Expanded Worldwide Planning Stories – Continuation
Asset Protection – Part 4
Our asset protection story concludes with Part 4. Our resilient entrepreneur, Janice Johansen, becomes resigned to the fate of losing her $100M profit from the sale of her business, because of an untimely accident at one of her wine shops. Our article concludes with how an EWP Asset Protection Structure could have spared Janice the agony of giving up her $100M. In our article we discuss the benefits of a Domestic Asset Protection Trust DAPT) versus an Offshore Asset Protection Trust, and how they relate to an EWP Asset Protection Structure.
Domestic Asset Protection Trust vs. Offshore Asset Protection Trust
Advisors debate which is better: a Domestic Asset Protection Trust (DAPT) or an Offshore Asset Protection Trust (OAPT). We say that they do serve a purpose for some clients, but why not adopt The EWP Da Vinci Code, and receive not only outstanding asset protection benefits, but all the six principles of EWP in one complete package?
Why bring Leonardo da Vince into this discussion? Because Leonardo said, “Simplicity is ultimate sophistication.” We have taken this as our model in implementing EWP in our PPLI asset structures. We invite you to do the same.
When you purchase an automobile, you do not ask if it has turn signals. Of course, this is a standard part of the vehicle. Today you may pay extra for an advanced guidance system (GPS), but you might be able to do without it. Asset protection does not come as an extra feature with EWP, it is part of the package, just like turn signals on a new vehicle.
As we will read, the controversial aspects of DAPTs and OAPTs arise out of public policy issues: is the use of this particular trust the best for the common good.
It is not our place to take a position on public policy issues. Our role is to assist wealthy families in their quest to implement the six principles of EWP. Asset Protection is one of these six principles, and it is achieved through the financial planning tool of life insurance.
Life insurance is considered a societal benefit. Life insurance relieves governments from providing families with the needed cash at the death of the family’s income earner. Life insurance encourages savings for retirement through the accumulation of the cash value in the policy. PPLI is a form of life insurance, and thus bypasses much of the attention that is focused on trust structures.
In terms of the actual PPLI contract, all investments are held in separate accounts in the policy, thus, they are not in the insurance company’s general account. For this reason they are not subject to the creditors of the insurance company, if the company were to become bankrupt.
When government regulators look to curb what they would term abuses of public policy: in other words, wealthy families who have gone too far in stretching tax and trust law, aggressive trust structures are a frequent target.
We now give you a brief history of DAPTs and OAPTs, and the public policy issues that raise concerns with government regulators.
According to Wikipedia:
“An asset-protection trust is any form of trust which provides for funds to be held on a discretionary basis. Such trusts are set up in an attempt to avoid or mitigate the effects of taxation, divorce and bankruptcy on the beneficiary. Such trusts are therefore frequently proscribed or limited in their effects by governments and the courts.”
What we might call the modern asset protection trust was formulated in the late 1980s, and the first jurisdiction to adopt it was in the Cook Islands. These trusts had spendthrift provisions and could be self-settled. These OAPTs had a one year fraudulent conveyance statute.
The Cook Islands legislation was soon followed by similar laws in the Cayman Islands, Belize, Nevis, the Channel Islands, the Isle of Man, and numerous other international financial centers.
In 1997, Alaska passed legislation allowing for irrevocable, discretionary, self-settled trusts. Ninety days later, Delaware followed suit, and as of this date some 16 states have passed DAPT legislation.
The controversy surrounding DAPTs and OAPTs arises from the degree to which OAPTs, in practice, often defeat deep-seated precepts of U.S. trust law. A key precept is that one ought not control and benefit from property and at the same time shield it from one’s creditors.
The underlying policy rationale for the non-enforcement of self-settled spendthrift trusts is clearly stated in A. Scott’s The Law of Trusts: “It is immaterial that in creating the trust, the settlor did not intend to defraud his creditors. It is immaterial that he was solvent at the time of the creation of the trust. It is against public policy to permit a man to tie up his own property in such a way that he can still enjoy it but can prevent his creditors from reaching it.”
For a U.S. wealthy family to form a DAPT, it is not necessary to form a trust in a jurisdiction outside the U.S., so this can make the process less expensive and time consuming. This takes us back to the old adage: “you get what you pay for.”
The greatest deficiency of DAPTs is that they are necessarily governed by U.S. law. The DAPT fails to achieve the jurisdictional separation required to fully protect the asset.
Since only a quarter of states currently have DAPT statutes, it is probable that states where litigation is taking place are those in which DAPTs are expressly prohibited as being against public policy. In a conflict-of-law analysis, it is difficult to envision any judge in a non-DAPT state agreeing to apply the laws of the DAPT state.
OAPTs are more secure for several reasons:
- A foreign trust is not subject to the jurisdiction of the U.S. courts, so a U.S. attachment order will have no effect within that foreign jurisdiction;
- Furthermore, creditors seeking to reach the assets embark on independent legal proceedings in the foreign jurisdiction in which the trust is located;
- Even a favorable foreign judgment may be a hollow victory. The creditor still may not be able to satisfy that judgment from the assets held in the trust unless she proves that the transfer to the trust constituted a fraudulent conveyance.
