Protect Your Family from Lawsuits with a Domestic Asset Protection Trust

Conversations with family, friends, and colleagues can sometimes wander into the topic of lawsuits, divorces, bankruptcies, and other threats that put one’s property at risk of loss to a creditor. Such conversations often leave people shaking their heads, asking what the world is coming to, and feeling vulnerable and frustrated. However, an important tool has become increasingly available to even those of modest means to protect their property from such threats at a reasonable cost and with relatively few hoops to jump through.

The Domestic Asset Protection Trust

A domestic asset protection trust (DAPT) is a legal structure into which you (in your role as the grantor or trustmaker) transfer your accounts and property such as your home, cash, stocks, or other investments. Once transferred into the DAPT, the property is legally protected from future lawsuits, divorcing spouses, bankruptcies or creditors, and similar threats. Although you have transferred these accounts and property to the trust, you can continue to enjoy the benefit of this property in the DAPT with minor limitations.

DAPTs work on the legal principle that someone cannot take away from you something that you no longer own. When you transfer ownership of your property to a DAPT, you are actually making a gift of it to the trustee (the person or entity you have chosen to manage, invest, and use the accounts and property) on behalf of the irrevocable trust. The trustee is then under a legal obligation to use this property for your benefit, or for the benefit of those you have named in the trust.

How a DAPT Works

When you create a DAPT, you sign a trust document and permanently gift some of your property into the trust. The trust is irrevocable, meaning you cannot change the trust agreement (the document that creates the trust and establishes the rules that control the trust). The trustee can make distributions to you as the grantor, thereby allowing you to continue enjoying some benefits of the property in the trust. However, the trustee in most cases needs to be an independent trustee (someone who is not related or subordinate to you or any other beneficiary and will not inherit anything from the trust) in order to preserve the asset protection properties of the trust. Still, many states allow for a grantor to be a co-trustee and exercise authority with respect to the investment decisions of the trust.

Which States Have DAPT Laws?

Currently, the following states have legislation that authorizes the creation of a DAPT: Alaska, Connecticut, Delaware, Hawaii, Indiana, Michigan, Mississippi, Missouri, Nevada, New Hampshire, Ohio, Oklahoma, Rhode Island, South Dakota, Tennessee, Utah, Virginia, West Virginia, and Wyoming.

It is important to remember that DAPT laws can vary significantly by state. Residency requirements of the grantor or trustee of a DAPT vary from state to state, as does the required connection of the grantor with the DAPT state. In some instances you can live in one state but have a DAPT in a different state. Some DAPT laws are better than others, and their effectiveness may depend upon the location of the property that you plan to gift into the trust. Given these considerations, it is critical that you speak with an experienced attorney when setting up a DAPT. Key differences in state law that can significantly impact the effectiveness of a DAPT include the following:

• how a DAPT must be set up

• who can serve as the trustee

• how much of your property can be placed in the trust

• which creditors will be blocked from reaching the trust property

• what additional powers you, as the grantor, can exercise over the trust

• how much time must pass before the property placed in a DAPT is protected from creditors

What Kind of Creditor Protection Does a DAPT Provide?

In general, a DAPT will allow you to shield accounts or property owned by the DAPT from any creditor claims that arise after the DAPT is funded and after any applicable time periods or notice requirements imposed by state law have been met. In many states, this protection can even include future claims of a current or future spouse, child, or creditor. It is important that you consult an experienced attorney regarding the protections your state’s DAPT statutes offer, as these can vary by state.

Despite the protection offered by a DAPT, some creditors will be able to reach the property owned by the DAPT regardless of which state law you use. Currently, no state’s DAPT laws allow a DAPT to be used to

• spend down or qualify a grantor or the grantor’s spouse for Medicaid eligibility;

• defeat state or federal reimbursement claims or rights of recovery for Medicaid benefits paid to the grantor or the grantor’s spouse; or

• defeat creditor claims if property is transferred to a DAPT with the intent to prevent, hinder, or delay a known or present creditor from reaching the property.

Most states’ DAPT laws also provide the following exceptions to the creditor protections:

• taxes (state and federal tax claims must still be paid from trust assets)

• family support obligations such as alimony and spousal support (state laws differ significantly on this topic)

• medical bills of a beneficiary (certain states allow access to the trust property to pay these medical bills)

Who Is Likely to Need a DAPT?

Not everyone will need a DAPT because not all people face the same kinds of risks. However, there are certain professions and circumstances for which you may want to consider using a DAPT as part of your estate planning.

• High-risk occupations. Lawsuits are increasingly common against those in certain professions, such as doctors, accountants, lawyers, real estate developers, builders, architects, and business executives. Creating a DAPT to protect a portion of your assets can be an effective shield against risks associated with lawsuits if you are in one of these occupations.

• Owning a business. Owning a business can put you at a higher risk of lawsuits. Using a DAPT can protect your home and other personal property against claims brought against your business.

• Personal injury and accidents. Unfortunately, accidents happen to everyone. Moreover, it is common today for even innocent accidents to lead to litigation and potential loss of personal wealth. A tool such as a DAPT can be a critical part of protecting your property for your family both now and in the future.

Deciding If a DAPT Is Right for You

Deciding whether to use a DAPT should not be undertaken without good legal advice. The following factors, among others, should be carefully considered with the help of a qualified estate planning attorney:

• How much of your property do you want to place in the DAPT?

• What kind of access to the trust accounts or property will you need in the future?

• Who will serve as the independent trustee responsible for making distributions to you?

• Who, besides you, will be a beneficiary of the DAPT?

• In which state will you form the DAPT?

• What types of creditors are you most concerned about, and do the relevant state’s DAPT laws protect you against such creditors?

Once you have answered these questions, you will have a much better sense of whether a DAPT is a tool that will work for you. If you have additional questions about DAPTs, please give us a call. We would love to visit with you either in person or virtually.