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What is an Offshore Asset Protection Trust?

Offshore asset protection trusts

For centuries, Americans have been using domestic trusts to protect their assets. Domestic trusts can generally keep assets out of the hands of creditors, but they can also:

  • Help you avoid probate
  • Help you save taxes
  • Direct how your wealth is used after you die
  • Provide for your support while you’re still living
  • Fund a charitable cause
  • Secure your legacy
  • Provide financial assistance to your heirs

But as helpful as they are, domestic trusts have their limitations. For example, many domestic trusts won’t let you hold foreign real estate, and most will release your assets if one of your creditors forces you into bankruptcy. This is where offshore asset protection trusts (OAPTs) can come into play.

What is an OAPT?

Offshore asset protection trusts (OAPTs) are foreign trusts that US citizens can legally establish to hold and protect their assets. Because these trusts are created offshore (outside the US), they will be governed by the laws of the foreign jurisdiction rather than the laws of the US.

What Are the Benefits of an Offshore Asset Protection Trust?

OAPTs help safeguard your assets in two different ways.

Better Asset Protection

When you establish an offshore trust, you provide another layer of security for your assets. Foreign countries with OAPT-friendly legislation will not enforce US judgments against your assets. Even in the case of US bankruptcy proceedings, your assets will be held securely in that offshore trust, and your beneficiaries will continue to benefit from them.

Privacy

The jurisdictions that are friendly to offshore trusts have stricter privacy measures than the US. This makes it more difficult for others to gather intel about your trust like its assets, income, distribution schedule, etc. If your creditors cannot prove that you have assets held in a trust, they won’t be able to make claims on those assets.

How Do You Form an Offshore Asset Protection Trust?

You should only form an OAPT with help from a lawyer who is well-practiced in drafting these types of arrangements. Your lawyer will ask you to identify the following three parties to the trust:

The Grantor

The grantor is the person who creates the trust. They transfer assets to the trust, which will hold those assets for the sole benefit of the named beneficiaries. In most cases, you will be the grantor.

The Trustee

The trustee is a person (or legal entity, like a bank) who manages the trust in accordance with the trust deed. The trustee has a fiduciary duty to the beneficiaries and must act solely in their best interests. Most offshore trusts require their trustee to be located offshore, as well.

The Beneficiary

The beneficiary (or beneficiaries) is the person or organization that benefits from the trust. The grantor is often the beneficiary in OAPTs (and in domestic asset protection trusts).

If your lawyer drafts a strong OAPT, the following will be true:

The trust will be irrevocable.

For the asset protection clauses to work, you (as the grantor) cannot have the power to reclaim those assets once you transfer them to the trust. Even if you are the beneficiary, you would only have a claim to those assets once they have been distributed to you.

The trust will have a spendthrift clause.

A spendthrift clause prevents the beneficiaries from using future distributions from the trust to secure credit. Assuming you are the beneficiary, this prevents you from assigning rights to future distributions from the trust to anyone other than yourself, which helps keep them protected from your creditors.

The trust will have an independent trustee.

To ensure adequate protection, the trustee should not be the same person as the grantor. A truly independent trustee will have no relationship to the grantor or beneficiaries. .

The trustee will have discretion to withhold payment.

This is especially important if you (as the grantor) are also the beneficiary. If your creditors come calling at any point, the trustee will be able to withhold distributions until the issue has been resolved.

What Are the Common Offshore Asset Protection Trust Jurisdictions?

You can open OAPTs in many foreign countries, but individuals seeking the most protection will commonly establish trusts in the following jurisdictions:

  • Nevis
  • St. Kitts
  • The Cook Islands
  • The Bahamas

These jurisdictions have long track records of upholding trust deeds by protecting trust assets even when a US creditor tries to lay claim to them. Absent outright fraud (and assuming your trust has been drafted appropriately), your assets should be secure in an OAPT.

What Is the Biggest Mistake When Establishing an OAPT?

Offshore trusts only work when you establish your trust before creditors come calling. If you’ve already been issued a lawsuit or sustained a judgment, the assets you transfer to a foreign trust may not be fully protected from creditors. This requires foresight and planning, so even if you aren’t sure if you’ll need one, it’s essential to talk to an expert about OAPTs (or domestic trusts) as soon as possible.

What Are the Tax Consequences of an Offshore Trust?

Offshore trusts are not tax shelters; most individuals don’t use offshore asset protection trusts for their tax benefits.

For tax purposes, OAPTs will be taxed as grantor trusts. This means that you will be taxed on all trust earnings even if those earnings haven’t yet been distributed. The IRS keeps a close eye on all international asset activity, so using OAPTs to hide or conceal your assets from the tax authorities is never a good idea.

There are many trusts to consider when planning for the next few years, sometimes decades, of your life. Should I have a revocable or irrevocable trust? Do I want a grantor or non-grantor trust? Should I establish a charitable trust  or a special needs trust? — the possibilities are nearly endless. Talk to your financial planner and tax advisor to see how you can best utilize trusts. If asset protection is top of your list, bring up offshore asset protection trusts at your next meeting and see if they can help protect your assets from creditors.

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