Part 4
Janice saw the huge, fluttering flags outside the Four Seasons Hotel a block away as she walked west down 57th Street in New York City. She was going to meet Brian. It would be his last billable time meeting with her. Janice did not like letting advisors go, but in their last phone call Brian had almost fired himself. He did not condone his shoddy legal work or excuse himself in any way. In a sense, this made it more difficult to let him go. She thought him a rare gentleman.
The bar nearest to the lobby was being remodeled, so they had to meet in the one to the rear of the check-in counter. She did not like the dark lighting, but thought the high mirror that reflected the myriad bottles of liquor a good design. It multiplied the bottles, which is just what she needed. An unknown factor to multiple her funds to pay for the future legal settlement resulting from the accident at her store.
To prepare for this meeting with Brian, she had researched the likely worst case settlement for the accident. Her online research revealed she could be responsible for Steve’s future earnings as a heart surgeon, medical expenses, plus a pain and suffering award. She quickly learned her $100M was at all at risk.
After small talk about her trip to Switzerland, Brian mentioned that she could have done some planning specifically for asset protection that might have protected her $100M settlement. She remembers Bian mentioning this in the past, but was so focused on growing her business, she always told him to bring it up some time later.
Since returning from Switzerland, she had alternated between anger at her plight and admonishing herself for engaging in ‘what ifs.’ Had the final papers for the sale of her business been concluded, her store accident would have been the new owners problem. Accidents rarely occur at the right time. The final signing occurred two weeks after the accident.
She purposely wore low heels today, so she could walk in Central Park after her meeting. She knew Central Park well and headed to North Wood, one of the most wild and untamed parts of this magnificent tribute to landscape architecture. Walking in the North Wood, Janice recalled her favorite hero in literature, Frodo Baggins of J. R. R. Tolkien’s Lord of the Rings.
Physically Frodo presented quite a contrast to this tall, slender athletic lady in her early 50s, but she reflected on the spirit of this short, squat, hairy footed creature—one of fierce determination to see a job through to the end, no matter what the cost to himself.
So what was Janice’s plan for the future?
With the uncertainty of the looming lawsuit over the accident, and at least a large portion of her $100M at risk to pay for it, she formulated the beginning of a plan.
From her triathlon experiences, she was acquainted with the world of cycling, and the small bike shops where riders purchased their bikes and accessories. She knew that these bike shops were mostly small mom and pap type operations, and they missed out on the buying power of a large organization. With her wine shops she had built a large, well-run enterprise. Why not for bike shops? A nationwide chain?
It was a beginning. But she vowed to protect her newly hatched idea with an asset protection plan that would fully protect her. This definitely had to be part of her grand plan.
She emerged from the west side of Central Park and headed to 109th Street near Riverside Drive where her apartment lay. She would go for one of her favorite runs down the Hudson River toward Battery Park. A long run. If Frodo can deliver, so can I. Why not face the uncertain future in the same spirit that brought her to the top of the world. Stay on top, she told herself. Stay on top.
The EWP Da Vinci Code Realized
Most asset protection trusts established by U.S. settlors are considered grantor trusts under U.S. income tax law, meaning that all income of the trust is reportable on the grantor’s (the settlor’s) individual income tax return. Asset-protection trusts do not, in and of themselves, offer any tax advantages under U.S. income tax law.
So why not create a trust that not only gives you asset protection, but the whole formidable array of benefits that EWP provides? To achieve this outstanding result, we suggest using an International Irrevocable Life Insurance Trust (ILIT) which owns a properly structured PPLI policy–The EWP Da Vinci Code.
The ILIT has been in use for decades; it has withstood numerous court challenges, and avoids the taint of opposing public policy that you acquire with DAPTs and OAPTs.
Regarding U.S,. tax laws, a properly designed International ILIT, governed by the law of a foreign jurisdiction, is treated virtually the same as a domestic ILIT. For wealthy U.S. families, or those families with a connection to the U.S., an International ILIT in combination with a properly structured PPLI policy is arguably the most efficient structure for the integration of tax-free investment growth, wealth transfer and asset protection.
If an EWP Structure Had Been Used….
If an EWP Structure had been used these salient features would have been of great benefit to Janice.
- Secure, rock-solid asset protection that is not an add-on benefit layered onto an existing structure, but asset protection that is an integral part of the plan, and available from the first day the EWP Structure was put in place.
- The asset protection provided by the EWP Structure would also shield Janice from capital gain taxation. In our story, we speak of her buyout as $100M. We did not calculate for capital gain tax. In 2020 for Janice at her income level, capital gain tax would be 20%, plus the Medicare Tax of 3.8%. After paying these taxes, Janice would be left with $76,200,000. If she had had an EWP Structure in place, she would have the full $100M tax-free, and in the event of her death, her heirs would receive the full amount or whatever was left at her death tax-free.
- If she so chose, Janice could begin her multi-city chain of bike shops within the existing structure with all the exceptional benefits that they already provide. Even though it would be a new business, the existing EWP Structure would support it, thus saving her valuable dollars that could be invested in the new bike shop business.
- In creating the EWP Structure, Janice would have received the proper advice that would either have funded her captive insurance company adequately, so it could support a serious claim like Steve’s accident; or, she would have had third party liability insurance in place to handle the claim, and not jeopardize the company’s assets to pay the claim.
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by Michael Malloy, CLU TEP RFC.
CEO, Founder @EWP Financial
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