Runaway jury verdicts and the ever present possibility of litigation causes many professionals and entrepreneurs to consider asset protection planning. Whether the issue is malpractice, environmental liabilities or simply dealing with the uncertainty of business, many people are concerned with losing everything they have accumulated over the years. Even if clients are unconcerned with asset protection, their legal advisers may have a duty to inform them of asset protection alternatives. One alternative is the use of a foreign asset protection trust ("FAPT" ). The following paper discusses one FAPT alternative for clients who wish to set aside a nest egg to provide for them and their family if financial catastrophe strikes; namely, the International Retirement Trust.®

The discussion of the International Retirement Trust® is placed in the context of asset protection in general, including a discussion of the fraudulent transfer laws, violation of which can result in both civil and criminal liability. In addition, the common FAPT structure, and its many weakness are discussed. The International Retirement Trust ® largely eliminates these weaknesses. One weakness of the ordinary FAPT arises when it is structured to allow the settlor to retained control of trust assets. This circumstance allows a court to order the settlor to repatriate assets from overseas and incarceration the settlor for failure to do so. This problem is highlighted by case commonly known as "Anderson," which is discussed in detail. The most important lesson of Anderson is that Settlors of FAPTs cannot retain direct or indirect control over trust assets.

A major reason that settlors want to retain control over FAPT assets is the fear of theft. Checks and balances can be created that will assure the settlor that funds will not be stolen. These checks and balances can include all or some or the following:

• Appointing an institutionalized custodian to hold certificates or other evidence of ownership;

• Requiring the investment adviser to monitor investments;

• Conducting the due diligence with regard to the foreign trustee to ensure that the trustee is reliable.

• Sparing use of a protector or committee of protectors to monitor key decisions.

Use of these checks and balances, however, should not be taken as an opportunity to give the settlor indirect control over trust assets. This kind of control will clearly render the asset protection plan ineffective and result in possible incarceration for the settlor. Instead, use of the foregoing mechanisms should be viewed as a way eliminate the possibility of misappropriation.

The fraudulent transfer laws must be considered in connection with each and every asset protection plan. In general, any transfer made to delay hinder or fraud creditor may be set aside and will subject not only the client but also the attorney to potential criminal and civil liability. In addition, for an attorney, violation of these laws constitutes an ethical lapsed for which he may be disciplined or disbarred. Although there are many factors to be taken into account in determining whether a transfer constitutes a fraudulent transfer, by far the most important factor is insolvency. For purposes of determining insolvency, assets that are unavailable to the creditor, such as exempt assets and assets that are overseas and not subject to the jurisdiction of U.S. courts are not taken into account. The other important factor in determining application of the fraudulent transfer law is whether the transfer was made with or without consideration. The presence of consideration is determined from the viewpoint of the creditor. Consequently, a transfer made for legal consideration will be treated as having been made without consideration if a creditor cannot used it to satisfy its debt.

COMMON FOREIGN ASSET PROTECTION TRUST ("FAPT") CONFIGURATIONS

There are many variations of the "FAPT." Most plans attempt to achieve two goals: (1) granting the settlor effective control over trust assets; and (2) subjecting trust assets to the jurisdiction a foreign country that protects the interest of a settlor in a trust from most creditors, even if though the trust is self-settled, i.e., where the settlor is also the beneficial. Many such plans attempt to achieve these two goals by taking the following steps:

• The settlor transfers his assets to a domestic or foreign limited partnership or LLC;

• The settlor acts as general partner of the limited partnership or manager of the LLC, and thereby controls all assets;

• Interests in the entity are transferred to the FAPT.

This structure purports to: (1) transfer legal title to a foreign jurisdiction, thereby subjecting assets to favorable foreign law, and (2) allow the settlor to retain control over the assets. Although there is some theoretical support for this result, in general, it has always been suspect. Under United States law the structure will not be recognized, since when the settlor retains control, the settlor (and not a foreign trustee) will be treated as the true owner. (There are a number of legal theories supporting these conclusion, i.e., agency, nominee and reverse piercing). The issue of settlor retained control came to light in dramatic away in the Anderson case.

