What Are Domestic Asset Protection Trusts?
Domestic Asset Protection Trusts (“DAPTs”) are irrevocable trusts that can be established in states that have special laws for this very specific type of trust. DAPTs allow the settlor of the trust to serve as a discretionary beneficiary while still protecting the trust’s assets from the settlor’s creditors. In reality, DAPTs are not solely a tool for protecting your assets during divorce, but have been a way for wealthy families and individuals to shield their assets from creditors. This type of trust can be a useful tool for helping your clients protect their assets. DAPTs also allow clients to transfer property using their annual exclusion gifting to remove assets from the estate and freeze them in a trust account. This type of trust account does not require the person creating the trust to be a resident of the state where it is being established. Therefore, individuals who live in a jurisdiction without DAPTs can still benefit from this type of asset protection. DAPTs also act as an alternative for offshore trusts that in the past have been a popular asset protection strategy. There are some drawbacks to foreign trusts that leave them vulnerable. One of these is merely not having the ability to accurately predict what will happen under a foreign jurisdiction’s laws, or whether things will change rapidly due to political unrest or other issues that might be less of a concern on domestic soil.
Prenuptial Agreement: Overview
Prenuptial agreements (“prenups”) are entered into before marriage. They specifically set out what property or financial assets each spouse is entitled to in the event of divorce. Prenups are often used by a wealthy spouse to protect his or her assets, but can also be used to protect family businesses. In addition, prenups can be used to protect one party from assuming the other party’s debts, determine how property will be distributed upon death, clarify financial rights and responsibilities during marriage, and avoid long, costly divorce disputes. In most jurisdictions, if you do not have a premarital agreement, your spouse is entitled to share and receive ownership of property acquired during the marriage, receive some of your property upon death, share in any debts acquired during the marriage, and share responsibilities in managing property acquired. Prenups are privately drafted either by the individual or by the party’s attorney. The other spouse can either participate in the drafting with their soon-to-be spouse’s attorney or have an attorney review the agreement. The court does have a final review of prenups by closely analyzing them. The judge is analyzing the agreement for fairness and compliance with the state law guidelines. These agreements are matters of contract law and therefore must be valid without duress or fraud. Prenups must also be in writing to be legally valid, and both individuals must sign them voluntarily in the presence of a notary public.
Comparison:
In many instances, DAPTs offer unique, helpful benefits that may outweigh the benefits of obtaining a prenuptial agreement. One downside to prenuptial agreements is the inability to predict what will happen during the marriage and the gains or losses each person in the relationship will suffer. Therefore, this makes drafting a challenge and can lead to harm many years down the road, when the assets of the marriage or those obtained by each person are vastly different from when the client sat down with their soon-to-be ex-spouse to create this premarital contract.11 In addition to the unforeseeability of what will happen during the marriage, there can be problems with the actual terms of the premarital agreement. During the drafting phase before marriage, individuals are often in the “honeymoon” stage, which can lead your client to agree to terms or compromise on certain issues that are not actually in their best interest. While a premarital agreement is intended to protect your client in the case of a divorce, someone who is happy and in love in their soon-to-be marriage is not able to grasp the concept and the ramifications of an abrupt and traumatizing end to the marriage, either through death or divorce.
Unlike a premarital agreement that becomes a contract before marriage, a domestic asset protection trust can be set up at any time, including after the parties have married. This is beneficial to those who may not be able to think about the ramifications of divorce at the outset, but who might be in a different frame of mind several years later regarding the marriage or the potential longevity of the relationship. Your client should be aware that they should set up this type of trust before filing for divorce and before it is obvious that the relationship is headed to divorce. Asset transfers, while a divorce is pending or immediately before a divorce is filed, may lead a court to invalidate the transfer as a fraudulent transfer to intentionally shield assets to which your client’s spouse would otherwise be entitled.14 Depending on the state that the DAPT is settled in, it might provide for less liability to your former spouse than a prenuptial agreement. While it may sound like DAPT is the most beneficial option, it may be even more beneficial for individuals to have a prenuptial agreement as well. Using these asset protection tools in combination may be the best way to protect your assets from an adverse divorce judgment. This is only proper for forward-thinking individuals who seek asset protection before marriage. If only one asset protection method is used, the favored one is often a DAPT in states that allow them.
If you need help deciding between a Domestic Asset Protection Trust or a Prenuptial Agreement, you can contact us online or at 855-805-0595.
