Domestic Asset Protection Trust
What is a Domestic Asset Protection Trust?
A domestic asset protection trust is a trust established and operated by a trustee in the same jurisdiction where the settlor of the trust resides and is for the purpose of sheltering assets from being taken by judgment creditors in court proceedings. For a US person, that is a trust established in one of the US states. You have probably heard of individuals setting up asset protection trusts to keep their hard-earned money from being taken in lawsuits. Domestic asset protection trusts are in contrast to those trusts where individuals and companies use foreign trust statues and trustees shield their money and other assets from creditors.
Domestic asset protection trusts (DAPTs) are growing in popularity. DAPTs were originally created as a marketing tool to dissuade people from using Foreign Asset Protection Trusts. DAPTs are asset protection vehicles that allow you to add assets that you want to keep away from creditors. That way, if you are ever sued, there are provisions in the law such that your money can’t be touched by your legal enemies.
A DAPT can be especially helpful if you’re a business owner and want to keep your personal assets separate from your business ones. So, if you are sued, personally or a lawsuits penetrates your business and attacks you, the assets inside the trust can be protected from being taken away.
Domestic Asset Protection Trust Characteristics
A DAPT is a form of self-settled trust. It’s a type of irrevocable trust that allows you to be the beneficiary. It operates in a similar fashion to a spendthrift trust, which allows you to establish a trust for yourself so you can have full control over how the money is spent. A DAPT can be set up in certain states to protect your assets in the event of future creditor actions and lawsuits. You can use a DAPT to transfer a variety of assets, such as cash, real estate, securities and business interests.
A DAPT has these characteristics:
- The DAPT must be irrevocable and spendthrift (controlled by a trustee).
- The DAPT must have at least one resident trustee appointed.
- You must conduct some administration of the trust in the respective state.
- The roles of settlor and trustee must be performed by two separate people. One person cannot fulfill both roles.
Which States Allow Domestic Asset Protection Trusts?
Not all 50 states offer DAPTs. This type of trust is available only in 16 states as of this writing.
- Rhode Island
- South Dakota
- New Hampshire
- West Virginia
States are listed in the order in which they came into law. Alaska and Delaware were the first to allow DAPTs in 1997, while West Virginia is the latest state to allow them at the time of publication. In 2016, West Virginia became the 16th state.
Who is a Good Candidate for a Domestic Asset Protection Trust?
Not everyone needs a DAPT. Those who work in high-risk professions – such as physicians and lawyers – may want to consider a DAPT in order to protect their assets. CEOs and others with a high net worth may benefit from the asset protection that a DAPT offers.
Understanding the Waiting Period
A DAPT offers protection from creditors. However, you ideally want to set up a DAPT before you face creditor judgment. That’s because once you set up a DAPT, your assets are not immediately protected. Each state has its own statute of limitations, which can be several years or longer. Therefore, if you just found out that you’re being sued, don’t expect your asset protection to kick in right away.
When the statute of limitations ends, the trust assets can be protected from creditors. Each state recognizes pre-existing and exception creditors. Exception creditors will be able access assets based on state law. Examples of exception creditors include alimony and child support claims brought about by ex-spouses. Each state is different in how it defines exception creditors. This definition will depend on the state’s classification and public policy.
A DAPT requires some forethought. If you feel you or your business is at a high risk of getting sued in the near future, then you’ll want to set up a DAPT sooner rather than later. If your lawsuit and DAPT administration happen to coincide, the court could rule that as a fraudulent transfer. This is because you may not be able to experience the asset protection benefits of a DAPT once you have been threatened with a lawsuit. That’s not a legal move. It is best to set up your DAPT far in advance if you believe that a lawsuit may be likely.
The good news is that the fraudulent transfer standards are quite conservative. These standards may make it difficult for a creditor to prove that the transfer was actually with fraudulent intent in many jurisdictions.
Domestic Asset Protection Laws Vary State-by-State
Based on the rules of opening a DAPT, more than likely, you’ll get a DAPT based on the state in which you live. If you live in Alaska, you’ll want to opt for the Alaska DAPT. If you live in California, however, perhaps you’ll choose the Nevada DAPT, since California currently does not offer a DAPT.
However, not all DAPTs are created equal. The protections vary from state to state. Some are more debtor-friendly than others. Some have shorter waiting periods, while others have longer ones. One example is that Nevada is the only state that has no exception creditors. Therefore, even an ex-spouse looking for alimony cannot get control of these assets. There are exception creditors in other states, though. While your assets may be safe from most creditors, some may be able to access your account, especially if they can prove that setting up the DAPT was a fraudulent transfer.
Advantages of a Domestic Asset Protection Trust
You already know by now that a DAPT can protect your assets from most creditors. DAPTs can also help you avoid costly court cases. That’s because if creditors insist on attacking your assets, they will often settle out of court for a much lower amount than the debt owed. The reason for this is because litigation is so costly. The costs of pursuing your assets is a strong deterrent. It’s not worth it to most creditors, so they will work with you to settle any debts outside of the courtroom.
While a DAPT is used primarily to protect assets from creditors, it can be used for protection of non-marital assets. Money and other personal items can be placed in the trust before marriage. That way, these assets will be protected in the event of a divorce. It beats having to use a prenuptial agreement, which can be a difficult subject to bring up to a future spouse. Nobody plans for a divorce, but with a DAPT, you may be able to keep your assets protected without the emotional impact of asking for a prenup.
Disadvantages of a Domestic Asset Protection Trust
While a DAPT may be useful for wealthy individuals, it does come with a few flaws:
- The trustee must do what the court wants. The DAPT is bound by U.S. jurisdiction, which means that the trustee must follow court orders. If the trustee does not follow orders, he or she can be jailed for contempt of court. This could make the trustee subject to lawsuits. While this may be unlikely, it’s certainly something to think about when choosing to set up a DAPT and is one big reason that favors offshore trusts for asset protection.
- The “full faith and credit” clause is in play. The U.S. Constitution has a clause regarding full faith and credit. This means that each state is required to recognize the judgments of other states. There is no need to retry the case each time. The creditor simply has to register the judgment, which does not deter the creditor at all. That means you’ll still likely have creditors knocking at your door.
- Federal courts don’t follow state law. The Constitution also has a supremacy clause, which means that federal courts do not have to follow state law. This means that your DAPT could be bound by federal law, which can get messy.
- Lack of privacy. While you may think you’re keeping a big secret from your creditors by hiding your assets in a DAPT. The truth is that there really is little to no secrecy. As a resident of the U.S., you can still be subject to subpoenas and discovery orders. Plus, each state has its own procedures without regard for the rules in other states. On top of that, the federal courts follow their own rules, so the secrecy rules in each state actually become irrelevant. There are no guarantees of privacy should you decide to set up a DAPT.
Should You Get a Domestic Asset Protection Trust?
We live in sue-happy world nowadays. Frivolous lawsuits are on the rise. As a business or professional, your chances of being sued are quite high. This is especially true for physicians, who are subject to hundreds of thousands of lawsuits every year. If someone knows that you have a lot of money, they will try to sue you. Sadly, that’s the mentality of many people.
A DAPT can separate a good portion of assets and protect them from plaintiffs looking for an easy buck. It can also eliminate the need for litigation. If you have a significant amount of assets and high liability, a DAPT is worth looking into. You never know when you’ll be sued, so it can give you peace of mind.
Linsay Thomas, Technical Editor, contributing author