ANDERSON - THE END OF WISHFUL THINKING

In Federal Trade Commission v. Affordable Media, LLC, ("Anderson") the defendants engaged in a fraudulent scheme and transferred the profits of the scheme to a pre-existing FAPT. Initially they acted as both co-trustee and as protectors. (A protector - or committee of protectors, or trust advisor, - acts as a liaison between the settlor and the trustees, often informing the trustees of the settlor's circumstances, recommending distributions and holding the power to veto certain key decisions). The trial court ordered the Andersons to repatriate the funds to the U.S. The defendants asserted that they were unable to do so since their foreign trustee declined to respond to their request. The trustee's refusal follows an "anti-duress" provision in the trust, which is designed to protect trust assets from the kind of court order issued in the Anderson case. "Impossibility" is a defense to the kind of contempt with which the Andersons were cited. To establish the impossibility defense, the contemnor has a significant burden of proof, which has been variously characterized as: establishing " 'categorically and in detail' why the debtor is unable to comply, (2) clearly establishing that he is unable to comply, and (3) proving plainly and unmistakably that compliance is impossible. Establishing impossibility may be especially rigid where the needs of the party seeking compliance are urgent. The debtor must also demonstrate that he has acted diligently and has made all reasonable efforts to comply.

The Ninth Circuit, in Anderson, noted that the standard may even be higher in the context of an asset protection plan, since courts will understandably be more skeptical. "Foreign trusts are often designed to assist the settlor in avoiding being held in contempt of a domestic court while the only feigning compliance with the court's orders." The lower court rejected the assertion of impossibility on the factual finding that the Andersons in fact had control over trust assets. Pursuant to the court's find, the Andersons went to jail. The Court of Appeals for the Ninth Circuit characterized the defendant/contemnors and their positions, as "incredible" and "astounding." Not surprisingly, it affirmed the lower court decision.

CONTROL

The Defendant/contemnors in Anderson acted as co-trustees and then resigned, and were still the protectors at the time the proceedings commenced. Under the terms of the trust, as protectors they clearly had the power to repatriate the assets from the foreign jurisdiction. Beyond the obvious facts of a case like Anderson, settlors and their counsel must be circumspect in both structuring and administering a FAPT in anticipation of the control issue. Failure to consider this crucial issue will render the asset protection plan ineffective and jail time for the settlor. An impediment to establishing an FAPT is the client fear that the offshore trustee will abscond with their funds. Accordingly, some clients deem it essential to retain control. Planning of this kind has always been dubious. The Anderson decision eliminates this wishful thinking kind of planning. Instead, the trust should be structured to minimize or eliminate the possibility of misappropriation. Under Anderson, clearly, a settlor should not act as a co-trustee or the protector, or even as a member of a committee of protectors. The suggestion that the settlor can so act and then resign, thereby asserting the impossibility defense to contempt, is unwise for at least two reasons.

First, it is simply too cute. A court would pounce on it to support a finding that the settlor has retained control. Second, it is a fraudulent transfer. For purposes of the fraudulent transfer laws, a transfer is broadly defined and includes almost any transaction that diminishes the value of the transferor's property. Consequently, this commonly suggested solution, would not only be ineffective to purge the settlor of control for purposes of favorably resolving the contempt proceeding, but could also subject him to further civil liability and possible criminal prosecution.

Finally, the Ninth Circuit made it clear that a settlor could be treated as retaining control even if he did not act as a co-trustee or protector. Consequently, avoiding control in anticipation of resolving the contempt proceeding requires more than merely not acting as protector or co-trustees.

