Asset protection has increasingly become the subject of discussion among asset management, financial planning, and estate planning professionals as well as debtor/creditor attorneys. With an effective date of March 8, 2017 Michigan has become just the 17th state to pass legislation legalizing Domestic Asset Protection Trusts (“DAPT”).
A DAPT allows a person (the transferor), to create an irrevocable trust for his or her own benefit and to shield those assets from creditors. Prior to the enactment of Michigan’s Qualified Dispositions in Trust Act (the “Act”), an individual in Michigan that wanted to create an irrevocable trust for his own benefit had to transfer his or her assets to a self-settled trust established and administered in one of the 16 other states that permit the use of irrevocable self-settled asset protection trusts. A DAPT is designed to protect an individual’s property from the claims of future third party creditors, while at the same time maintaining a beneficial interest in the trust property. The ability to retain a beneficial interest in the trust property while maintaining protection from creditors makes a DAPT an extremely attractive planning device for many business professionals engaged in inherently risky business ventures and/or industries (i.e. physicians, real estate developers, business owners and/or entrepreneurs).
There are five (5) key features of the Act to be aware of:
1. The trustee of the DAPT must be a “Qualified Trustee”. That is a corporate trustee (authorized to conduct trust business in Michigan) or an individual, other than the transferor, residing in Michigan.
2. The transferor can retain certain rights and interests in the trust (outlined below).
3. The transferor must execute an affidavit of solvency, stating among other things, that the transfer will not render him or her insolvent, the transfer isn’t being completed with the intent to defraud a creditor, and he or she is not aware of any pending or threatened litigation, other than as may be disclosed in the affidavit.
4. Limitation on attack by creditors (outlined below).
5. The transferor cannot retain the right to amend or revoke the trust or direct that the assets of the DAPT be returned to him or her.
The transferor can retain the following rights, powers and interests:
1. The right to veto distributions from the trust.
2. The right to direct the investment decisions of the trust.
3. The power of appointment, exercisable via their Will, effective at his or her death, to appoint the assets of the trust to anyone but for his/her self, estate, creditors or the creditors of their estate.
4. The right to receive income from the trust and/or receive principal distributions from the trust at the discretion of the trustee or advisor under a discretionary or support provision.
5. The right to remove a trustee or advisor and appoint a new trustee or advisor.
6. After the transferor’s death, the qualified trustee has the power to pay the transferor’s debts, the expenses of administering the transferor’s estate, or any estate or inheritance tax imposed on or with respect to the transferor’s estate, without regard to the source of the payment.
The primary reason an individual would create a DAPT is to protect their assets from creditors. While creditors still have the ability to make a claim against property that was transferred to a DAPT under the Act, there are significant restrictions on those claims [MCL 700.1045].
The Act provides that the only way to challenge a “Qualified Disposition” is under the Uniform Fraudulent/Voidable Transfer Act. The UFTA/UVTA generally provided for a six year statute of limitations on avoidance actions, however, under the Act creditors now only have two (2) years (with a one year discovery rule for existing creditors). Under the UFTA/UVTA, the only way to challenge a DAPT transfer is to establish by clear and convincing evidence that a transfer was done with actual intent to defraud creditors.
If a creditor is successful in challenging a Qualified Disposition, the disposition may only be avoided to the extent necessary to satisfy or provide for the present value of the creditor’s claim. Technically, the transfer is not avoided but the trustee is to transfer assets to the beneficiary sufficient to satisfy an award.
Whereas prenuptial agreements have been challenged in the past, the provisions of the Act provide that so long as the DAPT was created more than 30 days prior to the marriage, the DAPT is not subject to division in the event of a divorce. Whereas a prenuptial agreement requires notice and the signature of the soon to be spouse (creating the potential for acrimony), a DAPT created more than 30 days in advance of the marriage does not require disclosure or the consent of the bride/groom.
The Act limits a creditor’s rights regarding DAPTs and qualified dispositions, however, financial institutions and other creditors may condition their extension of credit on a settlor/debtor/guarantor executing a written agreement whereby:
1. The debtor/guarantor agrees that no qualified disposition will be made without prior written approval of the creditor;
2. The debtor/guarantor is under those obligations as the creditor may require with respect to qualified dispositions; and
3. The debtor/guarantor will have a continuing or periodic obligation to disclose a qualified disposition to the creditor.
With the passage of the Michigan Qualified Dispositions in Trust Act, speaking with an attorney on how the law applies to you and your assets is a vital first step in establishing a DAPT to create the strongest possible protection for your assets.
James Sarconi is a shareholder with the firm and concentrates his practice in the areas of complex commercial litigation, banking, finance, commercial loan workouts, and the representation of creditors in bankruptcy. Jim's diverse practice history has provided him with the tools to evaluate/assess risks associated with a myriad of lending vehicles and the ability to foresee loan servicing and liquidation problems before they occur. His practice extends to real estate finance, documentation, and securitization.
Joseph Ejbeh joined the firm as a partner in the litigation group. Joseph specializes in banking litigation, complex commercial litigation, creditor's rights, municipal law, and insurance defense. Before beginning his legal career, Joseph was an officer of the U.S. Treasury, Bureau of Alcohol, Tobacco and Firearms. Joseph is active in the community and participates in numerous organizations including the Macomb County Bar Association, Michigan Trial Lawyers Association, and Detroit Metropolitan Bar Association.