The Demise of Off-Shore Asset Protection Trusts

This column, in slightly different format, originally appeared in The San Francisco Examiner Newspaper, August 1, 1999

Copyright 1999 Robert L. Sommers, all rights reserved.

Introduction - The Demise of an Industry

Can you protect your assets against US lawsuits and taxes by forming an off-shore asset-protection trust ("AP Trust")? Apparently thousands of gullible Americans thought so. During the last five years, it is estimated that billions of dollars have been deposited into AP Trusts. IRS has since eliminated tax advantages and imposed stringent reporting requirements on all foreign trusts.

Now, the Ninth Circuit Court of Appeals (which governs California and several western states), has ruled against the central tenant of AP Trusts: that by transferring your assets to a AP Trust, a US court would no longer have jurisdiction over those assets.

Note: The AP Trust’s promise of protecting assets against US judgments has never been supported by US case law. In fact, every court involved with such trusts has found no asset-protection available.


Asset Protection in Theory

In theory, forming an AP Trust allows you control of your assets and supposedly shields them from potential creditors. And, because the foreign jurisdiction would not recognize a US judgment, a creditor who successfully sued you in a US court would never collect on the judgment. Consequently, you could enjoy your assets and still protect them from creditors, spouses and tax authorities.


The Plight of the Andersons

Denyse and Michael Anderson formed an AP Trust in the Cook Islands, then several years later participated in a fraudulent business venture, siphoning off millions in commissions to their AP Trust. When the Federal Trade Commission sued them in district court, they plead poverty. The court, however, ordered them to repatriate assets held in their AP Trust or be held in contempt of court for violating the court’s order.

The foreign trustee of the AP Trust, as required under the terms of the trust, refused to return the assets to the US. The Andersons then argued to the court that it was "impossible" for them to comply with its order, which, they thought, would completely excuse them. Wrong! The judge didn’t believe them and threw them in jail for contempt of court.


The Ninth Circuit Decision

The Andersons appealed to the Ninth Circuit which upheld the district court’s contempt order, holding that the Andersons formed an AP Trust expressly designed to impede and frustrate the operation of domestic courts. Consequently, raising the defense of impossibility required the Andersons to demonstrate "categorically and in detail" that it was impossible to repatriate assets.

In the AP Trust context, the court stated the Andersons had a particularly high burden of proving it was impossible for them to comply "because of the likelihood that any attempted compliance with the court’s order will be merely a charade rather than a good-faith effort to comply. Foreign trusts are often designed to assist the settlor [the person forming the trust] in avoiding being held in contempt of a domestic court while only feigning compliance with a court’s order."

The Ninth Circuit found that the so-called impossibility was self-induced, noting, "the Andersons’ inability to comply with the district court’s repatriation order is the intended result of their own conduct – their inability to comply and the foreign trustee’s refusal to comply appears to be the precise goal of the Andersons’ trust. The ‘asset protection’ aspect of these foreign trusts arises from the ability of people, such as the Andersons, to frustrate and impede United States courts by moving their assets beyond those courts’ jurisdiction."

The court upheld the use of the district court’s contempt power, noting that, "Given the nature of Andersons’ so-called ‘asset-protection’ trust, … there may be little else that a district court judge can do besides exercise its contempt powers to coerce people like the Andersons into removing obstacles they placed in the way of the court."

The Ninth Circuit left no doubt that US courts will continue to have personal jurisdiction over defendants and their assets, despite the language in AP Trusts. Those who fail to repatriate their assets under court order will be held in contempt of court, which means they'll sit in jail until they comply.

Consequently, for these trusts to work, the settlor must stop doing business in the US and move outside the country. But in that case, there would be no need for the AP Trust in the first place.


Conclusion

An AP Trust is expensive to set up and maintain, offers no tax advantages (just costly reporting requirements) and little, if any, protection against lawsuits. It originated as the product of wishful thinking and untested legal theories. Those who have one should dissolve it immediately; otherwise, they can expect no legal protection of their assets, now that the Ninth Circuit has ruled. Instead, consider a limited liability company or a corporation; both are state-sanctioned ways to conduct business and offer solid creditor protection.

 




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