AVOIDING PATTERNS OF CONTROL

Many FAPTs are funded with most of the settlor's assets. Under these circumstances, there is often a consistent pattern of requesting funds from the trust followed by the trustees' exercise of its discretion to make distributions. (Most FAPTs give the trustees discretion to make distributions so that, among other things, the trustees can withhold distributions if creditor problems arise). Such a pattern clearly raises a strong inference of settlor-retained control and that the exercise of the trustees' discretion is merely perfunctory rather than a considered exercise of discretion. When financial difficulty arises, and the trustees fail to exercise their discretion to make distributions, courts will have little difficulty finding the failure a mere charade.

Settlors should not transfer all of their assets to the FAPT. Any consistent pattern of distribution to the settlors other than pursuant specific terms of the trust will tend to support a finding of settlor retained control. Similarly, a consistent pattern of the settlor directing investments will raise the same inference of control. One way to eliminate this consideration is to appoint an investment advisor.

INVESTMENT ADVISOR

Appointment of an investment advisor in the trust instrument further removes the settlor from control of trust assets. Clearly, the settlor must take time to investigate the advisor. This factor was also alluded to in the Anderson decision, where the court noted the unlikelihood of a settlor transferring millions of dollars overseas without retaining some control. This negative nference can be avoided through the use of an investment advisor, especially one that specialize in offshore investments.

PURPOSE OF THE TRUST

The type on investments made is a factor closely related to the use of an investment advisor. Use of an offshore trust can enhance the settlor's investment objectives. There are unique investments unavailable to U.S. residence other than through an offshore structure. This factor may also be considered in determining the effectiveness of the FAPT.

ANDERSON DICTUM

The Anderson case is most notable for its gratuitous comments, commonly known as dictum. The Ninth Circuit's decision in Anderson simply upheld the factual finding of the district court, which will not be reversed unless it was clearly erroneous. The decision did not resolve the more interesting in issue: Does self-imposed impossibility provide a complete defense to civil [coercive] contempt where the defendant/cotemnors deliberately created a structure that was designed to frustrate of the U.S. courts and to place themselves where they are unable to comply with a court order? In this regard, the Ninth Circuit stated: "Given that these offshore trusts operate by means of frustrating domestic courts' jurisdiction, we are unsure that we would find that the Andersons' inability to comply with the district court's order is a defense to a civil contempt charge."

For the Ninth Circuit (or any other circuit) to so hold, would be contrary to long standing judicial authority issued by both the U.S. Supreme Court and the Ninth Circuit. It would be surprising, although not unprecedented, for an appellate court to decline to follow U.S. Supreme Court precedent, as well as its own precedent. Although trouble-some, it is unlikely that this dictum will be adopted.

NON-ANDERSON CONSIDERATIONS

Even in the absence of the Anderson decision, it is doubtful that a United States court would uphold the asset protection aspects of an FAPT. Although U.S. courts will often recognize laws of foreign jurisdictions, it will not do so where those laws violate the public policy of the United States or individual states. It is clear that self-settled trusts asset protection (i.e., when the settlor is also the beneficiary) violates the public policy of all jurisdictions, other than Delaware, Missouri and Alaska. Consequently, it will not be recognized. Solution: International Retirement Trust® One-way to structure a foreign asset protection plan is an International Retirement Trust.®

OVERVIEW OF INTERNATIONAL RETIREMENT TRUST®

International Retirement Trust® is designed to provide retirement benefits to the settlor. There are certain technical requirements that must be met, but, in general, it is a tax-neutral grantor trust under U.S. law. Although access to funds is generally restricted, trust assets can be used for emergencies, such as medical, educational and housing needs. Further, loans may be made, but they must be at arms-length. Distributions will be made at normal retirement, although early retirement can be provided, such as if the participant becomes disabled. An investment advisor should manage investments, and investments should be held outside the United States with companies that do not have a presence in United States. Further, investments should be those that are not otherwise available to U.S. residents. The International Retirement Trust® has a number of advantages over the ordinary FAPT, which are discussed below.

