By Attorney Kristin Gifford
The topic of asset protection continues to heat up for wealthy Californians and California business owners as the anti-wealth and unfriendly business legislation continues to roll out of Sacramento. California has the distinction of being ranked the second worst “hellhole” state for its litigation climate, the second worst environment for taxes and regulations, and the most litigious state for employee lawsuits. If you are a Californian and you own assets you want to keep, focusing on asset protection is not a bad idea. A Nevada Asset Protection Trust (NAPT) may be the appropriate elixir.
Nevada is consistently ranked as one of the top asset protection states, and there is ample reason for the high ranking. When you compare Nevada to other states regarding asset protection laws, Nevada consistently has better protections.
The structure of a NAPT is normally in the form of what is referred to as a self-settled trust. Seventeen states permit self-settled trusts to have asset protection qualities. California is not one of those seventeen states. The “self-settled” nature of a trust is important to many people who want an irrevocable trust for asset protection purposes without losing complete access to the assets funded into the trust.
A NAPT is a separate entity from the grantor/beneficiary under state law; therefore, your creditors cannot take assets owned by the NAPT because they are not your assets. In California, a self-settled trust such as a NAPT would not be deemed a separate entity from the grantor/beneficiary, allowing a creditor the ability to take the assets from such a trust.
While this may sound too-good-to-be-true, NAPTs are creatures of Nevada statutory law and have been for nearly twenty years. These trusts have been tested and proven to withstand attacks from creditors under statutory law and by the Nevada Supreme Court.
To capitalize its benefits, a NAPT must be drafted and operated in a specific way. First, it must comply with statutory requirements. Second, it must be operated as a separate and distinct entity. And third, it must not be funded with the intent to defraud a creditor.
A NAPT can be structured to include the same person as the grantor (creator) and a beneficiary of the trust. As such, the grantor/beneficiary can receive discretionary distributions of income and principal from the trust. The grantor/beneficiary can also serve as the Investment Trustee of the NAPT, which allows the grantor/beneficiary to manage investment decisions for the trust assets. To add an additional layer of asset protection, the NAPT can form limited liability companies (“LLCs”) and contribute investments into the various LLCs, allowing the grantor/beneficiary to have certain management responsibilities of the business activities of the LLCs.
While the grantor/beneficiary can be involved in the operation of the NAPT as explained above, the grantor cannot be in-charge of distributions to the beneficiaries. Distributions are to be made by a Distribution Trustee. The Distribution Trustee must be an independent Nevada person or entity, such as a trust company, bank, lawyer, or CPA. A family member and/or employee should not act as the Distribution Trustee.
Although a third party will be in control of the trust assts, distributions can only be made in compliance with the Trust Agreement. The Trust Agreement prohibits the Distribution Trustee from making distributions when the trustee knows the beneficiary will not receive a benefit from the distribution. For example, if a beneficiary is in the middle of a divorce proceeding, the Distribution Trustee will wait until the end of the divorce proceeding before making a distribution to that beneficiary. Otherwise, the Distribution Trustee is free to distribute as much, and as often, as the trustee deems is in the best interest of the beneficiary. If a Distribution Trustee abuses its powers, the trustee may be removed and replaced immediately.
It is important that a beneficiary of the trust cannot control the Distribution Trustee. To avoid even the appearance of the beneficiary controlling the Distribution Trustee, the NAPT should identify a Trust Protector whose sole function is to hire and fire the Distribution Trustee. This Trust Protector can be a good friend or relative. He or she has no fiduciary obligations and often is not paid for this service.
A NAPT is usually drafted to be tax neutral. Transfers to the NAPT do not trigger income tax nor gift tax. Furthermore, the NAPT does not pay income tax. All income tax generated by the NAPT’s investments flows to the individual tax return of the beneficiaries. Additionally, the beneficiaries are not taxed separately on the NAPT’s distribution. In essence, the tax position of the grantor/beneficiary does not change.
NAPTs are a great tool that we have use for many clients, each tailored to his or her specific circumstances. The fees and costs to form and maintain a NAPT vary based on the NAPTs complexity. In addition, if you hire a professional trustee, the trustee will charge an annual fee for such service. These charges could be viewed as an insurance policy premium for coverage in the form of the best asset protection trust available. By establishing a NAPT, you will receive peace of mind, knowing that your assets are insulated from unpredictable and aggressive creditors. We’re here to help so give us a call to get started.