transfer.

The court found evidence of each of these “badges of fraud”, including the fact that the grantor knew he was in severe financial distress when he established the trust; transferred almost all of his assets into it, and did so for reasons other than legitimate estate planning; and “continued to use and enjoy the trust assets just as he did before the transfers.”

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Law Office of John S. Palmer11911 NE 1st St, Ste. B204,Bellevue, WA 98005-3056