POLICY AGAINST SELF-SETTLED

There is a legal basis under U.S. law for recognizing self-settled asset protection trust where the purpose is to provide retirement. (In contrast, the ordinary FAPT clearly violates the public policy prohibition against self-settled asset protection trusts). This is significant since a key factor in determining whether the United States will recognize a foreign law is whether it is consistent with U.S. law. A number of cases have upheld state laws that render IRS qualified retirement trusts asset protected even though the trusts are self-settled. Accordingly, a foreign law that protects self settled asset protection retirement trusts should be recognized under U.S. law as well.

CONTROL-AVOIDING CONTEMPT

International Retirement Trust® assets will be held on a long-term basis. Distributions will be restricted solely for retirement purposes, unless distributions are made for emergencies purposes or for an arm's-length loan. Further, an investment manager will make investment decisions. Under these circumstances, it will be difficult for a court to find that the settlor is in control of trust assets. This lack of control will also make it difficult for a court to cite the settlor for contempt if he does not retrieve assets from the foreign jurisdiction.

The absence of control is especially important not only for purposes of avoiding a contempt citation, but also for bankruptcy purposes. A discharge in bankruptcy may be denied for failure to obey a court order, such as an order to repatriate foreign assets. Most litigators believe that these issues are theoretical since most matters are settled in order to avoid the overwhelming cost of litigation. Yet even if creditors are willing to settle, there is substantial authority that the bankruptcy court will not approve a settlement even if the creditors are willing to withdraw their claims if the policy of the bankruptcy court has been violated. Accordingly, the substantial legal basis for recognizing the asset protection aspects of an International Retirement Trust® makes it more likely that the debtor will obtain a discharge in bankruptcy if necessary.

MISCELLANEOUS CONSIDERATIONS

Providing for retirement has always been encouraged in United States. The International Retirement Trust® is consistent with this policy. Thus, the negative connotation sometimes associated with the establishment of the ordinary FAPT will not be present where an International Retirement Trust® is established.

The International Retirement Trust® may also be appropriate for pre-bankruptcy planning. Under the laws of some states, retirement plans (both IRS qualified and nonqualified) are exempt from the claims of commercial creditors. This exemption, where it is available, provides an additional layer of protection to settlors. In addition, where applicable, use of a retirement plan can also avoid application of the fraudulent transfer laws. Although most transfers made at a time when the transferor has significant creditors constitute a fraudulent transfer, an exception to this general rule applies to pre-bankruptcy planning. Under both

state and federal law debtors are allowed to convert nonexempt assets into exempt assets without violating the fraudulent transfer laws. Although the conversion is allowable and is not fraudulent per se, it may, among other things, be set-aside if it is accompanied by "extrinsic fraud," which, in general, is unsavory practices by a debtor, such as deliberately misleading a creditor. Thus, it is possible to use the International Retirement Trust® in a pre-bankruptcy planning situation, depending upon applicable state law.

SUMMARY

The International Retirement Trust® provides an effective asset protection alternative for qualified clients. It incorporates all of features required for an effective foreign asset protection plan and will not placed the settlor in and Anderson type situation where he may be incarcerated for contempt. The settlor does not retain control over trust assets and the legal structure, unlike the ordinary FAPT, is supported under U.S. law. Although an effective International Retirement Trust® requires the settlor and his advisors to meticulously structure the trust and investigate the offshore trustee and investment advisors, this effort is rewarded by having an asset protection trust that will withstand a sustained creditor assault.

Peter Spero, Esq is a Certified Specialist, Taxation Law (State Bar of California, Board of Legal Specialization) And Specializes In Tax Planning, Estate Planning, Prebankruptcy Planning, Asset Protection, Corporations and Business Planning and Transactions. Education: L.M. (Taxation) New York University (1976), J.D. Southwestern University School of Law (1973), B.S. California State University, at Los Angeles (1970)